Abstract

http://ssrn.com/abstract=1399707
 
 

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Tolerance for Failure and Corporate Innovation


Xuan Tian


Indiana University - Kelley School of Business - Department of Finance

Tracy Yue Wang


University of Minnesota - Twin Cities - Carlson School of Management

September 8, 2011

Review of Financial Studies, Forthcoming

Abstract:     
We examine whether tolerance for failure spurs corporate innovation based on a sample of venture capital (VC) backed IPO firms. We develop a novel measure of VC investors’ failure tolerance by examining their tendency to continue investing in a venture conditional on the venture not meeting milestones. We find that IPO firms backed by more failure-tolerant VC investors are significantly more innovative. A rich set of empirical tests shows that this result is not driven by the endogenous matching between failure-tolerant VCs and startups with high ex-ante innovation potentials. Further, we find that the marginal impact of VC failure tolerance on startup innovation varies significantly in the cross section. Being financed by a failure-tolerant VC is much more important for ventures that are subject to high failure risk. Finally, we examine the determinants of the cross-sectional heterogeneity in VC failure tolerance. We find that both capital constraints and career concerns can negatively distort VC failure tolerance. We also show that younger and less experienced VCs are more exposed to these distortions, making them less failure tolerant than more established VCs.

Number of Pages in PDF File: 57

Keywords: tolerance for failure, innovation, patents, venture capital, IPO

JEL Classification: O31, G24, G34

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Date posted: May 7, 2009 ; Last revised: November 7, 2014

Suggested Citation

Tian, Xuan and Wang, Tracy Yue, Tolerance for Failure and Corporate Innovation (September 8, 2011). Review of Financial Studies, Forthcoming. Available at SSRN: http://ssrn.com/abstract=1399707 or http://dx.doi.org/10.2139/ssrn.1399707

Contact Information

Xuan Tian
Indiana University - Kelley School of Business - Department of Finance ( email )
1309 E. Tenth Street
Bloomington, IN 47405
United States
812-8553420 (Phone)
824-8555875 (Fax)
HOME PAGE: http://kelley.iu.edu/tianx

Tracy Yue Wang (Contact Author)
University of Minnesota - Twin Cities - Carlson School of Management ( email )
19th Avenue South
Minneapolis, MN 55455
United States
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