NEW YORK – As bigger-than-ever, billion-dollar tech start-ups continue to grow and become a symbol of potential success for Silicon Valley, research from Columbia Business School shows that the venture-capital (VC) firms funding them early in development have an outsized impact on the future. Researchers tracked almost 11,000 U.S. start-ups backed by venture-capital (VC) firms to find that a VC’s co-investment history can be highly influential on the path a start-up will pursue: when a VC has often worked with a group of VC partners before, the companies they fund together are more likely to follow a path toward an acquisition; but when a company’s VC funders have little prior experience working together, the start-up is more likely to head towards an IPO.
“Start-ups are seen as uncertain ventures, and early-stage funding in particular is crucial but often challenging to secure. But this research brings insight and a level of certainty to an otherwise uncertain process,” said Dan Wang, Associate Professor of Business at Columbia Business School. “While early entrepreneurs may not always have a variety of funding offers to court and choose from, there is now clear evidence that those first decisions have huge disproportionate impacts on their future. It’s thus worth entrepreneurs spending a bit of extra time on due diligence to consider how the source of their backing matches their future goals.”
Published in Academy of Management Journal, the study The Past Is Prologue? Venture-Capital Syndicates’ Collaborative Experience and Start-Up Exits is co-authored by University of Washington’s Emily Cox Pahnke and Harvard University’s Rory McDonald. Using data from company insight database Crunchbase, researchers isolated and analyzed 71,624 rounds of funding, involving 42,027 new ventures and 20,142 investors, between 1982 and July 2014. Focusing on 10,879 U.S.-based start-ups, the researchers exclusively examined the impacts of their first round of funding to look at the likelihood that a venture-backed start-up will experience either an IPO or an acquisition exit.
- Similar mindsets from prior co-investment lead start-ups to acquisition: A VC group that has repeatedly collaborated is likely to work well together, sharing knowledge quickly and boasting a common understanding about how to guide start-ups towards success. In wanting to repeat prior success, they can rely on trusted connections and proven playbooks to guide a company towards an acquisition. Thus, taking a safer approach to a more likely guaranteed return on their investment, in likely a quicker timeline as many of these acquisitions happened within four years.
- Varying perspectives chart a course for IPO: In contrast to the cohesive approach, networks with less prior collaboration expose organizations to more diverse ideas and social ties. By providing start-ups a wider range of guidance and resources, VC groups with less co-investment experience with one another increase the likelihood that a company will adopt strategies that create value across audiences and markets, priming them for success via an IPO.
- Success is not guaranteed: Although VC syndicates with less shared co-investment experience seem better poised to take a start-up public because they offer access to more diverse resources, the challenges involved in learning to work and coordinate together may also create complications that lead to an increased likelihood of failure or bankruptcy. So, while highly-prized, investment from a VC may be a considerable risk even for generously-backed start-ups.
- Broader business application: While the research focused on start-up venture funding, its findings are applicable to a variety of similar ventures from film and theatre productions to research institutions and biotech firms – all of these efforts can be similarly influenced by the prior collaborations of its partners.
To learn more about the cutting-edge research being conducted at Columbia Business School, please visit www.gsb.columbia.edu.
About the researcher
Dan Wang is Associate Professor of Business and (by courtesy) Sociology at Columbia Business School. He teaches the core EMBA and MBA Strategy...Read more.