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Abstract: This paper considers the issue of when venture capitalists (VCs) make a partial, as opposed to a full exit, for the full range of exit vehicles. A full exit for an IPO involves a sale of all of the venture capitalist's holdings within one year of the IPO; a partial exit involves sale of only part of the venture capitalist's holdings within that period. A full acquisition exit involves the sale of the entire firm for cash; in a partial acquisition exit, the venture capitalist receives (often illiquid) shares in the acquiror firm instead of cash. In the case of a buyback exit (in which the entrepreneur buys out the venture capitalist) or a secondary sale, a partial exit entails a sale of only part of the venture capitalist's holdings. A partial write-off involves a write down of the investment. We consider the determinants of full and partial venture capital exits for all five exit vehicles. We also perform a number of comparative empirical tests on samples of full and partial exits derived from a survey of Canadian and U.S. venture capital firms. The data offer support to the central hypothesis of the paper: that the greater the degree of information asymmetry between the selling VC and the buyer, the greater the likelihood of a partial exit to signal quality. The data also indicate differences between the U.S. and Canadian venture capital industries, and highlight the impact of legal and institutional factors on exit strategies across countries.
Abstract: This paper considers the issue of when venture capitalists (VCs) make a partial, as opposed to a full exit, for the full range of exit vehicles. A full exit for an IPO involves a sale of all of the venture capitalist's holdings within one year of the IPO; a partial exit involves sale of only part of the venture capitalist's holdings within that period. A full acquisition exit involves the sale of the entire firm for cash; in a partial acquisition exit, the venture capitalist receives (often illiquid) shares in the acquiror firm instead of cash. In the case of a buyback exit (in which the entrepreneur buys out the venture capitalist) or a secondary sale, a partial exit entails a sale of only part of the venture capitalist's holdings. A partial write-off involves a write down of the investment. We consider the determinants of full and partial venture capital exits for all five exit vehicles. We also perform a number of comparative empirical tests on samples of full and partial exits derived from a survey of Canadian and U.S. venture capital firms. The data offer support to the central hypothesis of the paper: that the greater the degree of information asymmetry between the selling VC and the buyer, the greater the likelihood of a partial exit to signal quality. The data also indicate differences between the U.S. and Canadian venture capital industries, and highlight the impact of legal and institutional factors on exit strategies across countries. Parts of this paper appear in an earlier and different version entitled The Extent of Venture Capital Exits: Evidence from Canada and the United States, forthcoming in a book pursuant to a conference at Tilburg University and edited by J. McCahery and L.D.R. Renneboog (Oxford University Press).
Venture capital, Exit strategy, Regulation
Abstract: Venture capital exit vehicles enable, to different degrees, mitigation of informational asymmetries and agency costs between the entrepreneurial venture and the new owners of the firm. Different exit vehicles also affect the amount of new capital for the entrepreneurial firm. Based on these factors, we conjecture the efficient pattern of exits depending on the quality of the entrepreneurial venture, the nature of its assets, and the duration of venture capital investment. We empirically assess the significance of these factors using a multinomial logit model. Our comparative results between Canada and the U.S. provide insight into the impact of different institutional and legal constraints, and suggest such constraints have distorted the efficient pattern of exits in Canada.
Abstract: This paper considers the issue of when venture capitalists (VCs) make a partial, as opposed to a full exit, for the full range of exit vehicles. A full exit for an IPO involves a sale of all of the venture capitalist's holdings within one year of the IPO; a partial exit involves sale of only part of the venture capitalist's holdings within that period. A full acquisition exit involves the sale of the entire firm for cash; in a partial acquisition exit, the venture capitalist receives (often illiquid) shares in the acquiror firm instead of cash. In the case of a secondary sale or a buyback exit (in which the entrepreneur buys out the venture capitalist), a partial exit entails a sale of only part of the venture capitalist's holdings. A partial write-off involves a write down of the investment. We perform empirical tests on samples of full and partial exits derived from a survey of Canadian and U.S. venture capital firms. The evidence indicates that partial exits are more likely for IPOs and secondary sales in Canada. Partial exits in Canada are also more likely the greater the market to book value of the investment. Partial exits in the U.S., by contrast, are more likely for buyback exits and when there is greater capital available for investment in the venture capital industry. The U.S. evidence further indicates that partial acquisition exits are more likely for technology firms, the longer the investment duration, and the greater the market to book value of the entrepreneurial firm. We also present evidence that the longer the investment duration, the more likely that venture capital investments will be written down, rather than completely written off. The differences we find between the Canadian and U.S. samples highlight the impact of legal and institutional factors on exit strategies.
