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This thesis explores how Venture Capital funds’ value-added activities differ between stage and if the Venture Capital funds specialize accordingly. Departing from the value-add perspective of Venture Capital, in which funds transfer knowledge through the relationships with their portfolio companies, this empirical study surveys 275 deals from Danish-based Venture Capital funds operating within ICT or Life Science. The survey consists of 28 questions on the perceived contribution of the VC funds in various value-added activities, as well as a maximum of 37 questions on the characteristics of the firm, the founders, the deal, and the level of interaction with the fund. With 69 usable responses, the effect of the stage on the portfolio companies’ perceptions is analysed through a factor analysis which constructs eight factors from the 28 questions on perceived value-add to be used as dependent variables in an ordinary least-squares regression. We construct two models using backward selection: First a model including independent variables for company stage, industry, age, founder experience, prior funding, the size of investment, and a factor for the degree of interaction between the firm and the fund. Thereafter, we construct an identical model which additionally includes nine dummy variables for the individual funds in our sample which assesses the specialization of funds by modelling whether the effect of stage from model one is removed by the funds.We find that the perceived importance of value-added activities differs across portfolio company stages for factors of strategy, market position, and credibility, while we find no difference across stages for factors of technology, professionalization, finance, internationalization, or exit orientation. We also find that Venture Capital funds specialize in stage with respect to value-added activities within strategy, market position, and credibility. Finally, we find that increasing the amount of interaction between the Venture Capital fund and its portfolio company results in a higher perceived contribution of the fund, all else equal.
Citation preview
Value-Added Activities in Venture Capital and the Effects of Stage: An Empirical Study
Bachelor Thesis B.Sc. International Business
Copenhagen Business School
May 2013
Written by
Martin Franqois Lucas Collignon Paul Joachim Brejnholt Satchwell
Anders Philip Skovsgaard Valentin
Supervised by
Evis Sinani, Associate Professor, PhD Department of International Economics and Management
Character count: 167,327 | 73.5 standard pages
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Acknowledgments:
Special thanks to:
Ted Zoller Director of the Centre for Entrepreneurial Studies at the University of North Carolina at Chapel Hill, Senior Fellow at the Ewing Marion Kauffman Foundation
Mai-Britt Zocca Senior Program Manager at Copenhagen Bio Science Park Program Director of EL2 Knowledge Lab CEO & Founder of OncoNOx ApS
Jesper Knudsen Senior Business Consultant & Partner at Accelerace
Jesper Roested Investment Director at VF Venture
Frank Knudsen Investment Director at SEED Capital
Magnus Corfitzen Investment Director at Sunstone Capital
Christian Wylonis Venture Capital Associate at Creandum
Rasmus Toft-Kehler PhD Student at the Copenhagen Business School Co-founder and CEO at Synercure ApS
Anders Hoffmann Deputy Director General at Danish Business Authority
Nicolai Hjer Nielsen Serial entrepreneur Business angel External Associate Professor at the Copenhagen Business School
Kristoffer Boye Astrup Chief Consultant at Ministry for Business and Growth Denmark
Terttu Luukkonen Chief Research Scientist, Research Institute of Finnish Economy
Furthermore we are grateful for the contributions of:
Leonora Bech, Fabio Bertoni, Joel Eriksson Enquist, Peter Thorlund Haahr, Martin Hauge, Gregers Kronborg, Lars Nordal Jensen, Kristine Leary, Anne Birgitte Lundholt, Simone Louise Petersen, Tine Thygesen, Peter Torstensen, as well as founders, CEOs, and entrepreneurs who took the time to respond to our survey.
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EXECUTIVE SUMMARY
This thesis explores how Venture Capital funds value-added activities differ between stage and if
the Venture Capital funds specialize accordingly.
Departing from the value-add perspective of Venture Capital, in which funds transfer knowledge
through the relationships with their portfolio companies, this empirical study surveys 275
portfolio companies from Danish-based Venture Capital funds operating within ICT or Life
Science. The survey consists of 28 questions on the perceived contribution of the VC funds in
various value-added activities, as well as a maximum of 37 questions on the characteristics of the
firm, the founders, the deal, and the level of interaction with the fund.
With 69 usable responses, the effect of the stage on the portfolio companies perceptions is
analysed through a factor analysis which constructs eight factors from the 28 questions on
perceived value-add to be used as dependent variables in an ordinary least-squares regression.
We construct two models using backward selection: First a model including independent
variables for company stage, industry, age, founder experience, prior funding, the size of
investment, and a factor for the degree of interaction between the firm and the fund. Thereafter,
we construct an identical model which additionally includes nine dummy variables for the
individual funds in our sample which assesses the specialization of funds by modelling whether
the effect of stage from model one is removed by the funds.
We find that the perceived importance of value-added activities differs across portfolio company
stages for factors of strategy, market position, and credibility, while we find no difference across
stages for factors of technology, professionalization, finance, internationalization, or exit
orientation. We also find that Venture Capital funds specialize in stage with respect to value-
added activities within strategy, market position, and credibility. Finally, we find that increasing
the amount of interaction between the Venture Capital fund and its portfolio company results in
a higher perceived contribution of the fund, all else equal.
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Page 1 of 108
Table of Contents
1. Introduction............................................................................................................................................. 5
2. Literature Review .................................................................................................................................... 7
2.1 Perspectives on Venture Capital: Financial Intermediary versus Value-Add .......................... 8
2.1.1 Financial Intermediary Perspective ........................................................................................ 8
2.1.2 Value-Added Perspective ......................................................................................................... 9
2.2 Knowledge Transfer and Value-Add from the Venture Capital Fund ................................... 10
2.3 Fund Level Determinants of Value-Added Activities .............................................................. 11
2.4 Specializations of Venture Capital Funds ................................................................................... 12
2.5 Effects of Stage Specialization ..................................................................................................... 13
2.6 Specific Value-Added Activities and Hypothesis Formation .................................................. 16
2.6.1 Strategic Value-Add ................................................................................................................ 17
2.6.2 Financial Value-Add ............................................................................................................... 18
2.6.3 Credibility Value-Add ............................................................................................................. 19
2.6.4 Professionalization Value-Add .............................................................................................. 20
2.6.5 Marketing Value-Add ............................................................................................................. 21
2.6.6 Technological Value-Add ...................................................................................................... 22
2.6.7 Internationalization Value-add .............................................................................................. 23
2.6.8 Exit Orientation Value-Add .................................................................................................. 24
2.6.9 Fund Stage Specialization ...................................................................................................... 25
3. Methodology ......................................................................................................................................... 26
3.1 Sample Selection ............................................................................................................................. 26
3.1.1 Geography ................................................................................................................................ 27
3.1.2 Institution Type ....................................................................................................................... 27
3.1.3 Industry ..................................................................................................................................... 28
3.1.4 Sampling Error ........................................................................................................................ 29
3.2 Survey Construction ....................................................................................................................... 30
3.2.1 Value-Added Activities ........................................................................................................... 31
3.2.3 Survey Errors ........................................................................................................................... 36
3.3 Data Collection ............................................................................................................................... 37
3.3.1 Format of Survey and Email ................................................................................................. 37
3.3.2 Obtaining Contact information ............................................................................................ 37
Page 2 of 108
3.3.3 Data Collection Errors ........................................................................................................... 39
3.4 Data Correction .............................................................................................................................. 39
3.5 Methods for Data Analysis ........................................................................................................... 41
3.5.1 Variable Construction and Data Treatment ........................................................................ 41
3.5.2 Analysis Methods for Factor Analysis ................................................................................. 43
3.5.3 Analysis Methods for OLS Regression ................................................................................ 45
3.5.4 Including Fund Dummies ...................................................................................................... 47
3.5.5 Analysis Errors ........................................................................................................................ 47
4. Results .................................................................................................................................................... 49
4.1 Factor Analysis................................................................................................................................ 49
4.1.1 Factor Analysis of Dependent Variables ............................................................................. 49
4.1.2 Factor Analysis of Interaction Term .................................................................................... 52
4.2 Regression Analysis ........................................................................................................................ 52
