The dark side of signals: Patents protecting radical inventions and venture capital investments

Massimo G. Colombo, Massimiliano Guerini, Karin Hoisl and Nico M. Zeiner

Research Policy, 2023, vol. 52, issue 5

Abstract: Patents are an important signal of the unobserved quality of young, innovative firms. We study patents that protect radical inventions associated with high earnings potential but also a high risk of failure. These previously disregarded signals convey positive and negative information simultaneously, i.e., strong signals that have a dark side. We argue that whether firms that send such signals are attractive investment targets for venture capital (VC) investors depends on the characteristics of the investors. Reputable VC investors are attracted to the strong quality signals of patents protecting radical inventions and are better able than other VC investors to deal with the dark side of these signals through syndication. These effects are stronger in the first financing round than in follow-on rounds, as the (positive and negative) informational value of patents protecting radical inventions diminishes over time as information asymmetries between young firms and prospective VC investors are reduced. We test these predictions using a sample of 759 young life science firms and 555 VC investors. Econometric estimates from a matching model support our predictions.

Keywords: Signals; Radical inventions; High-tech startups; Venture capital (search for similar items in EconPapers)
Date: 2023
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:eee:respol:v:52:y:2023:i:5:s0048733323000252

DOI: 10.1016/j.respol.2023.104741

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