Last Exit Before Toll: Venture Capital Funds and Liquidity Pressure

Abstract

We study the impact of traditional venture capital funds’ (VC) limited lifespan on the timing and outcome of their portfolio firms’ exit events. We find that portfolio firms backed by funds approaching maturity experience quicker initial public offerings and selloffs, consistent with the idea that the liquidity pressure faced by older funds influences the venture capital exit cycle. VCs under liquidity pressure are more likely to sell their portfolio firms off versus taking them public and are more likely to trigger exits during cold markets. Focusing on initial public offerings, we document that firms backed by VCs that are under liquidity pressure raise less capital at the IPO, issue more secondary shares, and have shorter lockup periods. Moreover, IPO firms experience significantly larger trading volume and lower stock returns around the expiration of their lockup periods if they are backed by older funds, consistent with a larger selling pressure by these VCs, and this lockup effect is amplified if there are multiple VC firms facing liquidity pressure. Our results indicate that VC funds’ limited lifespan — a standard contractual feature intended to alleviate agency problems between general partners and limited partners — influences the venture capital exit cycle and imposes externalities on VC-backed portfolio firms.

Keywords: Venture capital, Liquidity pressure, Lockup expiration, IPO

JEL Classification: G14, G24