4.2.1 Descriptive Statistics .............................................................................................................. 52
4.2.2 Model I: Factors Regressed on Stage .................................................................................. 57
4.2.3 Model II: Factors Regressed on Stage and Characteristics .............................................. 57
4.2.4 Model III: Factors Regressed on Stage, Characteristics, and Interaction ....................... 59
4.2.5 Model IV Backward Selection of Model of Stage on Value-Added Activities ........... 61
4.2.6 Model V Controlling for Individual Funds ...................................................................... 64
4.3 Hypothesis Evaluation ................................................................................................................... 67
5. Discussion .............................................................................................................................................. 69
5.1 Hypotheses 1-8: Value-Added Activities and Stage .................................................................. 69
5.2 Hypothesis 9: Venture Capital Stage Specialization .................................................................. 74
6. Conclusion: ............................................................................................................................................ 76
6.1 Implications for Practitioners and Researchers ......................................................................... 77
6.2 Limitations and potential weaknesses of our research .............................................................. 78
7. Recommendations for Future Research ............................................................................................ 80
8. Bibliography........................................................................................................................................... 81
Appendix .................................................................................................................................................... 89
I. Overview of Interviews .................................................................................................................... 89
II. Number of VC Investments by Industry in Denmark .............................................................. 90
III. Sample Survey ................................................................................................................................ 91
IV. Individual KMO Scores .............................................................................................................. 100
Page 3 of 108
V. Overall Principal Component Analysis with Screeplot ............................................................ 101
VI. Principal Component Analysis of Dependent Variables ....................................................... 102
VII. Principal Component Analysis of Interaction ........................................................................ 104
VIII. Heteroskedasticity Tests .......................................................................................................... 105
IX. Theory of the Special Case of White Test ................................................................................ 108
Page 4 of 108
List of Tables
Table 1: Overview of Funds Present in Our Sample........................................................................... 28
Table 2: Distribution of VC-backed firms in sample and in responses ............................................ 40
Table 3: Factorability Tests ...................................................................................................................... 49
Table 4: Rotated Principal Component Analysis ................................................................................. 50
Table 5: Cronbach Alpha Scores ............................................................................................................ 51
Table 6: Factor Loadings Matrix............................................................................................................. 51
Table 7: Descriptive Statistics: Value-Add Importance ...................................................................... 52
Table 8: Descriptive Statistics: Independent Variables ....................................................................... 53
Table 9: Correlation Matrix (1/3) ........................................................................................................... 54
Table 10: Correlation Matrix (2/3) ......................................................................................................... 55
Table 11: Correlation Matrix (3/3) ......................................................................................................... 56
Table 12: Regression i Output ................................................................................................................ 57
Table 13: Regression ii Output ............................................................................................................... 58
Table 14 Regression iii Output ............................................................................................................... 60
Table 15: Regression iv Output .............................................................................................................. 63
Table 16: Regression v Output ............................................................................................................... 65
List of Figures
Figure 1: Outline of the Theoretical Causality of the Thesis ................................................................ 7
Page 5 of 108
1. INTRODUCTION
How, as a fund, can I deliver the most value along with my money cause my moneys as green as
someone elses?
- Josh Kopelman (2013), Partner at First Round Capital
Venture Capital is the collective term for capital provided to early-stage, high risk growth
companies. It operates in the undergrowth of the business formation forest by investing large
sums of money in companies that have unobservable track records, but have the drive to get
places, helping turn the ideas entrepreneurs of today into the companies of tomorrow.
In recent years, this question of value-add has become ever more relevant from the perspective
of both the fund and the entrepreneurs. The Venture Capital industry globally has seen only
modest returns and a declining number of funds (EVCA 2012; NVCA 2012). This directly
affects entrepreneurs, who list access to financing and bridging financing gaps as one of their
largest challenges (EVCA 2012). Venture Capital is also ever-present in the minds of national
governments and intra-governmental organizations such as the EUs, as it has a direct effect on
innovation, job creation and growth in societies (Kortum and Lerner 1998). As a consequence,
governments are pledging ever more money to innovation incubators, accelerators, direct
investments, or funds-of-funds (E&Y 2010). Despite all this focus on Venture Capital, it still
remains unclear how Venture Capital funds should overcome this challenge of adding value to
portfolio companies and harvest solid returns.
Academia research, although still a relatively young domain of research, is strongly warranted by
the contemporaneousness of this issue. Two perspectives on role of Venture Capital are
predominant: One stream investigates how funds can optimize their investments from a finance
and economics perspective, utilizing concepts such as risk-reward and portfolio diversification.
The other, based in management and entrepreneurship research focuses on the contribution of
the Venture Capital fund in the interaction with its portfolio companies (Landstrm 2007).
While the former theory might be utilized in practice, there is a clear observation of the latter
with funds moving towards a pyramidal structure, attempting to provide more assistance, and
ultimately value, to their portfolio companies (Wasserman 2005). Value-added activity is a branch
of research within Venture Capital which examines these post-investment activities of Venture
Capital funds towards their portfolio companies. It is engaged in the types of activities conducted
by the Venture Capital funds, such as assistance and knowledge transfer, as well as the
Page 6 of 108
determinants of Venture Capital funds capability of these activities, such as what knowledge
stock the Venture Capital fund holds and the mode of each individual activity. Overall, it focuses
on the Venture Capital funds ability to conduct value-added activities successfully.
In this paper, we shed light on one aspect of this. We investigate how the stage of the company
relates to the need for value-added activities in portfolio companies, and whether or not Venture
Capital funds actually act on the demands of their portfolio companies. This paper therefore
investigates the relationship between portfolio companies and Venture Capitalists with the
following research question:
How do Venture Capital funds value-added activities to their portfolio companies differ between stages, and do
the funds specialize accordingly?
In the following section this thesis will first outline the literary framework for value-added
activities within Venture Capital and construct nine hypotheses on the effect of stage on the
perceived value of various value-added activities. This will be followed by section three, which
contains the procedures used in this empirical study. This section contains the selection of our
sample of all current ICT and Life Science portfolio companies in Danish-based Venture Capital
funds, followed by an elaboration of our survey assessing entrepreneurs perception of VC funds
contribution of value-added activities. This section concludes with an overview of our collected
data and the methods used in this regard. Section four contains the results from our two analysis
methods. First we conduct a Principal Component Analysis which groups answers within
underlying factors allowing them to be used in a regression analysis. Second we model these
factors against characteristics of the company and its founders in an Ordinary Least-Squares
regression analysis to predict whether there is a significant difference between stages. Finally our
hypotheses will be evaluated based on the regression outputs. Section five discusses our results
in relation to our hypotheses and previous research, which leads to section six and the
conclusion of our research question. This will be followed by an assessment of this thesis
significance and implications for future research.
Page 7 of 108
2. LITERATURE REVIEW
This section places this thesis within the extensive literary framework on Venture Capital and
provides a foundation for generating our hypotheses in relation to our research question. We
first conduct a brief review of the two overarching perspectives on Venture Capital to highlight
the differences between the two. A section on the impact of VC funds involvement in their
ventures, which addresses the factor of interaction on value-added activities, will follow. Then,
we will consider theories behind the impact of specialization of VC funds with respect to
geography, industry, and stage of the portfolio company. This finally leads to our hypotheses
formation, where we investigate the literature base for particular value-adding activities and how
these activities relate to stage from the entrepreneurs perspective. The theoretical causality is
highlighted in figure 1 (below).
FIGURE 1: OUTLINE OF THE THEORETICAL CAUSALITY OF THE THESIS
Hypothesis Formation
Effects of Stage Specialization
Specializations of Venture Capital Funds
Fund Level Determinants of Value-Added Activities
Knowledge Transfer and Value-Add from the Venture Capital Fund
Perspectives on Venture Capital: Financial Intermediary versus Value-Added
Page 8 of 108
2.1 PERSPECTIVES ON VENTURE CAPITAL: FINANCIAL INTERMEDIARY VERSUS
VALUE-ADD
Research on Venture Capital (VC) generally takes two perspectives. One is that Venture Capital
funds (from here on referred to as VC funds) are purely financial intermediaries, reducing
information asymmetries and thereby uncertainties. The other is that VC funds also act as value-
adding investors who advise and help operate their portfolio companies, thus providing real
value enhancement (Bertoni, Croce, and Quas 2010).
