Economic freedom and cross-border venture capital performance

We investigate the determinants of cross-border venture capital (VC) performance using a large sample of 10,205 cross-border VC investments by 1906 foreign VC firms (VCs) in 6535 domestic portfolio companies. We focus on the impact of a domestic country's economic freedom on the performance of both VC investments and portfolio companies using a probit model and the Cox hazard model. After controlling for other related factors of domestic countries, portfolio companies, VCs and the global VC market, as well as year and industry fixed effects, we find that a domestic country's economic freedom is crucial to cross-border VC performance. In particular, in a more economically free country, as measured by the raw values of, quartiles of or the ranking in the index of economic freedom (IEF), a foreign VC-backed portfolio company is more likely to pull off a successful exit through an IPO (initial public offering) or an M&A (merger and acquisition), and a foreign VC firm is likely to spend a shorter investment duration in the portfolio company. We also identify interesting evidence on the impact of many other level factors of domestic countries, portfolio companies, VCs and the global VC market on cross-border VC performance.     

Politician as venture capitalist: Politically-connected VCs and IPO activity in China

This study examines the impact of venture capitalists' (VC) political connections on their portfolio companies. Specifically, we use a manually-collected dataset of VCs' political connection to investigate the potential benefits and costs that politically-connected VCs bring to their portfolio companies. On the benefit side, we find that companies backed by politically-connected VCs are more likely to obtain IPO approval from the Chinese Securities Regulatory Commission (CSRC, China's counterpart to the SEC in the US). On the other hand, these VCs are more likely to acquire equity in the company at a significant discount and to invest shortly before the IPO application. In addition, we find that politically-connected VC-backed companies do not experience greater improvements in financial performance, corporate governance, or innovation output subsequent to receiving venture financing. Our results further show that companies backed by VCs with political connections are less mature and experience more underpricing at their IPO than non-politically-connected VC-backed companies. Finally, we find that, compared to non-politically-connected VCs, politically-connected VCs exit earlier after a company's IPO and that their portfolio companies experience greater post-IPO underperformance and performance volatility.     

Technology timing of IPOs and venture capital incubation

This paper investigates whether industry technological changes affect the timing of venture capital-backed IPOs. Venture capitalists (VCs) shorten incubation periods and take portfolio companies public when the industry exhibits high levels of technological change. This technology timing of IPOs reflects the VCs' efforts to raise future capital. In particular, during periods of greater technological change, VCs that conduct IPOs after shorter incubation periods obtain more subsequent funding. However, portfolio companies with shorter incubation periods earn fewer patents, are less likely to survive, and experience worse stock returns after their IPOs. These findings provide new insights into VCs' strategic exit decisions due to changes in the technological environment, as well as how their decisions affect the post-exit performance of their portfolio companies.     

The monitoring role of venture capital on controllers' tunneling: Evidence from China

This paper provides evidence supporting the monitoring role of venture capital (VC) in mitigating controlling shareholders' tunneling behavior. We use the staggered introduction of bullet trains in China as shocks to travel time between VCs and portfolio companies, which increases VCs' involvement in portfolio companies' governance. Using a generalized difference-in-difference design, we find that the increased VC involvement induced by the opening of a bullet train route in a city decreases affected portfolio companies' inter-corporate loans by 0.4 percentage points (pp) and the probability of a company violating capital occupation by 6.2 pp. The effect of bullet train connectivity on VC monitoring is more pronounced for companies that are located in cities where are subjected to a larger extent of bullet train connectivity, companies that experience more problematic tunneling, and companies that have looser alternative governance mechanisms. Furthermore, we provide direct evidence supporting the effect of bullet train connectivity on VC involvement by showing that VC directors participate more in the committees and board meetings. Our paper contributes to the literature by providing a plausibly causal effect of VC monitoring on the conflict between the controlling and minority shareholders.     

Whom You Know Matters: Venture Capital Networks and Investment Performance

Many financial markets are characterized by strong relationships and networks, rather than arm's‐length, spot market transactions. We examine the performance consequences of this organizational structure in the context of relationships established when VCs syndicate portfolio company investments. We find that better‐networked VC firms experience significantly better fund performance, as measured by the proportion of investments that are successfully exited through an IPO or a sale to another company. Similarly, the portfolio companies of better‐networked VCs are significantly more likely to survive to subsequent financing and eventual exit. We also provide initial evidence on the evolution of VC networks.     

