How a business founder's background and experience can influence investment at the IPO stage
New research contributes to the debate about the respective merits of generalists and specialists.
How does the breadth and nature of a business founder’s experience influence potential investors?
It’s a question that has occupied many researchers.
The management literature has shown a particular interest in how resource providers and investors evaluate both the founders of early-stage ventures, and those making investment pitches. They have money to invest, so what do they look for in the people trying to win their backing?
New research tests the theory that a founder’s industry background, the roles they have performed, and the range of experience they have amassed are significant considerations for those weighing up a business investment.
Do founders need to be generalists? Does a broad set of experience make for an enhanced ability to spot opportunities, or to generate ideas? Might they actually be less knowledgeable, and less committed than those founders who possess specialist experience?
Prior research has suggested that multi-faceted founders can be effective in the very early stages of a business but may lack the specific skills needed to take the business further. An Initial Public Offering (IPO) may be one such critical, transformative juncture when investors might prefer a specialist founder. In the paper Specialists, generalists, or both? Founders’ multidimensional breadth of experience and entrepreneurial ventures’ fundraising at IPO the authors have explored whether or not this is the case.
The researchers used a hand-collected dataset of 175 entrepreneurial IPOs in the Alternative Investment Market in London (2002–2013), and two randomised experiments, to test their model.
They found that compared to ventures with a lead founder specialising in one industry or one function, investors generally devalue those with a lead founder from a more generalist background.
However, devaluation is less severe when a lead founder is a generalist in one aspect (e.g., industry) but a specialist in the other (e.g., function).
The research also examines the role that "trust" plays with regards to the generalist penalty. Since IPO transactions place investors in a potentially vulnerable position, with their money at risk, they need to trust founders before investing in entrepreneurial ventures. The research tests the notion that trust mediates the relationship between category spanning and audiences’ evaluations. It finds that in a multidimensional space, specialisation in one categorical dimension can offset—partly or fully—the penalty from category spanning in another dimension.
Finally, the paper shows that an external expert endorsement, such as from intensive venture capital affiliations, offsets the generalist penalty, especially when category spanning occurs in multiple category dimensions.
The accepted version of the paper Specialists, generalists, or both? Founders’ multidimensional breadth of experience and entrepreneurial ventures’ fundraising at IPO can be downloaded at City Research Online.