2.1.1 FINANCIAL INTERMEDIARY PERSPECTIVE
The financial intermediary understanding of VC stems from the premise that VC funds operate
in markets with information asymmetries. These asymmetries create a state where there is an
excess demand of capital through credit rationing which results in profitable projects not being
funded. In these situations, VC funds act as mechanisms to reduce the information asymmetries
and resulting adverse selection problems (Amit, Brander, and Zott 1998). Additionally, the
financial intermediary perspective is concerned with principal-agent issues in which moral hazard
exist between the VC-fund and the entrepreneur from the premise that incentives are not always
aligned (Kaplan and Strmberg 2001).
In the financial intermediary understanding, the VC fund is oriented towards three methods of
overcoming uncertainties, adverse selection and moral hazard. First, a key activity is selecting
ventures correctly through a screening process which is particularly targeted high-technology
startups with an unobservable track-record, whereby information that was previously hidden is
understood and thus eliminates the effect of adverse selection (Ueda 2004). Second, the VC fund
contractually eliminate moral hazard issues by virtue of control rights e.g. in the shape of cash-
flow rights, voting rights, redemption rights (Kaplan and Strmberg 2001). These contractual
terms allow an element of control over the portfolio company, with which divergent incentives
and intentions can be mitigated. Last, VC funds engage in extensive monitoring efforts, e.g.
through reports on various key performance indicators in the portfolio ventures. This structure
frequently revolves around a staging of financing within an investment: instead of a lump sum
given to the entrepreneur, the total investment is divvied along multiple rounds, each of which is
contingent on the portfolio companys progress. This allows a VC fund to control for moral
hazard issues with respect to the entrepreneur along the lifetime of their principal-agent
relationship (Gompers 1995).
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Indeed the financial intermediary perspective contributes to a substantial part of the
understanding of Venture Capital and its raison d'tre. The following section will now focus on
the perspective of value-add.
2.1.2 VALUE-ADDED PERSPECTIVE
The value-added perspective is concerned with the VC funds efforts to improve the operations
of their portfolio firms through an active involvement in their investments which exceeds solely
monitoring efforts. The VC funds attempt to gain a competitive advantage through a costly
effort to advise and control the entrepreneurial ventures. The value-added perspective is thereby
only concerned with the post-investment activities of the Venture Capital process (for
characterization of the phases, see Tyebjee and Bruno 1984). De Bettignies and Brander (2007)
find that the existence of VC funds as purely financial intermediaries eventually discontinues
them from an entrepreneurial choice perspective, as the survival of the VC fund necessitates
value-added contributions when entrepreneur ownership is diluted in relation to bank financing.
This evaluation serves, given an availability of bank financing, as an argumentation for the
existence of value-added efforts.
From the basis of performance post-Initial Public Offering (IPO), Arthurs and Busenitz (2006)
find that VC-backed firms are better able to cope with product-related and management issues
or as they put it, VC-backed firms exhibit better dynamic capabilities. This is due to VC fund
involvement and engagement in value-added activities. This conclusion remains weak, in the
sense that it seems hard to distinguish whether involvement actually caused this ability or if it is
simply caused by superior selection efforts in the pre-investment phase. Baum and Silverman
(2004) shed light on this question of whether Venture Capital funds select ventures which are
inherently stronger performing or if they are able to build them. In their study, they find
evidence of both occurrences taking place, i.e. that the selection efforts as well as the value-add
measures result in better IPO performance of the portfolio company. The study finds significant
evidence for the effect of value-added activities, but could not conclude on the isolated effect of
value-added activities. This conclusion is in line with Frederiksen, Olofsson, and Wahlbin (1997),
who find evidence that Venture Capitalists conduct value-added activities through active
involvement. The economic development of the portfolio companies and its relationship to
value-added is unclear, with Frederiksen, Olofsson, and Wahlbin (1997) interestingly implying
that this results from VC funds dedicating their time to interacting with underperforming
portfolio companies, fittingly coined firefighting in the article.
Page 10 of 108
These studies, which find evidence for the impact of value-add, are in conflict with the
conclusions of Bertoni, Croce, and Quas (2010). Their study showed that value-add is not
significant, in the sense that it seemed to be appropriated by non-VC-backed firms in the market,
resulting in no significant differences being perceived. There thus seems to be disagreement with
respect to the effect of value-added activities on portfolio companies in VC funds.
In conclusion, it is not entirely agreed upon whether VC funds that conduct extensive value-
added activities actually exhibit better performance from a portfolio and, in extension, from a
fund perspective. In this paper, however, we intend to apply the broader, value-added
perspective rather than the financial intermediary perspective, as it seems likely that capability
building as a result of value-added activities does occur. Thus the question becomes how these
value-added activities transfer knowledge from the VC fund to the portfolio company. The
following section sheds light on this subject.
2.2 KNOWLEDGE TRANSFER AND VALUE-ADD FROM THE VENTURE CAPITAL
FUND
The premise of value-added activities is that entrepreneurial firms can learn from their investor.
This entails a level of interaction between the two parties as well as permeability of knowledge
between the VC fund and the portfolio company. The following section attempts to explain
these two mechanisms: interaction and permeability.
Interaction can be interpreted as communication between the VC fund and the portfolio
company. Studies have shown that Venture Capitalists spend 45-70% of their time assisting
their portfolio companies (Zider 1998; Gorman and Sahlman 1989). Interaction consequently
signifies a key part of what Venture Capitalists do. In that regard, Sapienza (1992) finds that the
frequency of interaction is a determinant of the perceived value-add from the VC fund, thus
lending support to the notion that interaction plays a part in transferring knowledge. However,
just as there is uncertainty regarding whether or not value-add actually increases performance,
there is also uncertainty regarding the relationship between interaction and performance.
Bottazzi, Da Rin, and Hellmann (2008) find that when controlling for reverse causality, i.e. VC
funds may interact more with companies that perform well or poorly, which is similar to the
proposition of Frederiksen, Olofsson, and Wahlbin (1997), the level of interaction is not a
significant determinant of portfolio company performance. However, they do find that value-
added activities themselves are significant and positive. Activism in the broad sense on the part
Page 11 of 108
of VC funds thus helps guide the portfolio company towards success, but the study did not find
that interaction, as a measure of communication, significantly contributed to the success of the
portfolio companies. This lends to this thesis framework by forming a distinction between
interaction and value-added activities.
The second mechanism of knowledge transfer is the permeability of knowledge. This aspect of
knowledge transfer is arguably governed by the nature of the relationship between the VC fund
and the portfolio company. In this regard, Berglund, Hellstrm, and Sjlander (2007) suggest
that merely through a VC funds presence in the processes of the entrepreneurial firm, VC funds
can contribute to the entrepreneurs learning capacity, thus representing a form of indirect
knowledge transfer under the right circumstances. More directly though, the high degrees of
knowledge sharing, relationship-specific investments, goal congruence, and the level of trust
between the two actors have been proposed as conducive to the quality of value-added activities
(De Clercq and Sapienza 2001). This capacity to establish a solid relationship for permeability of
knowledge further instigates better perceived performance (De Clercq and Sapienza 2006).
Relationships and the corresponding permeability of knowledge thereby constitute a mechanism
through which value-add is transferred, potentially increasing the performance of the portfolio
companies and consequently the VC funds. This highlights the idea that the value-added
perspective is of a softer nature than the financial intermediary perspective. The complexity of
permeability of knowledge lends to this thesis omitting it as a further area of interest. While
explanatory, it is still in a propositional stage of research and will therefore be disregarded for the
remainder of this thesis. We assume value-added activities are only transferred through
interaction when active efforts exist, thus taking the degree of permeability for granted.
