Abstract
Venture capitalists (VCs) usually exit their investments in a startup via a trade sale. But the entrepreneurial team – the startup’s founder, other executives, and common shareholders – may resist a trade sale. Such resistance is likely to be particularly intense when the sale price is low relative to VCs’ liquidation preferences. Using a hand-collected dataset of Silicon Valley firms, we investigate how VCs overcome such resistance. We find, in our sample, that VCs give bribes (carrots) to the entrepreneurial team in 45% of trade sales; in these sales, carrots total an average of 9% of deal value. The overt use of coercive tools (sticks) occurs, but only rarely. Our study sheds light on important but underexplored aspects of corporate governance in VC-backed startups and the venture capital ecosystem.
Highlights
Venture capital is considered to be an important contributor to economic growth in the United States and elsewhere.[1]
In our sample, that Venture capitalists (VCs) give bribes to the entrepreneurial team in 45% of trade sales; in these sales, carrots total an average of 9% of deal value
The returned capital can be recycled into another VC fund
Summary
Venture capitalists (VCs) play a significant role in the financing of high-risk, technology-based business ventures. We use additional information gathered in our study to provide a more complete picture of VCs’ efforts to induce entrepreneurial teams to sell firms by describing (1) the carrots given to both common shareholders and executives; and (2) VCs’ use of various sticks, including blacklisting threats, vote buying, and vote dilution. 18 The use of carrots is greater in the 42 firms in our sample where the VC investors did not convert to common stock, and where the conflict between the entrepreneurial team and VCs was likely to be the greatest In this subsample of 42 firms we find that 5.0% of deal value (3.1% on a dollar-weighted basis) was used to fund carrots.
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