Venture screening process
The new venture is “an enterprise of a business nature in which there is considerable risk of loss as well as chance of gain” (Oxford English Dictionary, 1989, Vol. XIX, p. 520). The word ‘venture’ literally means ‘a risky undertaking’, which makes venture capitalists’ risk-takers. However, like all other types of investors, venture capitalists will only invest if perceived returns are greater than perceived risk. The saying, ‘greater the risk, greater the return’ holds for venture capital financing provided it is not a speculative deal. Therefore, it is necessary to identify and quantify the probability of risk.
The study by MacMillan, Siegel, and Narasimha have been undertaken to determine which criteria are important for evaluate new venture proposals. Some criteria have been point out by the Journal as the common criteria. This article is going to have a review on those criteria provide by MacMillan, Siegel, and Narasimaha and have a critical analysis whether those criteria provided could make the venture proposals successful. Summaries of the journal According to the study, the most important criteria is “the quality of the entrepreneur that ultimately determines the funding decision. ”
In the first part of the study, 24 criteria were scaled under 5 catalogs and use a survey method to examine the importance of them. The results of the study have found out that personality and experience, product and market characteristics and financial consideration are the most important criteria for venture capitalists to qualify the proposals. For personality and experience, the most important personality characteristics are evidence of staying power and an ability to handle risk. For product and market characteristics, the most important characteristic appears to be some proprietary protection.
Finally for the financial considerations, the key concerns are with high upside potential and high investment liquidity. Then the study has identified 5 out of 10 most commonly rated criteria as essential have to do with the entrepreneurs themselves. “By and large venture capitalists will not back ventures unless the entrepreneur is capable of sustained effort, has demonstrated leadership in the past, evaluates and reacts to risk well, has a track record relevant to the venture, and is capable of articulating the venture well.
” The study has also point out the characteristics of “critically flawed” proposals is a is important for venture capitalists to qualify the projects. That is , proposals that would be rejected by a significant majority of venture capitalists if they had only two flaws of the previous mentioned five most important criteria. Finally, with a factor analysis, the study allocates the venture capitalists into 3 broad types the “Purposeful Risk Managers”, the “Determined Eclectics” and the “Parachutists”.
The “Purposeful Risk Managers” seeks the entrepreneurs with demonstrated leadership skills and a product and market with characteristics that clearly reduce the risk to manageable levels. The “Determined Eclectics” appear to deliberately impose an absolute minimum number of restrictions. And the “Parachutists” willing to support most ventures as long as they feel that they have a high liquidity “parachute”. The study by MacMillan, Siegel and Narasimha did provide us some common criteria for evaluating new proposals, but there are still some critics on those criteria listed by the author. Critiques of the journal
According to the conclusion of the journal, the most important thing to consider for evaluation a new proposal is the quality of the entrepreneur. But in the real world venture capital practices there are some cases which quite match the criteria provide by MacMillan, Siegel and Narasimha and still failed. For example, according to the information provided by the study of MacMillan, Siegel and Subbanarasimha 1987, the investment on a highly familiar with the targeted market and had a well-established relevant track record team could just failed because the lack in capacity for sustained and intense effort.
And also, according to the flawed ventures studies in this journal, it was said that if the proposals cannot match at least two of those indicator criteria the venture capitals would give up it. But there do are some example that represents a venture team lacking in terms of all the desirable criteria but only have high product protection and become successful. Finally, we should mention that Research by “social judgment theorists suggests that ‘espoused’ decision-making processes (that this present arguing study fallen in) may be a less than accurate reflection of ‘in use’ decision-making processes” (Shepherd, 1999, p.76).
Conclusion The study that carried out by MacMillan, Siegel and Narasimha provide us some common criteria for evaluating new venture proposals. Those criteria are useful tools to indicate the successful of certain venture. Some of those criteria are key finds that still influence the venture capitalists in nowadays. But we should also notice there are numbers of criteria for judging a new proposal and some of those criteria have been marked as important criteria.
But in real world practice proposals might be failed just because the lacking of the least important criteria even if they have all the other important criteria. And also, some venture cases may well successful with only one less important criteria (product protection) even they do not have any other desirable criteria mentioned by the study. As venture capital present a risk taking action, it is better to have a careful view on those criteria and chose the most appropriate one to reduce the risk to the lowest point.
MacMillan, Zemann, Subbanarasimha, P. N 1987, Journal of Business Venturing Criteria distinguishing successful from unsuccessful ventures in the venture screening process Fred Pries 2001, Distinguishing successful from unsuccessful venture capital investments in technology-based new ventures: How investment decision criteria relate to deal performance, Waterloo, Ontario, Canada Brealey Myers, Principles of corporate finance, McGraw-Hill 2003