Venture capital reputation and investment performance

I propose a new measure of venture capital (VC) firm reputation and analyze its performance implications on private companies. Controlling for portfolio company quality and other VC-specific factors including experience, connectedness, syndication, industry competition, exit conditions, and investment environment, I find companies backed by more reputable VCs by initial public offering (IPO) capitalization share (based on cumulative market capitalization of IPOs backed by the VC), are more likely to exit successfully, access public markets faster, and have higher asset productivity at IPOs. Further tests suggest VCs’ IPO Capitalization share effectively captures both VC screening and monitoring expertise. My findings have financial implications for limited partners and entrepreneurs regarding their VC-sorting activities.     

Connected VCs and strategic alliances: Evidence from biotech companies

We study a new channel through which portfolio companies benefit from ties among venture capitalists (VCs). By tracing individual VCs' investment and syndication histories, we show that VCs' ties improve companies' access to strategic alliance partners. While existing studies demonstrate that alliances are more frequent among companies sharing the same VC, we provide evidence that alliances are also more frequent among companies indirectly connected through VC syndication networks. In addition, our results suggest that VCs' ties mitigate asymmetric information problems that arise when alliances are formed. Finally, strategic alliances between companies from connected VCs' portfolios tend to perform well. We demonstrate that this type of alliance is associated with higher IPO chances. We also address alternative explanations and related endogeneity concerns.     

The Impact of Venture Capital Monitoring

We show that venture capitalists' (VCs) on‐site involvement with their portfolio companies leads to an increase in both innovation and the likelihood of a successful exit. We rule out selection effects by exploiting an exogenous source of variation in VC involvement: the introduction of new airline routes that reduce VCs' travel times to their existing portfolio companies. We confirm the importance of this channel by conducting a large‐scale survey of VCs, of whom almost 90% indicate that direct flights increase their interaction with their portfolio companies and management, and help them better understand companies' activities.     

Foreign VCs and venture success: Evidence from China

This paper analyzes the role of foreign VCs in driving venture success in emerging markets. We analyze a comprehensive data set of 4753 portfolio companies from China. We test whether the presence of a foreign VC increases the likelihood that a portfolio company is successfully exited. We find that the presence of a foreign VC does not per se significantly increase the likelihood of a successful exit. However, the likelihood of a successful exit increases if the foreign VC collaborates with a joint venture (JV) partner. Further, the impact of foreign VC backing depends on the nature of the VC, with foreign VCs tending to perform better when investing in late-stage companies and when they are diversified across industries. If a foreign VC successfully exits an investment, then, compared with a domestic-VC, it prefers to exit via a M&A or secondary-buyout than via an IPO, reflecting the significant lock-up periods associated with VC-backed IPOs in China, the difficulty of achieving a foreign listing, and the difficulty listing a start-up on Chinese markets.     

The size of venture capital and private equity fund portfolios

We propose a model that examines the optimal size of venture capital and private equity fund portfolios. The relationship between a VC and entrepreneurs is characterized by double-sided moral hazard, which causes the VC to trade off larger portfolios against lower values of portfolio companies. We analyze the structural relations between the VC's optimal portfolio structure and entrepreneurs' and VC's productivities, their disutilities of effort, the value of a successful project, and the required initial investment in a venture. We also test the model's predictions using a small proprietary dataset collected through a survey targeted to VC and private equity funds worldwide.     

VC investments and global exits

This paper examines exits of UK venture capital backers (VCs) from portfolio companies around the world. Mergers and acquisitions (M&A) are the most frequently used exit route for all investments, both in the UK and abroad. Exit through M&A is particularly common for investments in the UK while the probability of an exit through an initial public offering (IPO) is substantially lower for investments made in the UK than abroad. We are able to explain these country differences in terms of variations in the characteristics of VCs, portfolio companies, legal systems and market conditions. Portfolio companies backed by experienced VCs have high probabilities of exits through M&A or IPO. A successful exit is more likely when a VC syndicate includes an experienced member. The likelihood of a successful exit through M&A, IPO or management buyouts is high in countries with, and at times of, high stock market liquidity. Legal systems that provide more investor protection facilitate exits through IPO or M&A.     

