Unicorns aren't just popular among little kids. On Wall Street you'll hear mention of a different type of unicorn: That is, a privately held start-up company that's valued at more than $1 billion. If and when these companies transition to public entities, that distinction fades and becomes less notable.
Last year was a busy one for "unicorn" companies to transition from private to public, with companies including Uber, Lyft, and Pinterest debuting on the New York Stock Exchange and Nasdaq. And there's speculation about what companies will go public in 2020.
According to data compiled by TechCrunch, there are currently more than 550 privately held companies worldwide with valuations in excess of $1 billion. This list of unicorns includes companies like Juul, Airbnb, and The We Company, better known as WeWork.
Here's what you need to know about unicorns, and why investors care so much about them.
The term "unicorn" establishes that a start-up achieved a billion-dollar valuation; otherwise, though, unicorns aren't really different from most start-ups. Identifying companies as unicorns first became mainstream in 2013, when venture capitalist Aileen Lee coined the term. She also called Facebook, Google, and Amazon the "super-unicorns" of the past two decades because they achieved values in excess of $100 billion.
Facebook, which went public in 2012, was one of the five biggest initial public offerings (IPOs) of the 2010s, a decade that saw unicorns captivate the attention of investors on and off Wall Street.
Back in 2013 when Lee coined the term, the San Francisco Bay Area was home to the vast majority of these companies. Today, TechCrunch tracks unicorns all over the world. They span a wide variety of industries, too, although more than half fall under the categories of commerce and shopping, consumer internet, financial services, health care, software, and transportation.
Unicorns are typically popular with venture capitalists, who offer a type of financing that focuses on investing in start-ups that have high growth prospects. And by attracting money from these investors, these companies can continue to expand rapidly.
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How big of a deal is a $1 billion valuation? For context, that's much smaller than the companies in the S&P 500. The members of this index have market capitalizations (a measure of value calculated by multiplying a company's shares by its current stock price) in the range of about $4.6 billion to more than $1 trillion.
And a $1 billion valuation just barely qualifies a company to be a member of a commonly cited benchmark for mid-cap stocks, the S&P MidCap 400 Index. Examples of publicly traded companies with valuations in the $1 billion range include Tanger Factory Outlet Centers, 1-800-Flowers.com, and Denny's.
Investors closely track companies that have achieved the $1 billion valuation because they are fast-growing and may be considered to be "disruptors," with innovations that are changing the world or could unseat corporate giants. However, only a select group of investors (like venture capitalists) can invest in a private company, and their stocks aren't available to the general public.
That leads to speculation about when unicorns will make the transition from private to public. Once these companies debut on stock exchanges, everyday investors can buy shares.
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More broadly, investing in the fastest-growing companies is a popular strategy on Wall Street. Investors may knowingly pay a premium to buy shares of these stocks because they expect the stocks will continue to outperform the broader market.
It can be alluring to invest in newly public companies that appear to be rapidly growing, but these stocks can be especially turbulent in the first few years of trading. Even among the five biggest IPOs of the past decade, all of these stocks experienced periods of bumpy performance when they fell below their initial trading prices.
A recent UBS analysis based on data from a University of Florida professor found that most investments in newly public companies lose investors money after five years.
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Instead, a more reliable investment strategy is to buy an index fund that tracks a major market benchmark, like the S&P 500. This index has delivered average historical annualized returns of about 10%, and the last 10 years were remarkable for the market as a whole.
Rather than trying to make a quick buck on a risky investment, it's smart to focus on the long term. Experts recommend building a portfolio made up of a diversified mix of stocks that tracks the market, because this is generally a much safer bet than investing in individual stocks, regularly adding money and sticking with your investments over time.
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