Indiana University Bloomington - Department of Finance
Indiana University - Kelley School of Business
Indiana University Bloomington - Department of Finance; China Academy of Financial Research (CAFR)
October 4, 2013
Using a sample of venture capital (VC)-backed initial public offering (IPO) firms, we study the impact of financial intermediaries’ tight leash on entrepreneurs’ innovation productivity. We find IPO firms are significantly less innovative when VCs keep a tighter leash on them by interfering with their development more frequently — as measured by a larger number of VC financing rounds. To establish causality, we exploit the plausibly exogenous variation in the frequency of direct flights between VC domiciles and IPO firm headquarters that are due to airline restructuring. Our identification tests suggest a negative, causal effect of VC staging on firm innovation. We further show that staging is more detrimental to firm innovation when innovation is more difficult to achieve, when IPO firms operate in more competitive product markets, and when VCs are less experienced with the industry to which the entrepreneurial firms belong. Our findings suggest that excessive interference by financial intermediaries impedes innovation, and shed light on a previously under-recognized adverse consequence of VC stage financing.
Number of Pages in PDF File: 51
Keywords: Innovation, Stage financing, Venture capital, Short-termism
JEL Classification: G24, O31, G34working papers series
Date posted: October 6, 2013 ; Last revised: October 29, 2013
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