2.3 FUND LEVEL DETERMINANTS OF VALUE-ADDED ACTIVITIES
We have given a review of the dichotomous research orientations with respect to Venture
Capital, i.e. the financial intermediary vs. value-added perspective. Given this thesis focus on
value-added activities, we highlighted the mechanisms through which knowledge is transferred
between the VC fund and the portfolio company. In the following section we emphasize how
value-added activities are related to VC fund level strategies, focusing on VC fund specialization
as a method to enhance value-add to portfolio companies, beginning with the concept of limited
attention.
Page 12 of 108
Given that interaction is the mechanism through which knowledge is transferred, there is a cost
associated with value-added activities. This presents itself through a time-resource constraint in
VC funds, implying an allocation of the VC funds efforts between portfolio companies
(Fulghieri and Sevilir 2009; Gifford 1997). The Venture Capitalist in effect experiences a
tradeoff between dedicated efforts to a few ventures and a low involvement in many ventures,
risking by analogy scraping butter over too much bread. Portfolio size thereby becomes a determinant
of the level of value-added activities given a set time resource. Nevertheless, portfolio size is not
the only determinant given such a time constraint. Funds can also specialize in a particular type
of firm to have the highest possible degree of adaptation to portfolio company needs, thereby
making their value-added activities more constructive. The foundation of specialization is that
VC funds are able to accumulate knowledge that can be transferred to the portfolio companies.
Highlighting this concept, Yang, Narayanan, and Zahra (2009) conclude from an organizational
learning perspective that the Venture Capitalist learns from a diversity of experiences, which
contribute to an overall understanding of a concept, as well as intensity of the experiences that
contribute to an in-depth expertise. This implies that under time and learning constraints a trade-
off ultimately exists between specialized and diversified learning from the VC funds point of
view, where the in-depth expertise represents a specialized accumulated knowledge (Yang,
Narayanan, and Zahra 2009).
To obtain and accumulate this type of knowledge, VC funds can specialize in particular types of
ventures, thus incurring a higher intensity of experiences and becoming experts in that field. This
specialization results in a more particular type of expertise, reducing uncertainties associated with
working with portfolio companies. Such a specialization can occur along multiple dimensions,
namely geography, industry, and stage, which will be reviewed in the following section. As stage
is the primary focus of this paper, the former two will be evaluated briefly, while the latter will be
given a more extensive literary review.
2.4 SPECIALIZATIONS OF VENTURE CAPITAL FUNDS
We have thus far established that the amount of attention paid to a specific portfolio company,
along with the expertise behind the attention, are determinants of value-added activities and that
this accumulation of knowledge can be obtained through specialization. The question then
becomes what implications specialization carries, which will be investigated here.
Page 13 of 108
Gompers, Kovner, and Lerner (2009) investigate the relationship between organizational
structure with respect to industry specialization and the success of the VC funds investments,
and whether this specialization results in improved or worsened performance. They find
conclusive evidence that specialization is associated with a higher probability of IPO exit, a
desired outcome of VC investments. Patzelt, Zu Knyphausen-Aufse, and Arnoldt (2006)
moderate this conclusion by stating that diversification within an industry also effectively reflects
a risk diversification because the within-industry risk profiles of portfolio companies can be
substantially different. It has to be kept in mind that the sample used was biotechnology firms
which encompass highly different risk profiles depending on their technological basis, thus
making inference to other industries less given.
The matter of specialization versus diversification is extensively researched by Knill (2009).
Knills (2009) premise is that the choice between specialization and diversification is determined
by the nature of the VC funds limits with respect to time and expertise. Through an
investigation across industry, geography, and stage, the author finds that diversification is
significantly and positively related to the growth of the VC fund over time, with stage
representing the second strongest predictor. The analysis also concludes that the entrepreneurial
outcome, measured in the study by time to exit via IPO, is negatively related to diversification of
industry and stage, with industry having the most negative impact. In addition to conclusions
that span geography, industry, and stage specialization, the study highlights a divergence between
the VC fund and its portfolio company in their determinants of success. Knill (2009) thereby
validates that stage specialization results in better performing firms because of increased levels of
competency transfer. It also highlights that different interests exist in the relationship between
VC fund and portfolio companies when it comes to stage specialization, lending to the necessity
of research on the interaction between stage specialization and the portfolio firm perspectives.
Thus, it serves as a fitting outset for a characterization of how stage specialization is viewed in
the literature. The following section will attempt to shed light on this factor of VC fund strategy.
2.5 EFFECTS OF STAGE SPECIALIZATION
The premise for stage specialization is arguably best characterized through life-cycle theory. The
concept of firm development through stages stems from an extensive body of literature
commonly termed life-cycle growth models, in which a firms development consists of a
sequence of challenges that have to be overcome to transition to the following stage (see Phelps,
Adams, and Bessant 2007 for an exhaustive review of literature on life-cycle theories). These
Page 14 of 108
various stages characterizations help define and frame firm development, but seem to lack a
stringent definition (Hanks et al. 1994). What furthermore complicates the understanding of
stages with respect to VC funds and their relationship to the portfolio companies is that stage as
a concept can be defined as one thing from the perspective of the VC fund, and another from
that of the portfolio company. Either way, the underlying concept behind firm stages, i.e. that
entrepreneurial ventures undergo a sequential development with corresponding changing nature
of challenges, seems to be commonly accepted and connected with the sequencing of finance in
the Venture Capital industry (e.g. Smith, Smith, and Bliss 2011; De Clercq et al. 2006; Sahlman
1990; Ruhnka and Young 1987).
Given that entrepreneurial ventures undergo a transformation as they develop, particularly with
respect to challenges and needs, this lends to a foundation for stage specialization of the VC
fund from the premise of portfolio companies need for specific knowledge requirements and
assistance in building expertise. This would explain why stage specialization is observed to be
relatively common in VC funds. (Gejadze, Giot, and Schwienbacher 2012; Bartkus and Hassan
2009). Norton and Tenenbaum (1993) further add to the concept of stage specialization through
an investigation of how systematic and unsystematic risk apply to Venture Capital, more
specifically how specialization and information sharing act as risk control measures. They find
that VC funds tend to specialize in particular stages. Furthermore, VC funds that are involved in
early stages focus on particular industries because of the necessity of specialized industry
knowledge.
It is thereby possible to distinguish between VC funds that specialize and VC funds that do not.
Schwienbacher (2012) depicts these options from an entrepreneurs point of view, where he
deduces that when faced with a choice between a specialized versus a generalist VC fund, the
entrepreneur faces a tradeoff. A specialist fund has a higher potential for value-add due to
cumulated expertise, but lacks the ability or incentive to carry the venture across stages. Contrary
to the specialist fund, the generalist fund has the ability to carry the portfolio company through
multiple phases, but potentially lacks the specialized knowledge to guarantee a high value-add,
often resulting in lower growth. Schwienbacher (2012) concludes that the potentially higher
growth path for the startup matters more than the risk of premature startup liquidation
stemming from a lack of ability to obtain follow-up financing. This proposition is supported by
G. Smiths (1999) results regarding the selection criteria of entrepreneurs with respect to VC
funds, where the stage specialization ranks in the upper quartile. Schwienbachers (2012)
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theoretical proposition is also in line with Clercq and Dimov (2006), who find stage
specialization to be negatively associated with startup failure rates, thereby supporting
Schwienbachers (2012) proposed notion that the value of specialized expertise outweighs pre-
mature cessation. This indicates that there is evidence of benefits to both entrepreneurs and VC
funds when it comes to the accumulation of stage-specific knowledge.
However, the evidence for stage specialization is not conclusive. Several studies find that it is
stage diversification which increases fund performance, rather than stage specialization. Bartkus
& Hassans (2009) empirical study finds a positive and significant relationship between stage
diversification and VC fund performance with respect to successful exits. In relation to
Schwienbacher (2012)s proposition regarding the upside of the generalist fund, Bartkus &
Hassans (2009) dependent variable, exit success, could exhibit a positive relation to stage
diversification because funds that span stages are better able to guarantee follow-up financing.
