The Impact ofRounds ofVenture Capital Funding on the Growth Strategy of Startups

This paper examines the dynamic role of financial resources—available through rounds of venture capital financing—on the growth strategies of startups. We investigate three different roles and their evolution over time. 1) We examine whether financial resources constrain the growth of startups and whether rounds of funding unbind this constraint. 2) We investigate the role of financial resources beyond mere commodities and as determinants of the growth strategy of startups. 3) We explore their role as signaling mechanisms within the company. Our results indicate that the importance ofthese roles change over the life of startups. We find that financial resources significantly constraint the growth of young high-growth companies in the early part of their lives. However, this role is much less relevant in later rounds of funding. Our results further suggest that the amount of funding is unrelated to subsequent growth in early rounds of funding. This result is consistent with venture capital firms perceiving these rounds as real options in a high-uncertainty environment and not as funding a particular growth strategy. In contrast, we find that in later rounds, the amount of funding is associated with subsequent growth. This result indicates that the amount of funding shapes the future growth strategy of the company and that venture capital firms affect the growth strategies of startups through the funds that they provide. Relevant to the signaling mechanism argument, we find that employee turnover decreases around the venture funding events. Startups Startups are subject to the liabilities of newness and smallness that increase their failure rates (Stinchcombe 1965; Carroll and Hannan 1983). Limited access to external resources is one reason proposed for these twin liabilities (Baum 1996). The lack of a track record and the uncertainty surrounding their business model limits their access to traditional sources of capital (Petersen and Rajan 1995). Venture capital emerges as the most significant source of financial resources to fund these high-growth startups (Davila, Foster and Gupta 2001). Venture capital firms are credited to a large extent for the development of startup companies and, accordingly, the innovation that comes together with entrepreneurial activities (Miller venture capital may unbind the resource constraint facing startups, their involvement in the companies that they invest in goes beyond the provision of financial resources (MacMillan, Kulow and Khoylian 1989; Lee, Muller, Hancock and Rowen 2000). In particular, they are involved in shaping the strategy of the startups they invest in (Sapienza, Manigart …