Venture Capital, Exits, IPO, Acquisition, Secondary Sale, Buyback, Write-off
Abstract: This paper considers the structure, governance and performance of a unique class of mutual funds that receives capital only from individuals, and reinvests this contributed capital in private companies, as opposed to traditional mutual funds that invest in publicly traded companies. We consider the particular class of mutual funds known as Canadian Labour-Sponsored Investment Funds (LSIFs). In contrast to expectations, we show that LSIFs have artificially low betas (the average beta is 0.10), returns that have significantly underperformed industry benchmarks (including risk-free 30-day T-bills), average management expense ratios ("MERs", or management expenses/assets) greater than 4%, and have collectively accumulated $Can10 billion (¿4.3 billion) as at 2005 since their statutory inception in various Canadian jurisdictions in the 1980s and 1990s. We show that these incongruous data are directly attributable to the LSIF statutory governance structure. LSIF legislation mandates episodic valuations that determine share prices, an 8-year investor lock-in period, and onerous constraints on capital reinvestment. LSIFs also afford to their investors tax-generated returns in excess of 100%. The LSIF structure provides generalizable insights into the relation between organizational governance and performance, and the unsuitability of mutual fund structures for private equity investment. We compare and contrast the LSIF governance structure with structures in the UK, US and Australia to draw lessons for the appropriate design of government sponsored venture capital funds.
Mutual Funds, Venture Capital, Government Sponsorship, Risk, Return, Fundraising
Abstract: Private independent limited partnership venture capital funds receive capital from institutional investors, without tax incentives. Limited partnership investment activities are governed by restrictive covenants that are determined by negotiated contract between the fund managers (general partners) and the institutional investors (limited partners). By contrast, Canadian Labour Sponsored Venture Capital Corporations (LSVCCs) receive capital only from individual investors who receive tax breaks on capital contributions of up to CAN$5,000. LSVCC investment activities are governed by statutory restrictions. This chapter contrasts the governance of LSVCCs to limited partnerships. We also summarize Canadian evidence on the impact of LSVCC governance and tax incentives: (1) on the distribution of venture capital funding between private and LSVCC funds; (2) on the unusually large overhang of uninvested capital in the Canadian venture capital industry; (3) the portfolio size (i.e. number of investee firms per fund) of private funds versus LSVCCs; and (4) the performance of LSVCCs relative to other types of venture capital organiziations and other comparable investments for individual investors.
Venture Capital, Canada, Tax, Government, Crowding Out, Portfolio Size, Governance
Abstract: Venture capital is still a comparatively young industry. While Gompers and Lerner date the first venture capital firm to 1946, the industry did not really get on its feet until the late 1970s. Nonetheless, the venture capital industry has been through a sufficient number of business cycles that empiricists have mapped out a number of systematic differences in the behavior of venture capitalists (VCs) in boom and bust periods. One aim of this Article is to review this literature with a view to documenting some of these differences. Another is to draw these empirical findings together, indicating how the various strands of the empirical literature paint a remarkably consistent picture of how VCs respond to the changing economic incentives that exist in boom and bust periods. We suggest that these strands can be united by identifying three key parameters that are most responsible for prompting changes in VC behavior as between boom and bust. These are: changes in the availability and valuation of IPO exits, the inelasticity of VC managerial talent in the short run; and the rapidly increasing supply of capital to venture capital funds in boom periods. We also seek to explore how the changing availability of IPOs, and greatly enhanced IPO valuations produced widespread and systematic pathologies in IPO exits during the Internet bubble (1999-2000) - pathologies that led investment bankers and VCs to change their behavior in value-destructive ways. While the evidence suggests that these pathologies did not start during the bubble, they clearly reached their apogee during that period. If there is a silver lining in all this, it is that the bubble has provided policy makers with a taxonomy of potential abuses and markers that point to the presence of such abuses, particularly extreme underpricing of new offerings. This learning will greatly lower the likelihood that these abuses will be repeated in the future. We also discuss how a court ought to construe the VC's duties of loyalty and care in a lawsuit either by investors in a limited partnership venture capital fund, or by an investee firm whose interests were poorly served either by opportunistic or negligent VC behavior. In particular, since VC behavior differs from boom to bust, we raise the question of whether a court should look to bust period behavior in constructing a standard of care, or to boom period behavior, or some amalgam of the two. For a variety of reasons, we suggest that courts should primarily have regard to bust period behavior. We review empirical evidence that venture capitalist activities differ depending on economic conditions. We also review empirical evidence that shows venture capital fund managers tend to distort reports to institutional investors and inflate performance figures in bust periods.