Bartkus & Hassans (2009) conclusions are somewhat supported by Cumming, Fleming, and
Schwienbachers (2009) study of style drift in Private Equity, i.e. deviations in stated stage focus
by a Private Equity fund, keeping in mind that their stage definition is wider than that of other
studies.
Within the literature of stage specialization, researchers have found that there is a tendency to
move towards later stage specialization, for example De Clercq et al. (2001) study of the Finnish
Venture Capital funds. They also found, given a higher mean stage of investment, a tendency for
diversification across stages, geography, and companies. This lends an interesting aspect to the
concept of risk diversification from the resource-based view of specialization: the trend observed
by De Clerq et al (2001) does not seem to stem from intent to specialize, but rather from a
profit-oriented risk diversification. Justifications for this strategic move can be found in empirical
evidence from Gompers, Kovner, & Lerner (2009) who find that funds focusing on later-stage
investments exhibit higher exit success rates. This in turn may cause a shift towards the later
stages. Another perspective in this regard is that the late-stage orientation is caused by a
disproportional growth in assets under management in monetary terms, which given a lack of
growth in the funds human capital resources implies a higher investment size in order to have a
sufficient degree of interaction with the portfolio company (Bygrave and Timmons 1992 through
Elango et al. 1995).
Either way, this shift towards the later stages is a trend that carries implications for the structure
of Venture Capital markets, because the VC funds in later stages are dependent on a flow of high
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quality ventures that have received prior funding. This shift has led to the much debated concept
of the funding- or equity gap in various markets (e.g. Cressy 2012; Murray 1999), followed by
governmental interventions in the market to avoid financial starvation of entrepreneurial
ventures ( e.g. Da Rin, Nicodano, and Sembenelli 2006).
This concludes our review of literature that sets the stage for our hypothesis formation. We find
a relevant conjunction between stage specialization of VC funds and their value-added activities
and that an investigation is appropriate and serves to contribute to existing literature. We
emphasize that our understanding of the gap in the literature, with respect to the
characterizations of stage specialization and value-add activities and the interactions between
them, is shared with De Clercq and Manigart (2007). Furthermore, we believe the entrepreneurial
perspective on this matter lends to interesting insights that add to the understanding of value-
added activities and Venture Capital in general.
2.6 SPECIFIC VALUE-ADDED ACTIVITIES AND HYPOTHESIS FORMATION
In the previous sections we have attempted to investigate the interactions between VC funds and
their strategies with respect to portfolio companies. The following section represents a review on
how value-add is perceived in the literature and how it interacts with stage. This section serves,
based on the previous sections, to theoretically outline this thesis hypotheses.
Large and Muegge (2008) provide an extensive review on the literature on non-financial value-
added activities, in which we also took a preliminary outset. It is important to note that
singularizing a specific area of focus from articles investigating several dimensions of value-add
would involve omitting other investigated variables. This would impoverish the value of the
previous research. Therefore, several studies in the following section span multiple sub-sections
of value-added components to avoid omitting relevant observations. Furthermore, we utilize the
distinction between types of value-added provided by Luukkonen, Deschryvere, and Bertoni
(2013). This distinction between types of value-add relatively closely resembles the classifications
used in Large and Muegge (2008) with respect to horizontal levels (e.g. executive, marketing &
sales), whereas the applied distinction excludes the differentiation on the vertical level (e.g.
legitimization, mandating, strategizing). The vertical dimension is instead applied as singularized
types of value-added activities.
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2.6.1 STRATEGIC VALUE-ADD
The literature does not seem to agree on the definition of strategic contributions. Due to its
loosely defined nature, it is frequently a topic of interest whether in the form of a distinct focus
or in the shape of a more precisely defined variable that essentially is a subset of strategy.
Strategic value-add from the VC fund to the entrepreneurial firm is typically understood as the
VC fund guiding the entrepreneur in the right direction, primarily done through board
representation (Fried, Bruton, and Hisrich 1998). Strategy is furthermore composed of an
internal process and is related to context of the entrepreneurial firm. Wijbenga et al. (2003)
propose that this context is best understood by the inclusion of an assessment of the degree of
fit with regards to strategic involvement, the premise being a distinction between agency,
entrepreneurial, positioning, and resource fit. This definition would capture in more detail the
mechanisms which drive strategic importance.
More studies have instead taken strategy as isolated from environmental concerns, i.e. from a
more general perspective. Sapienza, Manigart, and Vermeir (1996) find that VC funds perceive
the strategic role as being their most important contribution regardless of stage and that this type
of involvement potentially increases firm performance, in line with the conclusions of previous
studies (e.g. Ehrlich et al. 1994). This conclusion implies that entrepreneurial firms need strategic
contributions. Macmillan, Kulow, and Khoylian (1988) also reach this conclusion, asking
Venture Capitalists for the importance of their activities. Aside from the strategic role being the
most important, their study also finds that strategic importance exhibits little variance across
stages. Furthermore, Gabrielsson and Huse (2002), in a dyadic perception-based study, find the
development of business concepts/strategies to have a middle-of-the-pack importance level,
although being recognized as the boards main task. The conflicting results are possibly due to
the different contexts of the studies and the various value-added components which were
studied.
Regardless of the various definitions, strategic value-add overall seems to be an important type
of value-added activity, as it contributes to the ability of the portfolio company to orient itself in
its environment. Pratch (2005) highlights that strategic value-add mainly lies in providing critical
thinking, first and foremost defining the company with respect to its value proposition and
business model. This defining orientation, Pratch (2005) argues, is effectively a continuous
reevaluation of the entrepreneurial firm as it transitions through its life cycle. This implies that
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strategic value-add is an important feature of the fund-firm relationship at all stages of
development.
From the above review, we hypothesize that strategic value-add has a substantial value-add effect,
irrespective of the company stage because it is an iterative and continuous process.
Thus:
H1: There is no significant effect of stage on strategic value-add
2.6.2 FINANCIAL VALUE-ADD
Financial value-add is primarily concerned with the VC funds ability to actively contribute to
raising additional capital for the portfolio firm. This additional capital can stem either from the
VC fund themselves in the form of staged follow-on finance, from non-equity sources e.g.
through banks, or from attracting third-party VC funds.
Gomez-Mejia, Welbourne, and Balkin (1990) investigate financial value-add using a definition
that includes financial management, i.e. building financial capabilities in the portfolio company,
as well as the above-mentioned forms of capital. Based on interviews, their study finds that the
importance of financial contributions as perceived by the entrepreneur is significantly important,
both with respect to financial management and capabilities, as well as raising direct and indirect
capital. This is in line with the dyadic perception-based findings of Gabrielsson and Huse (2002)
with respect to building financial competencies and the acquisition of capital. This is also
consistent with numerous other studies (Maula, Autio, and Murray 2005; Ehrlich et al. 1994;
Gorman and Sahlman 1989; Macmillan, Kulow, and Khoylian 1988). The only inconsistency in
the literature to the authors knowledge is Sapienza (1992, pt. through Large and Muegge 2008)
which finds that from dyadic perspectives, the role of financier is only moderately important.
This inconsistency can stem from a multitude of causes, examples being the context of questions
asked, the definition of the financial value-add which remains unspecified in the article, or the
sample. Nevertheless, there still seems to be a relatively high degree of agreement in the literature
with respect to the significance of financial value-add. Given the premise that a firms survival is
dependent on continuous financial resources to develop and expand the business, and that a
startup firm intends to progress through all of its life-cycle stages, it can be argued that the
startup has needs for external financial contributions regardless of stage (Smith, Smith, and Bliss
2011).
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We thus hypothesize that given the evidence from previous literature with respect to the
importance of financial contributions and the continuous nature of this need, financial value-add
has a significant effect irrespective of stage:
H2: There is no significant effect of stage on financial value-add
2.6.3 CREDIBILITY VALUE-ADD
In addition to active efforts in competency transfers from the VC fund to the portfolio company,
the VC fund also contributes passive qualities that add value to the portfolio company. Of these
passive elements, reputation or in effect credibility is particularly important.
