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An Anonymous Coward writes:

A "unicorn" is Silicon Valley jargon for a pre-IPO startup with a valuation of 1 billion USD or more. Once a rarity (hence the name), there are now quite a few unicorns; the Silicon Valley law firm Fenwick & West has just concluded an examination of recent investment deals involving 37 of these hotshot companies. Fenwick & West noted that every deal, without exception, contained contract provisions of "liquidity preference" for the investors; i.e., in the event of liquidation, the new investors would recover their stake before common stockholders and (in some cases) before earlier investors as well.

Re/code's Arik Hesseldahl helps break down Fenwick & West's analysis for the benefit of those of us who haven't taken a crash course in pre-IPO financing. It turns out that the huge valuations, which probably do a lot (in the short term) for the egos and aspirations of the founders and employees, come with a catch; the deals that authorized those valuations were designed to minimize downside risk to the new investors. But that often means that the founders, rank-and-file employees - and angel investors only get their dream paydays if and when everything goes right.

For an even more graphic (though lengthier) explanation, venture capitalist Heidi Roizen posted a parable of a founder (note: fictional) whose startup was an almost instant hit, expanding rapidly with the help of several waves of venture investments. Then the company hit a wall of the type that many startups eventually run into, even the most successful ones. But because the investment deals contained "boilerplate" language for liquidity preferences and other terms protecting each successive investor from downside risk, the founder walked away with nothing.