Venture Capital Cycle, IPO, Litigation, Internet Bubble
Abstract: In this paper, we examine a Canadian tax-driven venture capital vehicle known as the "Labour Sponsored Venture Capital Corporation" (LSVCC). As a theoretical matter, we suggest that the LSVCCs can be expected to have higher agency costs and lower profitability than private venture capital funds. We present data that is consistent with this view. The central question that we analyze, however, is whether the tax advantages conferred on LSVCCs have resulted in LSVCCs "crowding out," or displacing other types of venture capital funds. Empirical analysis of our data (which covers the 1977-2001 period) is highly consistent with crowding out. The data suggest that crowding out has been sufficiently energetic as to lead to a reduction in the aggregate pool of venture capital in Canada, frustrating one of the key governmental goals underlying the LSVCC programs; namely, the expansion of the aggregate pool of capital. In the course of our analysis, we confirm the importance of macroeconomic factors (the performance of the stock market, real interest rates, and changes in real gross domestic product) in affecting the supply of and demand for venture capital. We also generate evidence that is consistent with the proposition that entrepreneurs in the market for venture capital prefer to incorporate their businesses federally, rather than provincially.
Venture capital cycle, Government sponsorship, Tax, Crowding out
Abstract: In this paper, we examine a Canadian tax-driven vehicle known as the Labour Sponsored Venture Capital Corporation (LSVCC). As a theoretical matter, we suggest that the LSVCCs can be expected to have higher agency costs and lower profitability than private venture capital funds. We present data that are consistent with this view. The central question that we analyze, however, is whether the tax advantages conferred on LSVCCs have resulted in LSVCCs crowding out, or displacing other types of venture capital funds. Empirical analysis of our data (which covers the 1977-2001 period) is highly consistent with crowding out. The data suggest that crowding out has been sufficiently energetic as to lead to a reduction in the aggregate pool of venture capital in Canada, frusterating one of the key governmental goals underlying the LSVCC programs; namely, the expansion of the aggregate pool of capital. In the course of our analysis, we confirm the importance of macroeconomic factors (the performance of the stock market, real interest rates, and changes in real gross domestic product) in affecting the supply of and demand for venture capital. We also generate evidence that is consistent with the proposition that entrepreneurs in the market for venture capital prefer to incorporate their business federally, rather than provincially.
Abstract: A significant amount of work has been done on corporate law choice and firm value (in terms of share prices, Tobin's Q, or variants), particularly in recent years. These empirical studies of the effect of corporate law on firm value have invariably used econometric methods that treat the decision to reincorporate as a random event. Recent research from the US and abroad has recently shown that this decision is far from random. It is quite possible that the magnitude, sign, and statistical significance of the effect of reincorporation on firm value are quite different when the selection effects are considered. Using a prior dataset that enables selection effects to be considered, we show that the accounting for selection effects using Heckman (1976, 1979) corrections is both economically and statistically significant in ascertaining the impact of corporate law on firm value.
Reincorporation, Corporate law, Firm value, Selection model
Abstract: A significant amount of work has been done on corporate law choice and firm value (in terms of share prices, Tobin's Q, or variants), particularly in recent years. These empirical studies of the effect of corporate law on firm value have invariably used econometric methods that treat the decision to incorporate as a random event. Recent research from the U.S. and abroad has recently shown that this decision is far from random. It is quite possible that the magnitude, sign, and statistical significance of the effect of reincorporation on firm value are quite different when the selection effects are considered. Using a prior dataset that enables selection effects to be considered, I show that the accounting for selection effects using Heckman (1976, 1979) corrections is both economically and statistically significant in ascertaining the impact of corporate law on firm value.