Startups are characterized by high degrees of uncertainty and unobservable track records.
However, if the startup is affiliated with a third party that exhibits high degrees of observable
credibility, part of this reputational benefit will effectively spill over to the startup. This lends to a
lowering of the externally perceived uncertainty regarding the quality of the startup (Hochberg,
Ljungqvist, and Lu 2007). This affiliation with a VC fund with a high prominence increases the
likelihood that the VC is associated with other prominent investors and thus improves deal-flow
(Hochberg, Ljungqvist, and Lu 2007). This in turn creates the effect that the reputation of a VC
fund becomes a desirable quality from the entrepreneurs perspective. Therefore, as Hsu (2004)
argues, a market effectively arises where startup firms pay for affiliation with high-reputation
VC funds by accepting lower valuations, of which he also finds empirical support.
Furthermore, Stuart, Hoang, and Hybels (1999) investigate this type of endorsement in relation
to performance at the IPO stage. They find that, for the portfolio company, the prominence of
an affiliated VC fund facilitates the association of other prominent partners, and has a
significantly positive effect on the IPO. This conclusion is in line with the findings of Megginson
and Weiss (1991), Dolvin (2005) and Nahata (2008) with respect to various normative IPO
metrics, such as reduced underpricing at IPO, lowered underwriter costs, and issuance costs.
In conclusion, there is evidence for the importance of credibility, warranting its investigation. We
theorize that the effect of this value-add applies equally to through the various stages of the
startups development i.e. pre-seed through expansion, but also in terms of exit. Thus we
hypothesize:
H3: There is no significant effect of stage on credibility value-add
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2.6.4 PROFESSIONALIZATION VALUE-ADD
Professionalization is a commonly studied topic within the value-added perspective.
Professionalizing the portfolio companies is primarily pursued because a) total dependency on
the entrepreneur for management of the portfolio company is risky and inherently
counterproductive and b) it makes the firm easier to finance, both for the VC fund and in
follow-up rounds (Zingales 2000). Active efforts on part of the VC fund towards
professionalizing the portfolio company thus constitute a value-add activity through efforts such
as corporate governance, HR policies, board, management, and advisor setup. With respect to
corporate governance, Hochberg (2011) conducted a normative study of venture-backed versus
non-venture backed firms in the post-IPO phase. The study finds that VC-backed firms have
better governance in the post-IPO phase when measured as cost control management, market
reactions to shareholder rights agreements, and lastly a string of board, audit and chairman
metrics.
Meanwhile, Sapienza (1992, pt. through Large and Muegge 2008) investigates recruitment of
management, and finds it to rank relatively low in importance. This finding is in line with
Gabrielsson and Huse (2002), who find professionalization to rank moderate and recruitment
low in importance, respectively, furthermore coinciding with the observations of CEOs in
Gomez-Mejia, Welbourne, and Balkins (1990) dyadic study.
From a human capital perspective, Hellmann and Puri (2002) investigate how VC funds
professionalize their portfolio company from the firm perspective. Specifically, they investigate
how VC funds build the internal organization, such as HR policies and the recruiting of
management, along with an investigation of CEO turnover. Hellmann and Puri (2002) find that
VC-backed firms professionalize along these dimensions faster, but also that the importance of
the VC funds involvement is higher in the earlier stages of the firms development. This lends to
the concept that professionalization is one of the first things VC funds engage in once an
investment has been made.
Even if there is not conclusive agreement as to the importance of professionalization measures,
there is evidence in the literature that suggests that professionalization is more prominent in the
early stages of portfolio companies.
In conclusion, based on the literature we hypothesize that professionalization, and thereby the
construction of professional processes and of human capital, will be more prevalent in the earlier
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stages. Thereby the professionalization value-added activities effect from the firm perspective
will be higher the earlier the stage:
H4: There is a negative effect of stage on professionalization value-add
2.6.5 MARKETING VALUE-ADD
A significant part of the new ventures development is associated with the development of a
defendable market position, i.e. the commercialization of the ventures core business concept.
Building a solid market position represents an opportunity for the new venture to establish a
revenue base and generate profits to fund future growth. Stre (2003)s case study on informal
Venture Capital in Norway lends to the proposition that an important aspect of VC fund efforts
is to develop a market orientation. However, this concept of market orientation can be carried
out from a strategic rather than hands-on marketing base. This distinction is important because
the understanding of marketing in the literature exhibits overlaps between the strategic and the
operational side of marketing. Maula, Autio, and Murray (2005) apply a distinction between
social capital-derived marketing, similar to an operational understanding, and a knowledge-based
marketing, more congruent with a strategic understanding. In the study, they find that the two
components measure comparably in relation to each other and that they exhibit moderate
importance. However, that is not always the case. While the distinction is congruent with
Macmillan, Kulow, and Khoylian (1988), they find that VC fund investment managers in the
studys sample intended to be more engaged in marketing due to its importance in creating
growth, but that the level of actual involvement with marketing was low, in line with other
studies (Gabrielsson and Huse 2002, Ehrlich et al. 1994). Macmillan, Kulow, and Khoylian (1988)
explain this conflict of importance versus intent through the relative costs associated with them:
operational marketing efforts are more costly than strategic marketing efforts, with the VC fund
investment manage thus preferring to engage in marketing at the strategic level. Meanwhile,
Hellman and Puri (2000) study the time-to-market for venture-backed and non-venture-backed
companies, and find evidence that VC fund involvement results in significantly faster time-to-
market, implying a value-added activity in the early stages. This implies that VC funds to some
extent do exert operational marketing efforts.
In that regard, operational marketing value-add represents a significant part of venture
development. Nonetheless, the cost associated with it implies that it is not something that would
be perceived as important by the portfolio company, due to the low involvement of the VC fund
in this matter. However, we argue that as the marketing efforts move towards a more strategic
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nature with stage development, so does the VC fund investment managers involvement in the
effort, implying that the value-added effect should grow as the firm moves along its lifecycle.
In conclusion, we hypothesize that the effect of marketing value-add efforts will increase the
later the portfolio company stage, due to a transition from an operational marketing focus to a
strategic marketing focus. Thus:
H5: There is a positive effect of stage on marketing value-add
2.6.6 TECHNOLOGICAL VALUE-ADD
A commonly applied basis for innovation is the establishment and protection of new technology.
Innovative solutions are a frequently associated with startups and Venture Capital, and a series of
studies find Venture Capital to spur innovation in portfolio companies (e.g. Kortum and Lerner
1998; Popov and Roosenboom 2009). In line with these conclusions, Bertoni and Tykvov (2012)
find that VC funds actively promote their portfolio firms effort towards patenting, and by that
proxy spur innovation.
Meanwhile, this connection between innovation and Venture Capital is found to only weakly
exist in Engel and Keilbachs (2007) study of German startups. They explain this by the intensity
of innovation happening prior to VC investment, wherein a technological position is an ex-ante
condition for investment. This conclusion is supported by Caselli, Gatti, and Perrini (2009) who
find that VC funds do not significantly promote innovation, but rather the pursuit of greater
sales. It is thus important to recognize that VC funds contribution to innovation on a broad
level might be visible due to VC funds picking innovative firms ex-ante, while not focusing on it
ex-post, thereby lending to a conclusion that VC-backed firms are more innovative. This
coincides with the findings of Gabrielsson and Huse (2002), Ehrlich et al. (1994), and Macmillan,
Kulow, and Khoylian (1988) stating that building technical competence is perceived as being
relatively unimportant from both the VC funds and entrepreneurs perspectives.
VC funds furthermore add value to portfolio companies by leveraging their networks to establish
strategic alliances that foster inter-firm technological and R&D partnerships (Lindsey 2008). This
constitutes a value-added activity that exists outside of traditional mechanisms of transferring
value-add, in that it is external in nature. However, we do not perceive it as a significant category
of value-added activities, thus not particularly moderating the otherwise low importance
evidenced in the literature.
