The Effect of Venture Capitalists Straying from Their Industry Comfort Zones
57 Pages Posted: 28 Sep 2017
Date Written: August 26, 2017
I analyze the effect on venture capitalist exit performance of investments made outside of a venture capitalist’s preferred investment industry. My findings are as follows: Venture backed investments are significantly more likely to have successful exits when the backing venture capitalists makes an in an investment in a firm within their preferred investment industry. I also show that when a venture capitalists invests outside of their preferred investment industry the negative effect of doing so can at least be partially overcome by co-investing with another venture capitalist that has the same investment focus as the investment firm. The negative effect of an investment outside of the venture capitalists preferred investment industry is also shown to be more pronounced the greater the difference between the venture capital’s industry investment focus and the industry of the investment firm. An out of industry comfort zone investment is also shown to have a deferential effect depending on the investment industry, more specifically, a positive effect is shown in less specialized industries and a negative effect in more specialized industries. I also show that as venture capitalist become more experienced the cost of investing outside of their industry specialization becomes greater. Using yearly changes in venture capital dry powder as an exogenous shock to a venture capitalist’s willingness to invest outside of their industry comfort zone, additional support is given to the negative effect of investing outside a venture capitalist’s industry comfort zone. Overall, my results indicate the importance of venture capital industry specialization and that those venture capitalists that invest outside of their industry focus will have a negative effect on exit success likelihoods, which becomes more severe the more specialized the industry is and the greater the difference between the investment industry and the preferred investment industry.
Keywords: venture capital, industry specialization
JEL Classification: G24
Suggested Citation: Suggested Citation