Whom You Know Matters:Venture Capital Networks and Investment Performance

Abstract

Many financial markets are characterized by strong relationships and networks, rather than arm s-length, spot-market transactions. We examine the performance consequences of this organizational choice in the context of relationships established when VCs syndicate portfolio company investments, using acomprehensive sample of U.S. based VCs over the period 1980 to 2003. VC funds whose parent firms enjoy more influential network positions have significantly better performance, as measured by the proportion of portfolio company investments that are successfully exited through an initial public offering or a sale to another company. Similarly, the portfolio companies of better networked VC firms are significantly more likely to survive to subsequent rounds of financing and to eventual exit. The magnitudeof these effects is economically large, and is robust to a wide range of specifications. Once we control for network effects in our models of fund and portfolio company performance, the importance of how muchinvestment experience a VC has is reduced, and in some specifications, eliminated. Finally, we provide initial evidence on the evolution of VC networks.