Asset liquidity and venture capital investment

We examine the relationship between asset market liquidity and venture capital (VC) investment and find that it is inverted U-shaped. Asset liquidity and VC investment are positively related for low levels of asset liquidity but negatively related for higher levels of asset liquidity. We also document evidence that VC firms with more industry experience invest more in a liquid asset market than those without industry experience or with significant experience in other industries. Portfolio companies obtained their first investment in a liquid asset market are less likely to exit successfully; however, given a successful exit, they prefer to exit through mergers and acquisitions rather than going public.     

When U.S. venture capital ventures abroad

Older, more experienced and smaller U.S. venture capital firms are most probable to sacrifice proximate distance for new opportunities in foreign, and mostly mature, portfolio companies. These companies are treated differently than the domestic ones, as U.S. venture capital firms collaborate with and delegate monitoring to foreign partners, rather than stage or syndicate. Successful outcomes mostly occur in more mature, non‐hi‐tech, portfolio companies that receive more financing per round. Our results are robust to the investee country's openness and industry classification, stage of the investment and possible sample selection problems.     

IPO or SBO?: The Increasing Importance of Operational Performance for Private Equity Exits Following the Global Financial Crisis of 2007–08

The authors report the findings of their recent study of the role of portfolio company operating performance in determining the choice of exit options by private equity firms between initial public offerings (IPOs) and secondary buyouts (SBOs), and how that role may have changed since the Global Financial Crisis of 2007–2008. Virtually all studies of PE exits in all countries have found that portfolio companies that exit through IPOs tend to be larger and have higher operating returns than companies that exit through SBOs or sales to other companies. After examining the exits of PE portfolio companies based in Denmark and Sweden during the period 2003–2013, the authors report that, although general market conditions continue to be a major factor, operating performance and size have become even more important requirements for IPO exits since the crisis. And thus PE firms that fail to make operating improvements in their portfolio companies are likely to find their exit options limited.     

CARE Conference Hong Kong Polytechnic University,June 9, 2014: Equity Financing for Early‐Stage Companies in China

Many of the smaller private‐sector Chinese companies in their entrepreneurial growth stage are now being funded by Chinese venture capital (VC) and private equity (PE) firms. In contrast to western VC markets, where institutional investors such as pension funds and endowments have been the main providers of capital, in China most capital for domestic funds has come from private business owners and high net worth individuals. As relatively new players in the market who are less accustomed to entrusting their capital to fund managers for a lengthy period of time, Chinese VCs and their investors have shown a shorter investment horizon and demanded a faster return of capital and profits. In an attempt to explain this behavior, Paul Gompers and Josh Lerner of Harvard Business School have offered a “grandstanding hypothesis” that focuses on the incentives of younger, less established VCs to push their portfolio companies out into the IPO market as early as they can—and thus possibly prematurely—to establish a track record and facilitate future fundraising. This explanation is supported by the under‐performance of Chinese VC‐backed IPOs that has been documented by the author's recent research. Although they continue to offer significant opportunities for global investors, China's VC and PE markets still face many challenges. The supervisory system and legal environment need further improvement, and Chinese funds need to find a way to attract more institutional investors—a goal that can and likely will be promoted through government inducements.     

Start-up investment with scarce venture capital support

Venture capitalists, representing informed capital, screen, monitor and advise start-up entrepreneurs. The paper reports three new results on venture capital (VC) finance and the evolution of the VC industry. First, there is an optimal VC portfolio size with a trade-off between the number of companies and the value of managerial advice. Second, advice tends to be diluted when the industry expands and VC skills remain scarce in the short-run. The delayed entry of experienced VCs eventually restores the quality of advice and leads to more focused company portfolios. Third, as a welfare result, VCs tend to provide too little advisory effort and to invest in too few companies. Testable implications are also discussed.     

