Venture Capital and the Professionalization of Start-Up Firms: Empirical Evidence
Background: Beginning with the review of the traditional financial intermediation theory which focus on information-based roles of financial intermediaries, dealing with the alleviation of moral hazard or adverse selection. The previous literature focused mostly on larger, more established companies that were publicly listed, or that are in the process of listing or delisting. The author set out to empirically examine whether venture capitalists play a role in the professionalization of start-up companies by using a unique hand-collected data set of over 170 young high-technology firms in Silicon Valley.
Conclusion: The author found that venture capital is related to a variety of professionalization measures, such as human resource policies, the adoption of stock option plans, and the hiring of a marketing VP. Venture-capital-backed companies are also more likely and faster to replace the founder with an outside CEO, both in situations that appear adversarial and those mutually agreed to.
Contribution: The paper is of interest to the growing literature on the theory of firm, providing evidence on a question that has received surprisingly little attention so far, namely the process by which resources are put together into a new firm. The paper contributes to the large literature on corporate governance, which has tended to focus on large, public companies. In contrast, our analysis shows that the effect of venture capitalists in corporate governance is important particularly when companies are still private. So we need to recognize that investors may gather information not merely about firms, but also for firms.
Future research: To what extent do other financial intermediaries, especially banks, provide similar support functions? And to what extent does this depend on the economic environment (e.g., whether banks can or cannot hold equity)?
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