Investor Exits, Innovation, and Entrepreneurial Firm Growth

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Investor Exits, Innovation, and Entrepreneurial Firm Growth Questions for Research Summary of a Workshop Stephen A. Merrill, Rapporteur Committee on Investor Exit Strategies and Entrepreneurial Firm Growth Board on Science, Technology, and Economic Policy Policy and Global Affairs THE NATIONAL ACADEMIES PRESS Washington, D.C. www.nap.edu

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THE NATIONAL ACADEMIES PRESS; 500 Fifth Street, N.W. Washington, DC 20001 NOTICE: The project that is the subject of this report was approved by the Governing Board of the National Research Council, whose members are drawn from the councils of the National Academy of Sciences, the National Academy of Engineering, and the Institute of Medicine. The members of the committee responsible for the report were chosen for their special competences and with regard for appropriate balance. This study was supported by Grant No. 20070350 between the National Academy of Sciences and the Ewing Marion Kauffman Foundation. Any opinions, findings, conclusions, or recommendations expressed in this publication are those of the author(s) and do not necessarily reflect the views of the organizations or agencies that provided support for the project. This work/research was funded by the Ewing Marion Kauffman Foundation. The contents of this publication are solely the responsibility of the grantee. Limited copies are available from: Board on Science, Technology, and Economic Policy National Research Council 500 Fifth Street, N.W., Keck Center 574, Washington, D.C., 20001 Phone: (202) 334-2200 Fax: (202) 334-1505 E-mail: step@nas.edu Copyright 2009 by the National Academy of Sciences. All rights reserved. Printed in the United States of America

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The National Academy of Sciences is a private, nonprofit, self-perpetuating society of distinguished scholars engaged in scientific and engineering research, dedicated to the furtherance of science and technology and to their use for the general welfare. Upon the authority of the charter granted to it by the Congress in 1863, the Academy has a mandate that requires it to advise the federal government on scientific and technical matters. Dr. Ralph J. Cicerone is president of the National Academy of Sciences. The National Academy of Engineering was established in 1964, under the charter of the National Academy of Sciences, as a parallel organization of outstanding engineers. It is autonomous in its administration and in the selection of its members, sharing with the National Academy of Sciences the responsibility for advising the federal government. The National Academy of Engineering also sponsors engineering programs aimed at meeting national needs, encourages education and research, and recognizes the superior achievements of engineers. Dr. Charles M. Vest is president of the National Academy of Engineering. The Institute of Medicine was established in 1970 by the National Academy of Sciences to secure the services of eminent members of appropriate professions in the examination of policy matters pertaining to the health of the public. The Institute acts under the responsibility given to the National Academy of Sciences by its congressional charter to be an adviser to the federal government and, upon its own initiative, to identify issues of medical care, research, and education. Dr. Harvey V. Fineberg is president of the Institute of Medicine. The National Research Council was organized by the National Academy of Sciences in 1916 to associate the broad community of science and technology with the Academy’s purposes of furthering knowledge and advising the federal government. Functioning in accordance with general policies determined by the Academy, the Council has become the principal operating agency of both the National Academy of Sciences and the National Academy of Engineering in providing services to the government, the public, and the scientific and engineering communities. The Council is administered jointly by both Academies and the Institute of Medicine. Dr. Ralph J. Cicerone and Dr. Charles M. Vest are chair and vice chair, respectively, of the National Research Council. www.national-academies.org

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PLANNING COMMITTEE ON INVESTOR EXIT STRATEGIES AND ENTREPRENEURIAL FIRM GROWTH Timothy F. Bresnahan, Chair Landau Professor in Technology and Economy Stanford University Lewis Coleman William R. Raduchel President Independent Director and Investor DreamWorks Animation Josh Lerner J. Leighton Read Jacob Schiff Professor of Investment Banking General Parnter Harvard Business School Alloy Ventures Harvard University Edward E. Penhoet Susan E. Woodward Director Principal Alta Partners Sand Hill Econometrics, Inc. PROJECT STAFF Stephen A. Merrill Study Director Mahendra Shunmoogam1 Program Associate Daniel Mullins2 Program Associate Cynthia Getner Financial Officer 1 Left the project in July 2008. 2 Started with the project on September 2008. v