Reincorporation, Corporate Law, Firm Value, Heckman Selection Model
Abstract: In a study of the incorporation market, Cumming and MacIntosh (2000) argued on the basis of theory and empirical evidence that interjurisdictional competition has not played a significant role in shaping corporate law in Canada. Nevertheless, they did find partial demand-side econometric evidence of jurisdiction shopping on the basis of incorporation fees and the corporate law reforms in a few Canadian jurisdictions. The purpose of this article is to address two additional demand-side issues pertaining to firms that have reincorporated (i.e., changed jurisdiction of incorporation at least once during their lifetime) in Canada. First, the rationales underlying firms' decisions to reincorporate from one jurisdiction to another are examined. To this end, we analyze the results of a survey sent to firms listed on a Canadian stock exchange that reincorporated after 1975. Second, the issue of whether jurisdiction shopping affects firm value is empirically assessed by means of an event study. Our results indicate that (1) inter-provincial reincorporations tend to be prompted by the transaction costs of carrying on a business, (2) federal reincorporations have a more substantive law-shopping component, and (3) certain reincorporation transactions statistically enhance firm value, but others diminish value.
Reincorporation, Corporate Law, Event Study, Canada
Reincorporation, Corporate law, Event study, Canada
Abstract: While competitive corporate law production has been well documented in the United States, there is a comparative dearth of Canadian evidence. This article addresses the question of whether the competitive model of corporate law production has operated, or could operate, in Canada. To this end, both the supply side and the demand side of the Canadian incorporation market are critically examined. The theory and empirical evidence indicate that institutional barriers have limited the extent of competitive corporate law production. The Uniformity Hypothesis, which postulates a legislative maximand of uniformity of provincial laws and not revenues derived from incorporation business, is advanced as a more compelling account of the observed pattern of Canadian corporate law reform. The evidence is consistent with related research indicating that jurisdiction shopping for corporate charters has not always resulted in gains for shareholders of Canadian corporations.
Abstract: In England and Canada the courts have in the main clung steadfastly to the notion that controlling shareholders owe no fiduciary duties either to the company, or to fellow shareholders. This is in marked contrast to developments in the United States, where it has been clear that majority or controlling shareholders bear fiduciary responsibility towards the minority. In a nutshell, this is the puzzle that this article seeks to explain. Why is it, in the face of more widespread inter-investor conflicts of interest, that legal doctrine in Canada has not formally adumbrated fiduciary standards of conduct for controlling shareholders, while the American courts have? The authors suggest a number of answers. Canadian judges, by temperament and training, tend to be more wedded to the common law precedent, which clearly indicates that shareholders owe no fiduciary duties. Second, courts have often been able to finesse the issue in cases in which the controlling shareholder is also a director or officer, since the controller may then be held liable in her managerial capacity, using conventional fiduciary wisdom. Third, minority interests have often been protected in Canada by devices other than shareholder fiduciary duties. In fact, the authors argue that the courts have moved recently to impose de facto fiduciary duties on shareholders under the statutory oppression remedy. The broad drafting of the oppression remedy has supplied the courts with a legislative mandate to break free of the fetters of the common law and construct a new paradigm of majority/minority relations. The authors argue that it is primarily the weight of settled jurisprudence that has kept the courts from explicitly acknowledging that the new duties are fiduciary in substance and character.
Abstract: This article takes as its starting point Berle and Means' claim, in their 1993 book The Modern Corporation and Private Property, that widely dispersed and apathetic shareholders exercise little real control over managers; they concluded that it was no longer realistic to think that managers would run public corporations exclusively in the interests of the shareholders. The author here pursues an examination of the current state of corporate governance in Canada to determine whether shareholder oversight is really as ineffective as Berle and Means postulated. In particular, he addresses the concept of "rational apathy" among retail shareholders, and the impact of the dramatic growth of the institutional portfolio over the past three decades.
