This is a question posed by academics Martin Kenney and John Zusman. The two have authored a paper titled “Unicorns, Cheshire Cats, and the New Dilemmas of Entrepreneurial Finance.” The use of the phrase ‘Cheshire Cat’ comes to prominence shortly.
Central to the paper is a discussion about the stability of unicorns, which by their definition are all privately held, and how robust they are if there was to be an economic downturn similar to the dot com crash of ten years ago.
The paper draws parallels with previous technology booms and the fragility of many companies. While plenty of these unicorns are worth colossal sums (with Toutiao (Bytedance) at the top, currently valued at $75 billion), few make any money. Even the second biggest unicorn – and perhaps the most far reaching – Uber, has yet to make a profit (as the Financial Times states “Uber is the most lossmaking private company in tech history”). What sustains unicorns is the high level of capital provided by investors who are expecting big paybacks when the unicorn becomes public.
Unicorns, as with many startups, are very disruptive, often taken on established companies and shaking them up and even driving some more traditional firms under by undercutting their prices or with offering seemingly better service. While this competition can be good for the economy, it could do more harm than good if a unicorn collapses under the weight of financial speculation.
Market conditions have led to an easy way in for startups, fuelled by lower entry costs, increased speed to be ready with a product or service, and ease of market entry due to ready availability of open source software, digital platforms and cloud computing. This easier way of getting established does not mean profitability and it does not mean that a startup will necessarily reach the stage where it can launch an initial public offering (IPO). This is due to a weakness at the heart of the unicorn (and general startup) economic model: the valuations of such companies have increased remarkably, yet many of the firms remain unprofitable, which means either long-delays and uncertainty in becoming profitable or it means the IPO process will never be initiated. Either way, at some point, the investment fund could dry up.
Not only does the paper make reference to the inflated value of many unicorns it questions their legacy should they go under. With the previous dot com crash, while many companies went under, one of the consequences was to leave behind what John Naughton writing in The Guardian describes as a “colossal fibre-optic communications infrastructure that had been built at the height of the frenzy.”
The current unicorns, however, will not leave anything of consequence behind if they go under, which is why the paper by Kenney and Zusman draw on an Alice in Wonderland analogy. They point out that when the unicorn bubble bursts, as they predict it will, all that will be left behind is a Cheshire Cat’s grin. They argue for a different model for funding promising startups, one that it not based on speculative processes that overly inflate yet-to-be-profitable firms.
