Gompers Xuan (2006) - The Role Of Venture Capitalists In The Acquisition Of Private Companies

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Reference

Gompers, P. and Xuan, Y. (2006), "The role of venture capitalists in the acquisition of private companies", Unpublished working paper, Harvard University (pdf)

@article{gompers2006role,
  title={The role of venture capitalists in the acquisition of private companies},
  author={Gompers, P. and Xuan, Y.},
  journal={Unpublished working paper. Harvard University},
  year={2006},
  abstract={In this paper, we examine the characteristics of acquisition of private firms by public companies and explore the impact that venture capital-backing has on the acquirer's characteristics, form of payment, announcement returns, as well as long-run stock price and operating performance. We find that compared to the acquirers of other private companies, those firms that acquire private venture capital-backed companies tend to be larger, have higher Tobin's Q, and are more likely to use equity in the transaction and buy companies in a related industry. The market tends to react more negative to announcement of the acquisition of a venture capital-backed company, but the long-run stock market and operating performance is superior than other private acquisitions. We find that the use of stock and related transaction predicts better long-run performance. Our results suggest that the acquirers of private venture capital-backed companies do not suffer any adverse selection problem and continue to have superior performance in the long-run. },
  filename={Gompers Xuan (2006) - The Role Of Venture Capitalists In The Acquisition Of Private Companies.pdf}
}

Abstract

In this paper, we examine the characteristics of acquisition of private firms by public companies and explore the impact that venture capital-backing has on the acquirer's characteristics, form of payment, announcement returns, as well as long-run stock price and operating performance. We find that compared to the acquirers of other private companies, those firms that acquire private venture capital-backed companies tend to be larger, have higher Tobin's Q, and are more likely to use equity in the transaction and buy companies in a related industry. The market tends to react more negative to announcement of the acquisition of a venture capital-backed company, but the long-run stock market and operating performance is superior than other private acquisitions. We find that the use of stock and related transaction predicts better long-run performance. Our results suggest that the acquirers of private venture capital-backed companies do not suffer any adverse selection problem and continue to have superior performance in the long-run.

Quotes

"Acquisitions of real options, however, might be a distinct group among
acquisitions of private target in terms of the price reaction to the acquisition
announcement. The greater uncertainties associated with real options, coupled with the
fact that many such targets are less mature companies without much prior record, make
an accurate valuation of the target by the acquirer and by the market at the time of the
merger announcement more difficult than in acquisitions of assets in place. Moreover,
when the level of uncertainty is high, leading to a high level of perceived heterogeneity in
the target’s value, the winner’s curse problem is aggravated. Thus, a buyer in an auction
of a venture capital-backed private company may be more susceptible to adverse
selection problems. If they win the bid for the private company, it is more likely that
they overpaid for the firm than it would be if they were buying another private firm with
a long history of revenues and cash flows." - page 10

Data

Sources: SDC M&A, VentureExpert and CRSP/COMPUSTAT. Range: 1990-2001 inclusive. 97% of 1,234 obs (~1197) VC-backed. 10,178 Non-VC Backed Exclusions:

  • All "observations by the same company within the one year window" (6mnths forward and back)
  • No more thatn 90 daily returns missing in -200 -> +60

Measures

Market model CARs with -200 -> -20 as an estimation window Uses CAR3: [-1,+1] Follows: Brown, Stephen J., and Jerold B. Warner. 1985. “Using daily stock returns: The case of event studies.” Journal of Financial Economics 14: 3-31.

Related if target and acquirer are in the same 2dg SIC


Results

Long-run buy and hold returns are ignored in this summary as are pre- and post-operating performance.

Univariate: VC CAR3 0.64% (N=1120), non-VC 1.58% (N=8960), which gives an inferred overall CAR3 of 1.48%

Multivariate:

Panel A: Venture-backed and nonventure-backed targets
Dependent variable: CAR in event window [-1,+1]
Independent variables                                Coefficient t-statistic 
Logarithm of acquirer's size (market equity)         -0.0061 -9.69
Relative size (transaction value/size of acquirer)    0.0003 0.72 
Acquirer's book to market ratio                      -0.0001 -1.37
Related on the 4 digit level?                        -0.0048 -2.01 
Pure cash deal?                                      -0.0010 -0.37 
Pure stock deal?                                      0.0023 0.76
Venture-backed?                                      -0.0034 -0.85
Constant                                              0.0842 8.06
Year FE                                               yes
Adjusted R2                                           0.016
Number of observations                                8693