Research on the composition and structure of the board of directors is a thriving subject in the aftermath of the financial crisis. The discussion thus far has assumed that finding the right board members is extremely important because they tend to enhance corporate strategy and decision-making. Consider the case of Apple’s board. Following Steve Jobs’ return to the firm in 1997, he understood well the important role of the board of directors to both improve company productivity and build relationships with its suppliers and customers. In order for the board of directors to become a competitive advantage and help carry Apple forward, its members needed to have a thorough understanding of the computer industry and the firm’s products. Accordingly, a change in the composition of the board of directors was arguably a necessary first step to bring back focus, relevance and interaction (with the outside world) to the company in its journey to introduce disruptive innovations and creative products to its customers. The result was impressive: Between August 6th, 1997 (the day the “new” board was introduced) and August 23rd, 2011 (the last day of Jobs as the CEO of Apple), the stock price soared from $25.25 to $360.30, increasing 1,327 per cent.
Posts Tagged ‘Venture capital firms’
On August 16, 2013, the Delaware Court of Chancery issued a much-anticipated post-trial decision in In Re Trados Incorporated Shareholder Litigation, holding that the sale of Trados to SDL was entirely fair to the Trados common stockholders and that the Trados directors had not breached their fiduciary duties in approving the transaction.  The case involved a common fact pattern: the sale of a venture-backed company where (1) the holders of preferred stock, with designees on the board, receive all of the proceeds but less than their full liquidation preference, (2) the common stockholders receive nothing, and (3) members of management receive payments under a management incentive plan.
In Q2 2013, up rounds (including several second-stage seed financings) as a percentage of total deals increased modestly compared with Q1 2013. While pre-money valuations remained strong for both venture-led and angel Series A deals that had closings in Q2, valuations of companies doing Series B and later rounds declined significantly. Median amounts raised increased modestly for angel-backed Series A deals but fell for venture-backed companies, while amounts raised increased for Series B deals, but fell for Series C and later rounds.
Deal terms remained broadly similar in 1H 2013 as compared with 2012, with a couple of notable exceptions. First, the use of uncapped participation rights in both up and down rounds continued to decline. Second, down rounds also saw a shift away from the use of senior liquidation preferences.
Up and Down Rounds
Up rounds represented 67% of all new financings in Q2 2013, an increase from 60% in Q1 2013 but still down markedly from the 76% figure for up rounds in Q4 2012. Similarly, down rounds as a percentage of total deals declined from 26% in Q1 2013 to 18% in Q2 2013, but were still higher than the 14% figure for Q4 2012. The percentage of flat rounds grew slightly, from 14% of all deals in Q1 2013 to 15% in Q2 2013.
In Carsanaro v. Bloodhound Technologies, Inc., 2013 WL 1104901 (Del. Ch. Mar. 15, 2013), Vice Chancellor Laster of the Court of Chancery denied defendants’ motion to dismiss a complaint alleging breaches of fiduciary duties and statutory violations, among other things, in connection with several rounds of venture capital financings for a start-up healthcare technology company (“Bloodhound” or the “Company”).
In the late 1990s, Bloodhound began developing a web-based software application to monitor healthcare claims for fraud. From 1999 to 2002, the Company issued five series of preferred stock, designated Series A through Series E. Plaintiffs, former common stockholders of Bloodhound, alleged that in the Series D and Series E capital raises, the venture capital firms investing in the Company used their control over the Company’s board of directors to approve financings that unfairly diluted the common stock, undervalued the Company, and improperly benefited the venture capital firms and management. Plaintiffs also challenged a 1-for-10 reverse stock split of the common stock carried out in connection with the Series E refinancing in 2002. In addition to their challenges to transactions in 2001 and 2002, plaintiffs alleged that the board had acted wrongfully in 2011 when it agreed to sell the Company to a third party for $82.5 million, and approved a management incentive plan (“MIP”) that allocated $15 million, or about 19 percent of the merger proceeds, to the Company’s management. Plaintiffs alleged that, as a result of the dilutive financings and the MIP, they received only approximately $36,000 for their common shares in the merger.
A recent book by Josh Lerner and a recent article in the Journal of Public Economics has asserted that government venture capital programs in Europe have displaced or crowded out private venture capital. The result of work such as this has been to place pressure on government bodies around the world to remove or replace their existing governmental programs. In the aftermath of the financial crisis, venture capital markets around the world themselves have been in crisis. So, it is particularly timely to address the issue of whether or not government venture capital programs in regions such as Europe really have in fact crowded out private venture capital programs.
As pointed out in this Economist article and in my recent commentary and my review article, the idea that government programs crowding out private venture capital in Josh Lerner’s book and in the Journal of Public Economics is based on empirical measures that are completely flawed. The empirical tests supporting crowding out are based on methodologies that rank the Austrian and Hungarian venture capital markets as being the best in the Europe, and the U.K. venture capital market as being the worst in Europe (I am not kidding).
Venture capitalists (VCs) play a significant role in the financing of high-risk, technology-based business ventures. VC exits usually take one of three forms: an initial public offering (IPO) of a portfolio company’s shares, followed by the sale of the VC’s shares into the public market; a “trade sale” of the company to another firm; or dissolution and liquidation of the company.