Abstract: In recent years, the growth of the institutional portfolio (ie., funds managed by mutual funds, insurance companies, banks, trust and loan companies, etc.) has been truly astonishing. In this article, Professor MacIntosh argues that this growth has important implications for the manner in which Canadian capital markets are regulated. In particular, institutional shareholders tend to be better monitors of corporate managers than retail shareholders. Institutional monitoring has been impeded by a number of features of the regulatory landscape. Professor MacIntosh makes a number of recommendations for changes to corporate and securities laws. Contrary to the fears expressed by some, the decline of the retail investor and the rise of the institutional investor should be accompanied by enhanced market liquidity and market efficiency. Regulatory policies premised on assuring the continued market presence of retail investors lack a solid theoretical or empirical footing. Professor MacIntosh also notes that market institutionalization has been and will continue to be associated with growth in the so-called "exempt" market. This will exert a brake on the extent to which regulators can regulate non-exempt market transactions, since higher levels of regulation will only drive issuers and investors into exempt markets or to other locales. Finally, Professor MacIntosh notes that the burgeoning derivatives markets present a challenge for regulators. Properly managed, the purchase of derivative securities can greatly reduce portfolio risk. Improperly managed, however, derivatives can greatly increase risk. Professor MacIntosh argues that most buyers in derivatives markets are institutional, and that where such buyers dominate, a light-handed regulatory approach is indicated.
Abstract: In their article in the December 1990 issue of the Canadian Business Law Journal, Dey and Yalden argue that poison pills are a useful and effective technique for ensuring that target shareholders receive a "fair" price for their shares on a take-over bid. As their title indicates, a fundamental assumption of their article is that acquirors somehow have an unfair advantage in the take-over contest, and that the poison pill is designed to "level the playing field". They argue that the elaborate edifice of corporate and securities law governing take-overs is insufficient to protect target shareholders from unfair treatment. They recognize that managers may abuse the pill, but argue that the danger of abuse by managers intent on entrenching themselves at the expense of shareholders is adequately controlled by fiduciary duties. In this response, the author argues that their position is seriously flawed. Although at the present time there is comparatively little Canadian evidence on the effects of poison pills, the great bulk of evidence from the United States vigorously suggests that pills are not in the best interests of shareholders. The author argues that Dey and Yalden have not attempted to refute that evidence. This is a serious omission that tarnishes their effort to offer a reasoned defence of the poison pill.
Abstract: In this article, the authors consider the impact of the institutional and market environment in which Canadian business operates on the structure of corporate and securities law. The authors argue that the linkages between markets and law have been neglected by scholars, judges, and regulators concerned with Canadian corporate and securities law, resulting in the adoption of approaches that are ill-suited to the Canadian environment. Canadian capital markets, for instance, are characterized by high levels of share ownership concentration, thin trading problems, intensive inter-corporate linkages, and possibly lower levels of efficiency. In sum, these factors make the problems occasioned by separated ownership and control (the Berle and Means corporation) much less acute in Canada than the problems of majority shareholder opportunism. These factors also suggest that regulatory initiatives should be structured in a way that distinguishes between the problems of large, intensively traded companies and smaller, thinly traded companies populated by retail investors. The authors consider these issues in the context of three case studies: the private agreement exception, poison pills, and a self-interested transaction.
Abstract: In this article, the author notes that one of the truly extraordinary aspects of securities regulation in Canada is the extent to which the various provincial securities Acts, and regulations promulgated under the Acts, have been surpassed in importance as sources of "law" by various non-legal instruments published by the securities commissions. The putative source of this "mandate" is the various powers in the securities enactments that enable the securities regulators to act "in the public interest". The public interest powers have done more than simply supply a (questionable) jurisdictional foundation for the policy statements: they have supplied the practical motivation for compliance with the policy statements by the securities community. Two recent decisions, however, cast grave doubt on the ability of the securities regulators to use policy statements to add substantive requirements to those contained in the Act or regulations. The author explores various policy statements issued by securities regulators in Canada, and discusses Pezim v. British Columbia (Superintendent of Brokers) and Ainsley Financial Corp. v. Ontario (Securities Commission) as examples of recent challenges to the use of policy statements as de facto law. Taken together with the second part of this article, the two parts are substantially the same as a paper delivered at the mini-conference "The Ontario Securities Commission: Advice to the Chairman" on December 17, 1993, and sponsored by the Canadian Business Law Journal, in cooperation with the Faculty of Law, University of Toronto.
Abstract: In the 1960s, the Windfall scandal led to the commissioning of the Kimber Report and ultimately to the systematic revamping of the securities regulatory system in Ontario (and in Canada). In this article, the author argues that the impact of the Bre-X scandal is likely to be modest by comparison. In light of Bre-X, this article addresses a number of questions about the regulation of small firms, primary market offerings, and the importance of appearances when deciding how to respond to such scandals.
