Ebook Venture Capital Investment Duration In Canada And The United States
Previous research in venture capital finance has documented the relation between the duration of staged investment rounds and the degree to which monitoring is facilitated and informational asymmetry is mitigated between venture capitalists and entrepreneurial firms (Gompers, 1995). Gompers found evidence that investment rounds are shorter, and therefore monitoring is more frequent, when the entrepreneurial firm's assets are intangible, R&D is more intensive, and market-to-book ratios are higher. Moreover, the duration of investment rounds also depended on the stage of firm development, which is consistent with the idea that moral hazard and adverse selection costs are more pronounced at different stages of development (Sahlman, 1990; Macintosh, 1994; Gompers and Lerner, 1999a; Cumming, 1999a). Gompers' (1995) evidence from the duration of staged investment rounds has both supported and given rise to the majority of venture capital research indicating that the structure of venture capital investments is designed to mitigate agency costs between the venture capitalist(s) and the entrepreneurial firm (e.g., Gompers and Lerner, 1994, 1999a; Sahlman, 1990; Trester, 1998, Kaplan and Stromberg, 2000).
A second type of venture capital research has considered venture capitalists' role in mitigating agency costs between entrepreneurial firms and their new owner(s) (Gompers and Lerner, 1999a,b; Megginson and Weiss, 1990; Barry et al., 1990). This second area of venture capital research has received a comparative dearth of attention in the literature. In contrast to analyzing the duration of staged investment rounds and agency costs between venture capitalists and entrepreneurial firms (Gompers, 1995), this paper considers the role of total venture capital investment duration in mitigating agency costs between entrepreneurial firms and their new owner(s). In addition, in the spirit of Black and Gilson (1998), a comparison of evidence across Canada and the United States is provided to highlight the impact of legal and institutional features on the relation between private and public equity markets.
Most of the existing venture capital research along the dimension of mitigating agency costs between entrepreneurial firms and their new owner(s) has documented the role of venture capitalists ["VCs"] in the going-public process. Megginson and Weiss (1990) and Barry et al. (1990) show that VC backed IPOs tend to be less underpriced than their non-VC backed counterparts. Gompers and Lerner (1999a,b) further show that IPOs underwritten by an investment bank that is affiliated with the venture capital firm that financed the entrepreneurial firm do at least as well or better that their non-venture backed counterparts. Cumming and Macintosh's (1999) empirical evidence provided support for their proposition that the choice of exit vehicle (IPOs, mergers and acquisitions, secondary sales, buybacks and write-offs) is related to the desire to minimize moral hazard and informational asymmetries between the entrepreneurial firm and its new owners, and hence maximize the capital gain upon exit.
Aside from their ability to evaluate prospective investments and separate the wheat from the chaff, VCs are specialized monitors who offer investee firms valuable guidance once the investment has been made. VCs monitor and sometimes replace management, participate in strategic decisions, and offer informal advice on decisions of lesser importance. The ability to monitor is closely connected with the ability to resolve information asymmetries. It is only by virtue of a keen understanding of the enterprise and what is needed to achieve success that the VC can monitor effectively. In turn, monitoring not only addresses problems of moral hazard, but also reduces information asymmetry by resulting in enhanced information flow between the entrepreneur and the VC. VCs bring other benefits to the enterprise. Experienced VCs will have webs of contacts that assist the firm in sourcing materials and finding other sources of funding. VCs can also use their experience to help the firm find skilled lawyers, accountants, investment bankers, marketers, and other professional advisors.
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