The Wealth Impact of Venture Capital on American Businesses

Venture finance has taken front stage in financing creative American businesses over the past thirty years. Companies funded by venture capital have fundamentally altered the U.S. economy from Google to Intel to FedEx. A fifth of current public U.S. companies had venture capital financing, despite the young age of the venture capital sector. Mostly utilized by young, creative, and extremely risky businesses, venture capital (VC) is a high-touch kind of financing. Along with funding, venture capitalists offer strategic direction, network access, mentoring, and other support. These are very speculative investments; most of the companies that get VC money will fail, even as others become runaway hits. From among the five biggest corporations worldwide, three got most of their early outside funding from venture capitalists.

Obviously among the most creative and influential corporations

in a generation are Apple, Google, and Microsoft. But to what extent the U.S. economy depends on these and other VC-funded businesses? In terms of employment creation and general economic impact, how do they stack against industrial behemoths like General Motors or large banking organizations like Bank of America? We set out to measure how VC would affect the U.S. economy over long run. Considering just public companies trading on significant U.S. stock exchanges, we first categorized businesses as either VC-backed or non-VC-backed. Although most successful VC investments result in the company being purchased, accurate information is only now accessible on those companies that go public. Therefore, our findings most certainly understate the influence of VC on the economy.

If a company received early stage financing from a VC fund, we classified it as VC-backed. Our basis is Thomson One data's classification system. We double validated that using Jay Ritter's manufactured IPO data. After that, we personally verified more than 200 companies whose combined market valuation accounts for more than 80% of the VC-backed enterprises.

Our public company sample as of December 2013 comprised 4,063 companies with combined market capitalization of $21.3 trillion. Out of those, 710, or 18%, of the businesses have VC backing. Their combined market value is at $4.3 trillion (20%). Although their income is a much smaller proportion of the overall sample (10%), these companies tend to be young and quickly growing, which explains why their research and development is 42% of the whole. That represents more than 25% of all government, academic, and commercial U.S. R&D expenditure at $454 billion. They hire 4 million workers as well.

This exercise understates as well as overstates the value of VC

We exaggerate the value of VC money so that successful VC-backed businesses might have been successful even in the absence of VC money. Of course, the fact that so many successful entrepreneurs chose VC funding implies that this finance is really crucial for the entrepreneurial environment. Conversely, we understate the value of VC funding since we overlook the favorable spill-over these companies generate. From Windows to FedEx, the technology created by VC-backed companies have revolutionized the planet beyond.

The fact that so many public companies were established before to the VC sector ever began highlights another important way our previous study undervalued the value of VC for today's new firms. Ford and General Electric, for instance, were started more than a century ago. Although the first generation of venture capitalists began funding some well-known companies beginning in the 1950s, the U.S. VC business emerged only following a legislative change in 1979 allowing pension funds to participate in VC. Known as the Prudent Man regulation, that regulation change resulted in a more than ten-fold increase in the money entrusted to VC funds: from just $0.1 billion 10 years earlier, VC funds raised $4.5 billion annually from 1982 to 1987.

We redid our study

using just those companies launched either during or after 1979 in order to level the playing field. Here we want to find out which fraction of the businesses who would have qualified for VC funding decide to make use of it. This research concentrated on enterprises started since the legislative amendments and omitted the likes of Ford and General Electric.

This study produced somewhat different outcomes. Out all the publicly traded U.S. companies we know of, roughly 1,330 were started between 1979 and 2013. Of those, 574, or forty-three%, are VC-backed. Together accounting for 57% of the market value and 38% of all such "new" public businesses' workforce, these companies represent Furthermore, their R&D spending makes up an astounding 82% of all R&D spent by newly formed public businesses. These results also show the effect that changes in government control can have on the whole economy since the loosening of the Prudent Man Rule has driven the VC sector in great part.

Our findings also imply that, in comparison to the private equity sector, the VC sector has made limited use of capital into investments producing a significant number of noteworthy businesses. The U.S. VC sector has raised $0.6 trillion and invested from that pool over the past 50 years. At $2.4 trillion, the private equity sector raised four times as much throughout the same period. The private equity sector brought in $218 billion in 2014, about ten times the $31 billion generated by the venture capitalists. Actually, hardly 0.19% of newly launched American companies receive VC capital.

Some of the most creative companies in the world are VC-backed ones. Examining research and development will help one to understand the value of these businesses. From basically $0 in 1979, VC-backed American public corporations spent $115 billion on research and development in 2013. These VC-backed businesses today account for 42% of U.S. public company R&D investment. Through positive spill-overs, that R&D expenditure generates value not only for those businesses but also for the whole planet.