the influence of financial markets on investment in venture capital

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This paper examines the influence of financial markets on the investment in venture capital. It highlights the evolution of the number of exit of U.S. venture capital companies in financial markets as well as the European one. Moreover it sheds the light the simultaneous evolutions of fund raising of venture capital and stock indexes in the U.S and Europe. The study focuses on a range of data on US and European venture capital firms covering the period of 1984 to the first quarter of 2012. It relies on the VentureXpert private equity and venture capital performance database, maintained by Thomson Financial data for American Venture Capital markets, and Chausson finance indicator for French venture capital market. It also considers developments in the venture capital markets in Europe and the United States. Indeed our analysis shows that favourable anticipations of Initial public offerings, synonyms for significant capital gains for venture capitalists, are key incentives for the venture capital market. However, when considering the recent investment behavior of European venture capitalists, the relationship between financial markets and venture capital activity is much less clear: the invested amounts seem to be significantly and permanently disconnected from the

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  • The INFLUENCE OF FINANCIAL MARKETS ON INVESTMENT IN VENTURE CAPITAL

    1

    The INFLUENCE OF FINANCIAL MARKETS ON the INVESTMENT

    IN VENTURE CAPITAL

    DISSERTATION: 2ND YEAR MASTER EMPIRICAL FINANCE AND

    ACCOUNTING

    Presented by SECK BABACAR

    Supervised by PASCAL DUMONTIER

    20122013

  • The INFLUENCE OF FINANCIAL MARKETS ON INVESTMENT IN VENTURE CAPITAL

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    SUMMARY:

    I-LITERATURE REVIEW: ...5

    II- PRESENTATION OF VENTURE CAPITAL AND EXIT MODALITIES................ 6

    II-1- Presentation of Private equity and its various categories...............................................6

    II-2: Cycle of investment and exit in the financial markets.................................................. 8

    II-2-1: The Investment Cycle................................................................................................ 8

    II-2-2: Exit via IPO.................................................................................................................... 11

    III Empirical analysis of the relationship between financial markets and American investment in

    venture capital...................................................................................................................... 13

    III-1: Data Presentation............................................................................................................. 13

    III-2 Evolution of the number of exit of U.S. venture capital companies in financial markets 15

    III-3 Amounts invested by venture capital................................................................................ 20

    A- The volume of the investments of the American venture capital................................. 20

    B- The European capital investment..................................................................................23

    IV- The simultaneous evolutions of fund raising of venture capital and stock indexes in the U.S

    and Europe.24

    V- How to explain the differences in investment behavior in the European and U.S. markets?

    ...26

    V-1: Institutional and contractual characteristics of the European Venture Capital.. 26

    V- 2 -Behavior guided by a "limited" rationality... 32

    VI- The volume of French venture capital investments............................................................ 33

    Conclusion............................................................................................................................... 36

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    Venture capital is now an island of tranquillity in an ocean of stock-exchange

    disturbances",

    Christophe Chausson, president of Chausson Finance

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    ABSTRACT:

    This paper examines the influence of financial markets on the investment in venture

    capital. It highlights the evolution of the number of exit of U.S. venture capital companies

    in financial markets as well as the European one. Moreover it sheds the light the

    simultaneous evolutions of fund raising of venture capital and stock indexes in the U.S

    and Europe. The study focuses on a range of data on US and European venture capital

    firms covering the period of 1984 to the first quarter of 2012. It relies on the

    VentureXpert private equity and venture capital performance database, maintained by

    Thomson Financial data for American Venture Capital markets, and Chausson finance

    indicator for French venture capital market. It also considers developments in the venture

    capital markets in Europe and the United States. Indeed our analysis shows that

    favourable anticipations of Initial public offerings, synonyms for significant capital gains

    for venture capitalists, are key incentives for the venture capital market. However, when

    considering the recent investment behavior of European venture capitalists, the

    relationship between financial markets and venture capital activity is much less clear: the

    invested amounts seem to be significantly and permanently disconnected from the

    evolution of financial markets.

