Excerpt
Inside Rounds and VC Returns. Matthew Rhodes-Kropf, May 4, 2015, Paper. "We study sequential investment decisions in the venture capital (VC) industry. VC-backed companies typically need to raise several rounds of funding from VC funds. The decision whether to provide further funding to the company and the terms of the new funding determine the returns of VC funds and their ability to back successful companies. We show that investment outcomes in the VC industry can be predicted by whether the existing VC investors can attract new outside investors to participate in the next round. Inside rounds, in which only existing investors participate, lead to a higher likelihood of failure, lower probability of IPOs, and lower cash on cash multiples than outside rounds. We explore a number of possible explanations for this result including escalation of commitment, mismeasurement of returns and too little capital. The strong relationship between inside rounds and outcomes remains."