Due to the low importance associated with technological value-added activities, along with the
general perception in the literature that VC funds generally select innovative companies rather
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than building them, we hypothesize that the effect of technological value-added activities will be
more prominent in the earlier stages.
H6: There is a negative effect of stage on technological value-add
2.6.7 INTERNATIONALIZATION VALUE-ADD
Internationalization value-add represents the VC funds efforts to enhance the international
aspects of the portfolio company. It represents the knowledge, abilities, and resources of the VC
fund that are international in nature, which are transferred to the portfolio company. High-tech
startups aim to internationalize because it represents an ability to scale up, leveraging costs
already incurred, thus increasing profitability (Qian and Li 2003). Smolarski and Kut (2011) also
find internationalization to be associated with the VC fund post-investment phase behavior with
their investments and to be positively associated with performance. They conclude that
syndication and monitoring both positively influence internationalization and performance when
taken as separate effects, but that they moderate each other. This lends to the idea that VCs can
influence the internationalization of their portfolio firms, and that it is in the firms interest.
Fernhaber and Mcdougall-Covin (2009) also investigate this concept of internationalization of
new ventures from the premise of the resource-based view. In their framework the VC funds
transfer both their international knowledge and reputation and these two factors interaction
terms. They furthermore find empirical and statistically significant positive relationships between
knowledge and reputation of the VC fund, new venture internationalization, and their interaction
effect. This implies that VC funds to some extent drive their portfolio companies abroad. One
method through which this might occur is attracting customers from international markets. In
this regard, Maula, Autio, and Murray (2005) find that internationalization efforts based on the
VC funds ability to help the portfolio firm attract foreign customers exists, but ranks relatively
low in importance. This conclusion can probably be ascribed to not all respondents having or
intending to have international operations, which nonetheless means that the average importance
will be low.
In Lockett et al.s (2008) study, they find that VC-backed firms internationalization is
significantly related to the VCs value-add contributions as measured along similar methods as
Macmillan, Kulow, and Khoylian (1988). Although not specifically measuring internationalization
value-added activities, but rather value-added activities broadly, the results imply that the effect
of the VC funds efforts still significantly influences the portfolio companies internationalization
process. Furthermore, Lockett et al. (2008) concludes that, based on the premise of resource
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availability, pre-seed and seed-stage portfolio companies have significantly higher benefits from
VC fund value-add with respect to internationalization.
We therefore hypothesize that the effect of international value-add of a VC fund will be higher
in the earlier stages due to lower resource availability:
H7: There is a negative effect of stage on internationalization value-add
2.6.8 EXIT ORIENTATION VALUE-ADD
Exit orientation value-add consists of the VC funds ability to secure an exit opportunity for their
investment, potentially generating returns to both VC fund and portfolio company owners.
These exit opportunities consist of IPOs, company buybacks, trade-sales, liquidation, secondary
sales, and reorganization, where an IPO usually is the most desirable outcome from a return and
reputational perspective (Wang and Sim 2001).
Achieving a desirable outcome is specifically strived towards from relatively early on, becoming
an integrated part of the advice that the VC fund provides to its portfolio company. Isaksson
(2006) found agreement across his sample of Swedish VC-backed firms that it was common to
head towards a desirable exit as part of the strategic orientation of the portfolio firm. However,
the intensity of exit-directed activities depends on whether or not an exit strategy is planned
from the outset of the VC fund-startup relationship, and whether the type of VC exit is planned
as well. Isaksson (2006) finds strong empirical support that exit strategy is a value-added activity
particularly for IPOs and trade-sales as exit orientations.
While both parties are interested in an exit eventually, the means to get there and the timing of
the exit is a particularly frequent type of VC fund-startup conflict (Zacharakis, Erikson, and
George 2010; DeTienne and Cardon 2010). These conflicts can moderate the effect of the VC
funds with respect to exit orientation.
By their very nature, exits still constitute a critical phase of the VC fund-startup relationship,
particularly for funds engaged in stages where such exits are likely (Petty, Bygrave, and Shulman
1994). Thus positive outcomes, in line with Wang and Sims (2001) characterization, are more
frequent for companies in later stages (Giot and Schwienbacher 2007). This indicates that exit
orientation value-add is likely to increase in importance as the portfolio company moves towards
the later stages, which in turn increases the likelihood of an exit.
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Therefore, we hypothesize that the effect of exit orientation value-add will increase the later the
stage a portfolio company is in due to the increased likelihood of exit and the prospects of
sizeable returns to the entrepreneur:
H8: There is a positive effect of stage on exit value-add
Through the distinction between eight types of value-add; strategic, financial, credibility,
professionalization, marketing, technological, international and exit orientation value-add activities, we have
established a set of hypotheses regarding the relative importance of the given value-add activity,
and its relation to the stage of the firm.
2.6.9 FUND STAGE SPECIALIZATION
Finally, referring to the previously reviewed literature on VC fund stage specialization and life-
cycle theory, we argue that funds are interested in focusing their skillsets to be able to cope with
the specific needs of their portfolio companies. We therefore theorize that when the value-added
activities effect depends on stage, including the VC funds will remove this effect. This in turn
means that, with regards to value-added activities for a given stage, that funds are specialized to a
certain degree. We therefore hypothesize:
H9: Given a significant effect of stage, the effect of individual funds removes the significance of
stage
This concludes our literature review. We have positioned this paper in the literature base by
reviewing the financial intermediary perspective in relation to the value-added perspective that
this paper applies. We furthermore highlighted how value-added activities transfer knowledge to
the portfolio companies. We then characterized the fund level determinants of knowledge
transfer, further reviewing the literature with respect to how VC fund specialization relates to
these value-added activities. We then finally conducted an extensive review of the literature
regarding specific value-added activities to create a foundation for our hypotheses formation. We
hypothesize that portfolio company stage has varying effects on each of the eight types of value-
add and that VC funds specialize within these value-added activities when they depend on the
company stage. In the following section we depict our approach to investigating hypotheses,
thus explaining the methodology we apply to establish a solid foundation for our analysis.
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3. METHODOLOGY
This thesis utilizes a survey-based research design to collect primary data measuring the portfolio
companies perceptions of the effect of value-added activities by their VC funds. This displays a
methodological congruence with previous studies on value-added activities (e.g. Maula, Autio,
and Murray 2005; Gabrielsson and Huse 2002; Ehrlich et al. 1994). We imposed a limitation of
scope in restricting our focus to VC funds with a physical presence in Denmark. This was
chosen because of the situational characteristics of a bachelor thesis.
In the section below, we will elaborate on the methods used to determine the effect of stage on
VC funds perceived contribution to their portfolio companies. First we provide a brief overview
of the selection of our sample of all current ICT and Life Science portfolio companies in
Danish-based Venture Capital funds. This will be followed by the construction of our survey on
entrepreneurs perception of VC funds contribution of value-added activities based on selected
questions from a validated survey. Thereafter we discuss how the data was collected via an
internet-based survey and corrected for use in our analysis. Following this will be an elaboration
of the principal component analysis, which groups the individual questions on perceived value-
added activities within factors. This is then followed by a characterisation of our applied
Ordinary Least-Squares regression analysis, which models these perceptions against
characteristics of the company and its founders to predict whether there is a significant
difference between seed and early-stage ventures. The final section within methodology will
elaborate on the model which, for those value-added activities which do differ between stage,
assesses the specialization of funds by re-running the model including individual fund dummy
variables and seeing whether the effect of stage is picked up by the fund dummies.
3.1 SAMPLE SELECTION
We define our population as all portfolio company investments from Danish Venture Capital
funds. To test our hypotheses of whether VC funds value-added activities depend on company
stage, we test statistics of a sample from the population. This following section will elaborate on
the selection of our sample.
