May the Force be With You: Investor Power and Company Valuations
This paper examines the effect of investor power in a model of staged equity financing. It shows how the usual effect where market power reduces valuations can be reversed in later rounds. Once they become insiders, powerful investors may use their market power to increase, not decrease valuations. Even though powerful investors initially lower valuations, companies prefer to bring them inside to leverage their power in later financing rounds. The paper also makes predictions about investor returns, and issues a warning that unrealized interim returns can be misleading predictors of final realized returns when powerful investors distort interim valuations.
This research was supported by a research grant from the John Fell OUP Research Fund, and a research grant from the Social Sciences and Humanities Research Council (SSHRC) Canada. The views expressed herein are those of the authors and do not necessarily reflect the views of the National Bureau of Economic Research.