A Pecking Order of Venture Capital Exits

Abstract

We develop a model of exits from venture capital backed companies based on post-exit moral hazard. It captures the trade-off between the two most important exit choices: IPOs and trade sales. The model shows that highly profitable companies that need few oversight will go public, while less profitable companies that require more control will be sold in a trade sale. This suggests that the common notion that IPOs per se are more profitable than sales is wrong and observed returns suffer from a measurement bias. This is consistent with empirical evidence that IPOs have indeed higher rates of return than trade sales.

Keywords: venture capital, IPO, trade sale, corporate governance, moral hazard, disinvestment, exit strategy

JEL Classification: G24, G32, G34