capitalists find investment ideas, how they screen them, and if they were affected by the Covid-19 epidemic and to what extent.
Thirdly, we look at how venture capitalists choose their investments. Kaplanand and Stromberg (2004) describe and analyse the process by which venture capitalists select investments: they confirm previous survey findings that venture capitalists consider market attractiveness, strategy, technology, product or service, customer adoption, competition, deal terms, and the quality and experience of the management team. Kaplan, Sensoy, and Stromberg (2009) propose a "jockey vs. horse" paradigm for examining which variables remain consistent throughout the course of a successful venture capital investment. The entrepreneurial team is referred to as the "jockey," while the strategy and business model are referred to as the "horse." We ask venture capitalists if they place a higher premium on the jockey or the horse in their investment strategies, both before and after the breakout of Covid-19.
Fourth, we investigate the methods and principles that venture capitalists use to value businesses. Graham and Harvey (2001) observe that chief financial officers of big businesses often do discounted cash flow (DCF) studies to assess investment possibilities. By contrast, Gompers et al. discover that private equity investors seldom utilize DCF, preferring instead to use internal rate of return (IRR) or multiple of invested capital. Given this distinction, we examine whether VCs use the widely established DCF technique or a different one. Then, we ask them to assess the effect of Covid-19 on the typology of metrics they apply.
Fifth, we inquire about how venture capitalists draft contracts and arrange investments. VC contracts guarantee that both the entrepreneur and investors benefit when the entrepreneur performs successfully. However, little is known about which of these criteria are more significant to venture capitalists and how they make trade-offs between them. In our poll, we question venture capitalists about their preferred investment conditions and their willingness to bargain. We want to determine if the growing volatility in the market is being offset by an increase in contractual rights.
Sixth, we look at how venture capitalists manage and add value to their portfolio firms after their investments. Improved governance and diligent monitoring contribute to the additional value. This often includes replacing founders who are incapable of expanding their businesses.
Baker and Gompers (2003), for example, find that about one-third of VC-backed firms maintain a founder as CEO at the time of IPO. In this study, we go further into these problems by asking venture capitalists to explain in detail how they provide value.
Seventh, we investigate about the exit routes of venture capitalists. Brav and Gompers (1997) examine the role and significance of venture capitalists in the performance of initial public offerings. Srensen (2007) attempts to determine the proportion of venture capital returns that are driven by deal sourcing and investment selection respect to value-added activities performed after the investment: he finds that both matter, approximately 60/40. As a result, we further investigate this problem by directly contacting venture capitalists to assess the proportional significance of deal sourcing, deal selection, and post-investment activities in generating value in their investments. Additionally, we question the venture capitalists what selection criteria were most critical to the final success of their investments and if their decisions were influenced by Covid-19.
Although the questionnaire, which was developed and created in collaboration with the Boureau of Entrepreneurial Finance's research team, covers all of the subjects listed above, the purpose of this study is to report on the analyses and findings made in the following areas:
(1) investment evaluations; and (2) exit strategies. The respondents', companies', and funds' general data were considered, both to contextualize the presentation of the study and, more importantly, to establish the clusters around which the subsequent analysis was conducted.
Our survey respondents represent 244 distinct venture capital companies, and all the results are presented by firm. We have eight cases where we have more than one respondent from the same VC: in these cases, we have chosen to keep only one respondent per firm, based on the following criteria: (1) overall consistency of the response, (2) appropriate completion time, and (3) the seniority of the Venture Capitalists.
Now, we'll quickly discuss the survey's format and, in the first place, some findings. We questioned venture capitalists about their companies' internal organizational structures. The average venture capital company, we interviewed, is modest: with less than 11 workers and an average portfolio of 40 firms.
Deal evaluation and post-investment activities were selected as the phases of the investment funnel whose required efforts increased the most due to covid, about 45% of VCs put more efforts on them. Exit strategies and deal origination were seen as more effort-consuming by 32% of our respondents, and the least impacted are deal screening and deal structuring with about 25%.
Additionally, we notice that, regardless of the stage of the investment funnel, on average, more effort is spent on each activity as the fund's size grows and the investing stage matures.
Few venture capitalists assess their investments using discounted cash flow or net present value methods. The most often utilized measure is the multiple of sales/EBITDA (58 percent), followed by cash-on-cash return (48 percent) and internal rate of return (45 percent). These results are in contrast with those of Gompers and Kaplan (2016), who found that the sales/EBITDA multiple was not among the top three most often utilized measures. We highlight that covid-19 has a negligible effect on this assessment.
VCs generally responded that they provide a broad range of post-investment services to their portfolio firms, and we asked respondents to rate the importance of the following typical value-added practices on a scale from 0 to 5 (0 = not applicable; 1 = not important at all; 5 = extremely important): provide strategic guidance (4.2); connect enterprises with prospective investors (4.0); connect organizations with prospective customers, suppliers, or strategic partners (3.8); assist businesses in hiring managers (3.7); assist enterprises in hiring board members (3.6); provide operational guidance to the organization (3.6); assist companies in hiring staff (2.7). The scenario after Covid is quite similar to the previous one; notable is that, as a result of Covid-19's impact, we see an average rise of 0.25 points in each of the top three variables.
Concerning the various exit strategies, as anticipated, the favoured ones were and continue to be trade sales and initial public offerings, as Gompers and Kaplan confirm (2016).