Of these three types of exits, IPOs have received the most scrutiny. This attention is not surprising. IPO exits tend to involve the largest and most visible VC-backed firms. And, perhaps just as importantly, the IPO process triggers public-disclosure requirements under the securities laws, making data on IPO exits easily accessible to researchers.
But trade sales are actually much more common than IPOs and, in aggregate, are more financially important to VCs. Unlike IPOs, however, trade sales do not trigger the intense public-disclosure requirements of the securities laws; they take place in the shadows. Thus, although trade sales play a critical role in the venture capital cycle, relatively little is known about them.
In our paper, Carrots & Sticks: How VCs Induce Entrepreneurial Teams to Sell Startups recently made public on SSRN, Brian Broughman and I seek to shine more light on intra-firm dynamics around trade sales. In particular, we investigate how VCs induce the “entrepreneurial team” – the founder, other executives, and common shareholders – to go along with a trade sale that they might have an incentive to resist.
Delaware dominates the corporate chartering market in the U.S—it is the only state that attracts a significant number of out-of-state incorporations. As a result, incorporation decisions are “bimodal,” with public and private firms typically choosing between home-state and Delaware incorporation.
Much ink has been spilled in the debate over whether Delaware’s dominance arose because it offers high-quality or low-quality corporate law. Under the “race-to-the-top” view, Delaware has prevailed because its law maximizes firm value. Under the “race-to-the-bottom” view, Delaware has won by offering corporate law that favors insiders at other parties’ expense.
But a firm today may choose Delaware law not solely because of its inherent features but rather because, after decades of Delaware’s dominance, business parties—including investors and their lawyers—are now simply more familiar with Delaware law than the laws of other states. Indeed, the bimodal pattern of domiciling is itself strong evidence that business parties are familiar only with their home states’ corporate law and Delaware’s.
In our paper, Delaware Law as Lingua Franca: Evidence from VC-Backed Startups, recently made public on SSRN, Brian Broughman, Darian Ibrahim, and I show, for the first time, that familiarity does in fact affect firms’ decisions to domicile in Delaware rather in their home states.
In our recent NBER working paper, Private Equity Performance: What Do We Know?, my co-authors (Tim Jenkinson of the University of Oxford and Robert Harris of the University of Virginia) and I use a new research-quality data set of private equity fund-level cash flows from Burgiss. We refer to private equity as the asset class that includes buyout funds and venture capital (VC) funds. We analyze the two types of funds separately. The data set has a number of attractive features that we describe in detail later. A key attribute is that the data are derived entirely from institutional investors (the limited partners or LPs) for whom Burgiss’ systems provide recordkeeping and performance monitoring services. This results in detailed, verified and crosschecked investment histories for nearly 1400 private equity funds derived from the holdings of over 200 institutional investors. Using these data we reassess the performance of private equity funds, in absolute terms and relative to public markets. Our results are markedly more positive for buyout funds than have previously been documented.
In the paper, Does Reputation Limit Opportunistic Behavior in the VC Industry? Evidence from Litigation against VCs, forthcoming in the Journal of Finance, we use a hand-collected database of lawsuits filed against U.S. venture capitalists (VCs) to examine the role of reputation in limiting opportunism in the VC industry. The lawsuits in our sample serve as a proxy for alleged opportunistic behavior by the defendant VCs. Based on the lawsuit plaintiff, we further identify whether the defendant VCs allegedly behaved opportunistically against founders, limited partners, other VCs, buyers of VC-backed startups, or other parties (angels, creditors, employees, etc.).
We choose proxies for VC reputation (or alternatively the intensity of VC relationships) with each of the four main types of plaintiffs as follows. First, the number of deals that a VCs invests in serves as proxy for the VC’s reputation with founders. Second, we use the amount of funds under management to proxy for the VC’s reputation with limited partners. Third, the VC’s network centrality, defined as the scaled number of relationships that a VC has with other VCs, serves as proxy for the VC’s reputation with other VCs. Last, we use the percentage of companies in the VC’s portfolio that go public to proxy for the VC’s reputation with buyers of VC-backed startups.
In the paper, Management Quality, Venture Capital Backing, and Initial Public Offerings, which was recently made publicly available on SSRN, we use hand-collected data on the quality and reputation of the management teams of a large sample of 3,240 entrepreneurial firms going public during 1993-2004 to conduct the first large-sample study of the relationship between VC-backing and management quality and the effect of these two variables on a firm’s IPO characteristics and valuation, post-IPO financial policies, and post-IPO operating performance. We hypothesize that VC-backing positively affects the quality of a firm’s management team, and that both management quality and VC-backing play a certifying role in conveying a firm’s intrinsic value to the financial market, reducing the information asymmetry faced by it.
Our empirical findings are as follows. First, we find that overall VC-backed firms have higher quality management teams compared to non-VC-backed firms. In particular, VC-backed firms have a greater percentage of management team members with MBA degrees, a greater percentage of managers with prior managerial experience, a greater percentage of managers in core functional areas (operations and production, sales and marketing, R&D, and finance), and larger management teams compared to non-VC-backed firms. At the same time, VC-backed firms have lower percentages of management team members who are CPAs and who have prior managerial experience at law and accounting firms; further, their managers have shorter average tenures and smaller heterogeneity in these tenures.