It would seem to be a no-brainer. Accept the investment at the highest so-called “pre-money” valuation. So why did the company pick the $12.5 million offer? The highest financial offer came from a venture capital firm that had done the fewest previous deals – nine in all – in software services. The fund whose offer was accepted had a history of 33 deals.
In the minds of entrepreneurs working to grow their fledgling technology companies, the intangibles brought to the table by their investors – experience and contacts – often are worth a lot more than money itself, Wharton management professor David Hsu writes in a paper scheduled for publication in the August issue of the Journal of Finance. The paper is titled, What Do Entrepreneurs Pay for Venture Capital Affiliation?
If a company borrows from a bank and the terms are similar, it does not matter what bank it gets the money from. In seeking venture capital investment, however, a company is hungry not just for cash but also for the venture firm’s “reputation and access to a network of relationships – with customers, suppliers, investments bankers and other important constituents in the universe that the entrepreneur cares about,” Hsu says.
This may not be a startling insight to technology entrepreneurs who are familiar with venture capitalists. What Hsu’s paper does, however, is provide “a scientific measurement” of the magnitude of this phenomenon.
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