Abstract: In this article, the author argues that securities regulators in Canada have issued many policy statements that are used as de facto law. These policy statements add substantive requirements to those contained in the Act and regulations. In many cases, they even exceed the power possessed by the Lieutenant Governor in Council to make regulations. Indeed, in some cases, they contradict what is found in the Act or regulations. Whether supported by blanket rulings, or merely the securities regulators' public interest powers, the author argues that all of these policy statements lack juridical foundation. He additionally argues that little or no attention has been directed to a number of potential legal problems associated with the use of policy statements. Taken together with the first part of this article, the two parts are substantially the same as a paper delivered at the mini-conference "The Ontario Securities Commission: Advice to the Chairman" on December 17, 1993, and sponsored by the Canadian Business Law Journal, in cooperation with the Faculty of Law, University of Toronto.
Abstract: The most efficient venture capital investment duration for different types of entrepreneurial firms is investigated, with the goal that on exit from the investment, the information asymmetries between the venture capitalist as seller and the new owners of the investment are minimized and capital gains can be maximized. In section I of this study, the various factors that may play a role in determining the degree of information asymmetry are proposed. In section II, a brief review of the research literature related to this topic is offered. In section III, the factors that affect total venture capital investment duration are elaborated and hypotheses to be tested are developed. In section IV, the different institutional and legal factors in Canada and the United States that bear on the duration of investment are discussed. In section V, the hypotheses developed previously are tested using a proportional hazard model. The survey data used in the test include exits from 112 portfolio companies from 13 U.S. venture capital firms, and 134 portfolio companies from 22 venture capital firms in Canada between 1992 and 1995. Results suggest that some factors, including the stage of the firm at the time of the first investment and whether the exit was preplanned, are indeed statistically significant. In section VI, policy implications are offered. There appears to be less informed capital in Canada, resulting in lower levels of entrepreneurship and innovative activity than in the United States. (LMH)
Exit strategies, Information asymmetry, Innovation process, Venture capital, Financing, Investments
Abstract: Many governments have become interested in venture capital (VC) and, as a result, have promoted initiatives designed to strengthen their domestic VC industry and their high-technology sectors.The Canadian Labour Sponsored Venture Capital Corporation (LSVCC) is an example of one government initiative which acts as a mutual fund and a VC fund hybrid. The LSVCC was initially created by the Canadian government as a means of creating jobs, providing worker education, and promoting local investment.This study focuses on the LSVCC to determine if the tax expenditures supporting it are being well spent.Previous research on the LSVCC indicates many areas for concern, including inefficient governance mechanisms, low managerial quality, low returns in absolute terms and, in comparison to mutual funds and private VC funds, large taxes, significant capital accrual despite low returns, and suppression of more efficient private VC funds. Each area for concern is discussed in terms of its respective relationship to and impact on the LSVCC.The performance of the LSVCC is then compared and contrasted to U.S. investment opportunities.The LSVCC program has been costly for Canada and has contributed to its own failure.It is recommended that these inefficient programs be terminated. (AKP)
Canadian Labour Sponsored Venture Capital Corporations, Limited liability partnerships (LLP), Canadian Venture Capital Association, Mutual funds, Organizational structures, Program evaluation, Public investments, Public policies, Venture capital, Venture capital, Business assistance programs, High technology industries
Abstract: This paper considers the structure, governance and performance of a unique class of mutual funds that receives capital only from individuals, and reinvests this contributed capital in private companies, as opposed to traditional mutual funds that invest in publicly traded companies. It considers the particular class of mutual funds known as Canadian Labour-Sponsored Investment Funds (LSIFs). In contrast to expectations, it is shown that LSIFs have artificially low betas, returns that have significantly underperformed industry benchmarks, average management expense ratios greater than 4%, and have collectively accumulated $Can10 billion (£4.3 billion) as at 2005 since their statutory inception in various Canadian jurisdictions in the 1980s and 1990s. It is shown that these incongruous data are directly attributable to the LSIF statutory governance structure.