    Keywords: Venture Capital; Private equity; IPO; M&A; Exit; financial market; Cycle;

    profitability, performance.

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    INTRODUCTION:

    Capital investment or private equity plays a key role in the development of the economic activity.

    For companies that do not involve public offering, it is a substantial support to finance their

    development for their entire cycle. Thus it contributes dramatically to the promotion of

    entrepreneurship through the creation of innovative companies, to the renewal of the economic

    fabric and on the rebound to the growth.

    Indeed, the private equity business lies substantially in equity stake in unlisted SME (Small and

    Medium-Sized Enterprise). This acquisition of holdings can be made especially in a minority or

    majority way in order to finance them during all their life cycle both in start-up phase, growth,

    transmission and in a situation of recovery.

    It carries through four segments that are venture capital in the start-up phase of the business;

    capital development in order to support the growth of the company; buyout or LBO finally

    distressed investment to help unprofitable companies improve their operations to attain

    profitability.

    Indeed, the venture capital which is the object of our study can be considered as a source

    of funds from professional investors bound for young innovative companies or "start-up", in a

    strong innovative capacity and which has a fast capacity of growth.

    Venture capital so allows to substantially improve the financing of "start-up" and allows

    these companies to grow, but the time horizon of the investment is limited between three and ten

    years at most.

    Indeed, understanding the cycle of venture capital is essential for understanding the influence of

    financial markets on its business. To understand the venture capital industry, one must

    understand the whole venture cycle. The venture capital cycle starts with raising a venture fund;

    proceeds through the investment in, monitoring of, and adding value to firms; continues as the

    renews itself with the venture capitalist raising additional funds (Gompers et Lerner, 2001).

    According to these two authors, the activity of venture capital is analyzed as a cycle of

    investment including three main phases: the first phase corresponds to the fund raising, then the

    phase of investment strictly speaking and ultimately the exit which is characterized by an initial

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    public offering ( IPO), or negotiated within the framework of a merger or acquisition procedure.

    This last phase is therefore a very important step in assessing the value created by the company of

    venture capital which value would allow repaying the amounts advanced by institutional

    investors during the phase of fundraising and the appreciation of the relevance of procedures for

    selecting and monitoring. Then another equally important element assessed by the exit phase is

    the end of the investment cycle.

    Indeed The venture capital market is self-sustaining partially. The successes of today

    foreshadow the future volume of financial resources. The favourable reception of start-ups, either

    by entering on the financial market or by the repurchase by a large company, directs new funds

    to this activity and leads investors to invest capital in new projects Dixit Dubocage 2004. In

    other words, a new fundraising for implementing a new investment cycle will be caused by the

    performances realized in t.

    However, how financial markets influence the number of operations and the value of funds raised

    by venture capital firms? And what explain the differences observed in investment behavior in

    the European and U.S. markets?

    The analysis to bring an answer to these questions starts by introducing theoretical and empirical

    arguments of the literature that underpin the existence of a relationship between the situation on

    the financial markets and investments in venture capital. Section 2 introduces the functioning of

    venture capital and its different modalities of exit. Section 3 presents the empirical analysis of the

    relationship between financial markets and American investment in venture capital. It is followed

    by the simultaneous evolutions of fund raising of venture capital and stock indexes in the U.S and

    Europe in section IV. Then we try to explain the differences in investment behavior in the

    European and U.S. markets in section V. Finally section VI contains the analysis of the volume of

    French venture capital investments.

    I-LITERATURE REVIEW:

    The link between financial market and the investment in venture capital has been examined by a

    large literature. The primary insight from theoretical work is the importance of exit by the

    venture capital fund.

    With respect to the literature the most attractive option to liquidate a fund is through an IPO. The

    empirical research led by Venture Economics in 1988 confirms this thesis and shows that

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