The limited, dispersed, and highly private nature of the Venture Capital industry argues for the
use of professional informants as they have privileged insights and hold archetypical portrayals
of the industrys characteristics (Lee 1993). Considerable effort was used to complement our
knowledge of Danish Venture Capital funds with those of a variety of professionals. We initially
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conducted open-ended stakeholder interviews1 in the Danish Venture Capital market. This was
followed by five 45-minute semi-structured interviews with investment managers in the largest
funds2 (Corfitzen 2013, F. Knudsen 2013, J. Knudsen 2013, Roested 2013, Wylonis 2013). This
led us to conduct a cluster sampling of portfolio companies based on their geography, type of
VC fund, and industry focus (Barnett 1991).
3.1.1 GEOGRAPHY
The geographical restriction focused on portfolio companies who have received investments
from Venture Capital institutions with a physical presence in Denmark. The Danish market has
portfolio companies receiving Venture Capital from foreign funds, but this assignment is limited
to the transfer of value-added competencies from Danish funds. This is not equivalent to a
national focus, however, as portfolio companies are not subject to geographical limitations. Our
sample includes firms based in the USA, Germany, Switzerland, United Kingdom, Finland,
Hungary, Norway, and Sweden, as well as Denmark.
3.1.2 INSTITUTION TYPE
The Danish Venture Capital and Private Equity Association (DVCA) is a national trade
association, with over 200 members throughout the Venture Capital chain, from business angel
to private equity fund (DVCA 2013). They categorize 18 of their members as Venture Capital
funds, ranging across all industries. Of these, four are pure innovation incubators, two are
corporate venture funds, one is an innovation branch of a university, and 11 are Venture Capital
funds backed by either public or private investors. This thesis includes innovation incubators in
its sample due to their centrality and strong presence, while disregarding the corporate venture
funds and the university branch. While these institutions might be important actors in the
Danish Venture Capital environment, notably Novo Fonden, which is the largest Life Science
Venture Capital fund in the world, they operate quite differently as evergreen funds and are
subject to different management regulations and structure of investments.
Based on interviews (J. Knudsen 2013; Corfitzen 2013; Wylonis 2013; Appendix I), this thesis
also includes the remaining two innovation incubators, the Swedish VC fund Creandum which
invests in Denmark and is particularly prominent in the entrepreneurial environment, as well the
dual accelerator and investment program Accelerace. Although Accelerace is different compared
1 Interviews were conducted with Vkstfonden, Erhvervs- og Vkstministeriet, Innovation incubator DTU Symbion, Professors of Entrepreneurship and Venturing, Venture Capital funds, individual investors, Business Angels, startup accelerators, and entrepreneurs. 2 Sunstone Life Science, SEED Capital, VF Ventures, Creandum, Accelerace
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to a VC fund, our interviews revealed it to be a significant institution in the Danish market for
Venture Capital3. Its inclusion is warranted by a similar structure to other funds, such as limited
time frame, competency transfer, and Limited Partner pressure (unlike, say, corporate funds).
3.1.3 INDUSTRY
This thesis uses the industry definitions used by the Danish governmental investment fund:
Vkstfonden. It classifies its investments within five areas: Information and Communication
Technology (ICT), Trade and Services, Industrials, Life Science, and Energy. This thesis selects
both Life Science and ICT as these two industries represented 83% of all venture investments in
Denmark in 2011 (Appendix II). Furthermore, two industries were selected to avoid an industry
bias and to ensure the differing competencies and characteristics of the two industries would be
represented. Including both industries would also increase the likelihood of observing both large
and small investments, as the size of an investment varies tremendously across these industries.
All other industries were excluded to avoid small samples, since very few investments have been
made in the past and will be made in the future in other areas (J. Knudsen 2013, Roested 2013).
This in turn meant that specialized venture funds in other areas, such as Insero and NES
Partners who focus on energy, were excluded from our sample.
We thus have in our sample every major Life Science or ICT-focused Danish Venture Capital
institutions in the Danish market. To make sure we had not missed an important institution, our
list was confirmed through interviews with five investment managers from varying funds and
with an employee at DVCA. An overview is visible in Table 1 (below).
3 For the remainder of this thesis, Accelerace will be considered interchangeably as a fund.
TABLE 1: OVERVIEW OF FUNDS PRESENT IN OUR SAMPLE
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The funds respective current industry focus was found through their websites with all
companies not in Life Science and ICT excluded from the sample (Company Websites 20134). If
the specialization was unclear, the portfolio company was initially included in the sample. In total,
our sample includes 246 portfolio companies.
Our sample is based on portfolio companies perception of the value-added activities from their
funds, which implies one survey for each VC fund-portfolio company relationship. Certain
individual portfolio companies were therefore represented twice in our sample, due to
syndication and previous funding rounds. Our total sample constitutes 310 portfolio company
investments within 246 portfolio companies from 14 ICT- or Life Science-focused VC funds.
3.1.4 SAMPLING ERROR
Although we attempt to randomize our selection of observations, we suffer from several
potential sampling errors. This section will elaborate on the three main sources of error:
survivorship bias, self-selection bias, and industry bias.
Survivorship bias indicates that while we are interested in all portfolio company investments
from Danish Venture Capital funds, our sample is biased towards portfolio companies currently
active. We thus have no chance of observing a company that is inactive in our sample, although
we would ideally like to have the views of every company the fund has invested in. This is a
significant limitation, but the uncertainty and inability to obtain contact information of all failed
ventures means that this bias is inherently part of any survey assessing portfolio companies.
Self-selection bias implies that we only obtain observations from individuals who volunteer to
complete our survey. Respondents that are highly opinionated are more likely to respond to
express this opinion. We argue that the prompts that govern the respondents opinionated nature
will direct the answers in both directions, thus not exhibiting systematic error qualities. This
error may however influence our regressions through an increased variance.
This bias can sometimes be compensated for by using a Heckman selection model, but this
requires that we are aware of a missing observation. This method is often used in longitudinal
studies or time series, where a specific observation has reported answers some years, but not
4 (Accelerace 2013; CAT Science 2013; Creandum 2013; DTU Symbion Innovation 2013; Innovation Midtvest 2013; Northcap Partners 2013; Northzone Ventures 2013; NOVI Innovation 2013; SEED Capital 2013; Sunstone Capital 2013; Syddansk
Teknologisk Innovation 2013; VIA Venture Partners 2013; Vkstfonden 2013; stjysk Innovation 2013)
Page 30 of 108
others. However, as we at no point have an observation of the self-selecting funds, such
methods have no corrective effect on our sampling.
3.2 SURVEY CONSTRUCTION
Our survey is constructed around two overarching areas of focus. One section consists of the
questions regarding the effect of value-added contributions by the VC fund from the perspective
of the portfolio company which will be used as dependent variables in the regression. The other
section consists of questions regarding the characteristics of the firm, the founders, and the deal,
which will be used as independent variables.
In the first part we chose to apply validated questions rather than constructing tailored questions,
which would potentially be prone to non-sampling error. Hence, we selected questions from the
VICO project5. This survey was chosen based on a) a high degree of observable validity, and b)
content validity in which the survey questions matched the value-added activities we wished to
investigate.
With regards to validity, the VICO survey is significant and reliable. First and foremost, it has
been applied on a large scale, having more than 8000 respondents across seven European
countries. This sample size is the largest in the literature on value-added activities to the authors
knowledge. Second, the survey was constructed by researchers with more than 45 prior and
relevant studies in the field of entrepreneurship (VICO Project 2013). Third, the survey
questions have been used multiple times in peer-reviewed research (e.g. Bertoni, F., Croce, A.
and A. Quas 2010; Bertoni, F. and T. Tykvov 2011; Luukkonen, T., Deschryvere, M., Bertoni, F.
and T. Nikulainen 2011). Finally, the survey instrument is congruent with previous
methodologies (e.g. Ehrlich et al 1994; Macmillan et al 1988) with respect to the format of the
questions, in that it utilizes a seven-point Likert scale for the importance of the respective value-
added activities. With respect to content validity, the VICO project survey contained a total of 28
questions regarding value-added activities within similar categories as our
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