风险投资声誉和股价“传染”效应——来自中国上市公司立案公告的证据

本文以我国2007-2015年证监会立案调查事件为样本,研究当风险投资支持的上市公司涉嫌违规,同一风险投资所支持的其他上市公司(即关联公司)的股价是否会被“传染”。实证结果表明,有风投背景的上市公司在立案公告日有显著的负面市场反应(约-8%),并且这种负面反应会通过共同的风险投资链条“传染”给关联公司(约-1.2%)。我们还发现,风险投资机构的声誉越高,风险投资对涉嫌违规企业参与度越高,则立案调查事件对风险投资的声誉损害越严重,市场对关联上市公司的惩罚也越严重。     

Coaches or Speculators? The Role and Impact of Venture Capital on Executive Compensation in Chinese Listed Companies

In this paper, we utilize a panel dataset that covers 1245 listed companies which accomplished their IPO during 2006 to 2014 in China to investigate the impact of venture capital (VC) firms on executive compensation, equity incentive and pay-performance-sensitivity. We make several key findings: First, we find the presence of VCs can significantly raise the executive compensation. Second, high reputation VCs and private VCs increases the likelihood of granting executive equity incentives, whereas foreign VCs are significantly negatively related with executive equity incentive. Third, the pay-performance sensitivity of government VCs and foreign VCs is significant on stock return (RET) whereas insignificant on accounting performance (ROA). Moreover, the increasing VCs share in portfolio companies enhance the pay performance sensitivity on RET. Our results show that before VCs final exiting their post-IPO portfolio companies in China, VCs’ impact on executive compensation are more consistent with grandstanding theories and intending to provide higher cash compensation to encourage executives to raise the companies’ stock price, which is indicating VCs’ changing role from a coach into a speculator after the portfolio companies’ IPO.     

Local bias in venture capital investments

This paper examines local bias in the context of venture capital (VC) investments. Based on a sample of U.S. VC investments between 1980 and June 2009, we find more reputable VCs (older, larger, more experienced, and with stronger IPO track record) and VCs with broader networks exhibit less local bias. Staging and specialization in technology industries increase VCs' local bias. We also find that the VC exhibits stronger local bias when it acts as the lead VC and when it is investing alone. Finally, we show that distance matters for the eventual performance of VC investments.     

GOLBALIZATION, CORPORATE FINANCE, AND THE COST OF CAPITAL

International financial markets are progressively becoming one huge, integrated, global capital market—a development that is contributing to higher stock prices in developed as well as developing economies. For companies that are large and visible enough to attract global investors, having a global shareholder base means having a lower cost of capital and hence a greater equity value for two main reasons: First, because the risks of equity are shared among more investors with different portfolio exposures and hence a different “appetite” for bearing certain risks, equity market risk premiums should fall for all companies in countries with access to global markets. Although the largest reductions in cost of capital resulting from globalization will be experienced by companies in liberalizing economies that are gaining access to the global markets for the first time, risk premiums can also be expected to fall for firms in long-integrated markets as well. Second, when firms in countries with less-developed capital markets raise capital in the public markets of countries (like the U.S.) with highly developed markets, they get more than lower-cost capital; they also import at least aspects of the corporate governance systems that prevail in those markets. For companies accustomed to less-developed markets, raising capital overseas is likely to mean that more sophisticated investors, armed with more advanced technologies, will participate in monitoring their performance and management. And, in a virtuous cycle, more effective monitoring increases investor confidence in the future performance of those companies and so improves the terms on which they raise capital. Besides reducing market risk premiums and improving corporate governance, globalization also affects the systematic risk, or “beta,” of individual companies. In global markets, the beta of a firm's equity depends on how the stock contributes to the volatility not of the home market portfolio, but of the world market portfolio. For companies with access to global capital markets whose profitability is tied more closely to the local than to the global economy, use of the traditional Capital Asset Pricing Model (CAPM) will overstate the cost of capital because risks that are not diversifiable within a national economy can be diversified by holding a global portfolio. Thus, to reflect the new reality of a globally determined cost of capital, all companies with access to global markets should consider using a global CAPM that views a company as part of the global portfolio of stocks. In making this argument, the article reviews the growing body of academic studies that provide evidence of the predictive power of the global CAPM as well as the reduction in world risk premiums.