Academic journal article Academy of Strategic Management Journal

The Impact of Venture Capital on Funding Amounts Promised in Alliance Contracts

Academic journal article Academy of Strategic Management Journal

The Impact of Venture Capital on Funding Amounts Promised in Alliance Contracts

Article excerpt

INTRODUCTION

Venture capital, debt financing, and the capital markets do not provide enough money to develop new technologies fully and typically, corporate financing, provides the remaining monies to develop new innovations (Teece, 1992). One, and the most likely, source of corporate financing for firms developing innovative products since Teece's (1992) work has been alliances. Recent research indicates firms tend to choose between capital market funding and the alliance market for funding depending on the availability of funding in the capital markets (Lerner, Shane, & Tsai, 2003). Thus, the funding necessary for firms developing innovative products potentially comes from both the capital markets and from alliances.

Previous work shows venture capital involvement increases initial public offering (IPO) values (Stuart, Hoang & Hybels, 1999), improves the survive rate of IPO firms (Fisher, & Pollock, 2004; Jain, & Kini, 2000), and improves the number of alliances formed (Colombo, 2006; Gans et al., 2002; Hsu, 2006; Lindsey, 2008). Previous work on the number of alliances formed seems to assume that more alliances are better. To our knowledge, no one has investigated the impact venture capital firms have on the amount of money firms developing innovative products generate from the alliances they form. In addition, one would expect venture capital backed firms to be more efficient in forming alliances assuming venture capital provide valuable assistance in the alliance formation process. Thus, this research combines tests of efficiency and benefits to the target firm by testing how quickly firms form alliances and the remuneration those firms receive from the alliances they form.

This work directly addresses the impact of venture capital on money obtained through alliance contracts, and in doing so, also addresses the need for additional research on the impact venture capital has in the alliance markets (Gans et al., 2002). We also address the need to better understand the benefits small innovative firms receive from the alliances they form (Alvarez et al., 2005; Coombs et al, 2006) and on the alliance formation process in general (Ahuja, 2000).

This study is unique because we investigate how quickly firms developing innovative products form alliances and the financial benefits they receive from those alliances in the same study. The first hypothesis parallels previous work on venture capital impact in the capital and alliance markets that indicates venture capital involvement has a positive impact on firms developing innovative products (i.e. Colombo, 2006; Finkle, 1998; Gans et al., 2002; Hsu, 2006; Lerner, 1994). Hypothesis 1 tests whether firms developing innovative products using venture capitalists will form alliances more quickly than firms that turn public without venture capital backing during the time period in this study. Second, we examine the remuneration firms developing innovative products receive as a result of the alliances they form. Hypothesis 2 tests if venture capital involvement will increase the remuneration promised firms developing innovative products in the alliance contract(s) around the IPO period.

We use the biotech-pharmaceutical industry to test our hypotheses, and we find support for both of our hypothesis. In addition, the data in this sample also indicates many innovative firms in the biotech industry turn public and form alliances simultaneously with, or very shortly after the IPO process. Our findings extend the knowledge related to venture capital involvement during the alliance formation process, and the funding of firms developing innovative products. We fully discuss the implications of our hypotheses, and the finding that firms developing innovative products seem to be forming alliances and turning public simultaneously.

THEORY AND HYPOTHESES

Funding Innovations

Firms developing innovative products that are often years away from releasing a product have limited financing options. …

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