Mutual funds, Venture capital, Government sponsorship, Risk, Return, Fundraising
Abstract: This paper considers the structure, governance and performance of a unique class of mutual funds that receives capital only from individuals, and reinvests this contributed capital in private companies, as opposed to traditional mutual funds that invest in publicly traded companies. We consider the particular class of mutual funds known as Canadian Labour-Sponsored Investment Funds (LSIFs). In contrast to expectations, we show that LSIFs have artificially low betas (the average beta is 0.10), returns that have significantly underperformed industry benchmarks (including risk-free 30-day T-bills), average management expense ratios ("MERs", or management expenses/assets) greater than 4%, and have collectively accumulated $10 billion ($4.3 billion) to 2005 since their statutory inception in various Canadian jurisdictions in the 1980s and 1990s. We show that these incongruous data are directly attributable to the LSIF statutory governance structure. LSIF legislation mandates episodic valuations that determine share prices, an 8-year investor lock-in period, and onerous constraints on capital reinvestment. LSIFs also afford to their investors tax-generated returns in excess of 100%. The LSIF structure provides generalizable insights into the relation between organizational governance and performance, and the unsuitability of mutual fund structures for private equity investment. We compare and contrast the LSIF governance structure with structures in the UK, US and Australia to draw lessons for the appropriate design of government sponsored venture capital funds.
Abstract: This paper considers efficient venture capital investment duration for different types of entrepreneurial firms so that on exit information asymmetries between the venture capitalist (as seller) and the new owners of the investment are minimized, and capital gains maximized. We hypothesize that a number of factors are likely to affect investment duration, and our empirical tests confirm the statistical significance of some of these variables (stage of firm at first investment, capital available to the venture capital industry, whether the exit was preplanned, whether the exit was made in response to an unsolicited offer). However, the fit between our theoretical model and the data is stronger in the United States than in Canada, offering evidence in support of the view that Canadian and U.S. venture capital markets are far from fully integrated.
Abstract: The relative importance of a multitude of factors for the allocation of expenses towards R&D are assessed in an empirical study of the Canadian biotechnology industry. The results show that patent protection and strategic alliances facilitate R&D spending. The results also show that early-stage firms spend a greater proportion of their expenditures on R&D, while firms engaged in R&D in platform technologies and firms with high debt-equity ratios spend a lower proportion of their expenditures on R&D. Demand pull and competition variables are insignificant factors. Finally, counter to our expectations, R&D expenditures are more intensive among firms engaged in R&D in areas in which consumer controversies are more pronounced.
Abstract: Venture capitalists (VCs) purchase equity or equity-based instruments in small, risky, and often innovative companies. Most of a VC's return will result from the capital appreciation of these equity or equity-based instruments. Thus, the availability of attractive exit opportunities is vitally important to the success of the venture capital investing. The paper first discusses venture capital exits from a theoretical perspective, identifying a number of factors that are hypothesized to affect the VC's timing and choice of exit strategy. These include exhaustion of the VC's skill set; the ability of the new owners to resolve information asymmetry, value the firm, and monitor the investment; the effect of choice of exit on managerial incentives; the realization of transaction synergies; the firm's present and future requirements for fresh infusions of capital; risk bearing considerations; the value of a common exit strategy in promoting teamwork; the VC's preference for cash; and psychological factors operating on the entrepreneur and potential buyers. Exit data from the U.S. and Canada is examined. While the data is not subjected to rigorous empirical examination, I conclude that it offers some support to my hypotheses regarding exit preferences.
Abstract: Securities-related activity has increasingly become trans-national in character in the past 10 or 20 years. The nature and causes of this internationalization are briefly reviewed. Despite this rapid internationalization, however, there is still a "home bias" in investing. The extent of potential internationalization thus far exceeds actual internationalization. This means that securities regulators have yet to confront anywhere near the full effects of regulatory competition on domestic policy formulation. In part, the paper examines the consequences of internationalization for regulatory policy from the perspective of a small country (Canada). Small countries are subject to very different forces than large countries with market power in the regulatory system (like the U.S.). More generally, there is evidence of regulatory convergence in the securities sphere (i.e. less regulatory countries acquiring more regulation, while more regulatory countries shed regulatory burden). The causes of this convergence are explored. Finally, conflicts between satisfactory enforcement of local securities laws and fostering the broadest possible scope for regulatory competition are noted. The paper concludes with a recommendation that securities regulators move towards a European-type system with mandated regulatory floors to accommodate concerns about investor protection, coupled with mutual recognition of regulatory standards, to permit competition to flourish.
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