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BOARD ON SCIENCE, TECHNOLOGY, AND ECONOMIC POLICY For the National Research Council (NRC), this project was overseen by the Board on Science, Technology, and Economic Policy (STEP), a standing board of the National Research Council established by The National Academies of Sciences and Engineering and the Institute of Medicine in 1991. The mandate of the STEP Board is to integrate understanding of scientific, technological, and economic elements in the formulation of national policies to promote the economic well-being of the United States. STEP bridges the disciplines of business management, engineering, economics, and the social sciences to bring diverse expertise to bear on important public policy questions. The members of the STEP Board and the NRC staff are listed below. Edward E. Penhoet Chair Director, Alta Partners Lewis W. Coleman Joseph P. Newhouse President John D. MacArthur Professor of Health Policy DreamWorks Animation and Management Director, Division of Health Policy Research and Education Ralph E. Gomory Research Professor, Stern School of Business Harvard University New York University Arati Prabhakar General Partner Mary L. Good Donaghey Professor and Dean U.S. Venture Partners Donaghey College of Engineering & Information Technology William J. Raduchel University of Arkansas at Little Rock Independent Director and Investor Amory Houghton, Jr. Jack W. Schuler Former Member of Congress Co-Founder Crabtree Partners, LLC William F. Meehan III Lecturer in Strategic Management Alan Wm. Wolff Stanford Graduate School of Business Partner Dewey & LeBoeuf LLP David T. Morgenthaler Founding Partner Morgenthaler Ventures vi

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EX-OFFICIO MEMBERS Ralph J. Cicerone Charles M. Vest President President National Academy of Sciences National Academy of Engineering Harvey V. Fineberg President Institute of Medicine STEP STAFF Stephen A. Merrill Jeffrey McCullough Executive Director Program Associate Charles W. Wessner Adam Gertz Program Director Program Associate Sujai J. Shivakumar Daniel Mullins Senior Program Officer Program Associate David E. Dierksheide Cynthia A. Getner Program Officer Financial Associate McAlister Clabaugh Program Officer vii

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Preface and Acknowledgments In 2007 the National Academies’ Board on Science, Technology, and Economic Policy (STEP) received funding from the Ewing Marion Kauffman Foundation to hold a workshop to examine the marked change in exit strategies of venture-backed U.S. firms coinciding with the dot-com crash of 2001. In that year there was an abrupt and lasting shift away from taking firms public through initial public offerings (IPOs) and toward mergers with established firms. There had been much discussion of the causes, consequences, and policy implications of the change in exit strategies but little systematic inquiry. The purpose of the workshop was not to answer those questions but to explore the merits, feasibility, and possible directions of research on these topics, in short, to provide guidance to researchers and research sponsors. A planning committee was appointed composed of Timothy Bresnahan, chair, Stanford University economics department; Lewis Coleman, DreamWorks Animation; Joshua Lerner, Harvard Business School; William Raduchel, independent investor and director; Edward Penhoet, currently with Alta Partners and formerly of the Gordon and Betty Moore Foundation; Leighton Read, Alloy Ventures; and Susan Woodward, SandHill Econometrics. Approximately 30 entrepreneurs, investors, and academic experts in corporate finance, law, and venture economics attended the meeting in Washington. An effort was made to select participants with methodologically and theoretically diverse backgrounds. Future discussion of the issues examined would benefit from additional perspectives, including historians of markets and entrepreneurship, technology specialists, and students of social networks. This document is a summary report of the discussions that took place at the workshop. The committee’s role was limited to planning the meeting. As study director I prepared this summary. The views expressed in the summary are those of the speakers and discussants and are not the consensus views of participants, the planning committee, the Board on Science, Technology, and Economic Policy, or the National Academies. This report has been reviewed in draft form by individuals chosen for their diverse perspectives and technical expertise, in accordance with procedures approved by the National Academies’ Report Review Committee. The ix

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x PREFACE AND ACKNOWLEDGMENTS purpose of this independent review is to provide candid and critical comments that will assist the institution in making its published report as sound as possible and to ensure that the report meets institutional standards for quality and objectivity. The review comments and draft manuscript remain confidential to protect the integrity of the process. We wish to thank the following individuals for their review of this report: Philip Auerswald, George Mason University; Amy Dittmar, University of Michigan; Melissa Graebner, University of Texas, Austin; Mark Heesen, National Venture Capital Association; William Janeway, Warburg Pincus, LLC; and Martin Kenney, University of California. Although the reviewers listed above have provided many constructive comments and suggestions, they were not asked to endorse the content of the report, nor did they see the final draft before its release. Responsibility for the final content of this report rests entirely with the author and the institution. Finally, the National Academies and the STEP Board thank Dr. Robert Litan, Vice President for Research and Policy of the Kauffman Foundation, for making the workshop possible and for contributing significantly to the discussion. Stephen A. Merrill, Study Director

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Contents Summary 1 1 Background of the Workshop 3 2 What are the facts? Do they Merit Analysis? 7 3 What are the Challenges and Hurdles to Research? 13 a. Accounting for Technology and Sector Differences 13 b. Accounting for “Demand” Side Factors 14 c. Difficulty of Distinguishing Policy Influences 15 d. Difficulty of Establishing Causal Linkages Generally 16 4 What Research Merits Consideration? 17 Appendixes A Workshop Agenda 21 B Participants 23 xi

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