To read anything about venture capitalists is to hear claims that they bring more than just money to the table. They bring "the patience, the hands-on guidance, the willingness to take on risk and fail," according to the National Venture Capital Association's industry overview. No one is denying that venture capitalists bring more than money to their investments.
The question is, how much do those non-financial contributions actually matter?
In a recent academic paper, "The Impact of Venture Capital Monitoring: Evidence from a Natural Experiment," three professors attempted to answer this question.
Their abstract reads: "Do VCs contribute to the innovation and success of their portfolio companies, or do they merely select companies that are already poised to innovate and succeed even absent their involvement?"
Flying the Friendly Skies
It's a classic causation-or-correlation question.
The challenge, then, is gauging possible causation. What is a reliable way to measure how much "hands-on guidance" a VC pays to a company, after he invests in it? The professors decided to use air travel as an indication.
"Anecdotally, if you talk to VCs, they'll tell you they are very sensitive to distance and travel time," is what one of the professors, Richard Townsend of Dartmouth's Tuck School of Business, told the Tuck site. Mind you, that doesn't mean VCs disregard faraway companies. It just means that VCs are mindful of travel logistics and how they relate to monitoring their portfolio companies.
If VC activities do matter, reductions in the cost of monitoring should translate into better portfolio company performance by allowing VCs to engage in more of these activities. For example, VCs may be able to spend more time advising and shaping senior management, providing access to key resources, and aiding in company professionalization in myriad other ways.
The hypothesis, in other words, is that a reduction in VC travel times could lead to improved overall company performances. "We explore how the introduction of new airline routes that reduce the travel time between VCs and their portfolio companies affect company-level outcomes," write the professors.
Hands-On Guidance Does, Indeed, Impact Performance
To explore this hypothesis, the professors analyzed three sets of data: the amount of VC funding, the number of patents and patent citations of the companies, and airline routes from the Department of Transportation.
The result? "After a direct flight [between the cities of the company and its funders] was added, companies on average saw a 3 percent increase in the number of patents they produced and a 6 percent increase in the number of times those patents were cited by others," summarizes the Tuck site. "Moreover, there was a 1 percent increase in the chances a company would go public."
"Our results are good news for venture capitalists," notes Townsend on the Tuck site. "Because they suggest they are not just passive collectors of companies that are already going to do well, but rather that they play an important role in promoting innovation and growth."