In our new series, Research Recap, we’re giving you the need-to-knows from the mountain of dense scholarly articles and industry research surrounding venture capital. The kind of stuff no one wants to read, even if they have the time. Today, we’re focusing on a 2015 study published in the The Journal of Finance: “The Impact of Venture Capital Monitoring”.
Researchers set out to study whether venture capital firms have any direct influence on the success and innovation of portfolio companies. The counterargument here is that VCs excel at identifying companies already on track to innovate and succeed.
The study confirmed that on-site involvement with portfolio companies increases innovation and the chances of a successful exit.
- Scale: the number of successful patent applications.
- Quality: the number of citations their patents received.
Note: the measurement above relates to the diffusion of innovation.
- Variable 1: coefficient equals “one” if they went public (relative to a given year).
- Variable 2: coefficient equals “one” if the company (a) went public, or (b) was acquired.
Finally, the team used an economic framework known as a “difference-in-differences estimation” to translate their findings into simple percentages.
Given the assumption (justified by the survey) that the availability of direct flights between venture capital firms and their portfolio company leads to increase in VC monitoring, researchers observed the following:
- 3.1% increase in portfolio company patents
- 5.8% increase in citations per patent
- 1.0% chance of going public
- 1.4% chance of an exit via IPO or acquisition
Also worth noting; prior research indicates that one additional citation per patent, on average, increases a company’s market value by 3%. Ultimately, the direct influence of VC monitoring on success and innovation throughout their portfolio was found to be small, but substantive nonetheless.
In a perfect world, VCs would have the luxury of direct flights connecting them to portfolio companies. Absent that, the right tools can strengthen communication and understanding between a venture capital firm and its portfolio. A clear understanding of interests and objectives, in tandem with powerful performance monitoring and modeling capabilities, can inform strategies and guide decision-making in both camps.
Bernstein, S., Giroud, X., & Townsend, R. R. (2016). The impact of venture capital monitoring. The Journal of Finance, 71(4), 1591-1622.