The influences of capital market munificence on new-venture alliance formation in emerging industries

Abstract

How do public capital markets influence alliance formation by new ventures? Resource dependency logic suggests that new ventures form fewer alliances when public capital markets are munificent because public investors demand less management control than do alliance partners. In contrast, according to the strategic behavior view, public capital market munificence can also motivate alliance formation because such munificence can enhance the returns that new-venture managers expect from using alliances. We seek to reconcile these two conflicting views of reinforcing versus attenuating effects of public capital market munificence on alliance formation. In this study of new Internet ventures, we find evidence that public capital market munificence increases alliance formation, which provides support for the reinforcing effect. However, availability of other resource alternatives—venture capital and product markets—decreases the positive influence of public capital market munificence on alliance formation. Thus, a contingency perspective in which resource dependency-based motivations moderate strategic motivations best explains the influence of capital market munificence on new ventures’ alliance formation behavior.

Keywords

Alliance formation capital market munificence new ventures resource dependency theory venture capital

Introduction

New ventures often face severe resource constraints that force them to depend on their external environments (Aldrich and Pfeffer, 1976; Aldrich and Ruef, 2006; Pfeffer and Salancik, 1978). However, not all external sources of resources are equally accessible and attractive. New-venture managers often face strategic choices about how to endow their enterprises, and they must weigh the advantages and risks associated with each set of resources when making these choices. Thus, understanding how the characteristics of one source of resources influences the use of other sources offers important insights into the way new-venture managers make strategic choices about how to endow their firms. We address this general question by examining the influence of public capital market munificence on new ventures’ alliance formation.

Most existing studies on the influence of public capital markets on new ventures’ alliance formation activity draw on a cascading resource dependency model to suggest that the munificence of public capital markets can reduce the attractiveness of strategic alliances as a financing vehicle (Lerner et al., 2003; Patzelt et al., 2008). In this view, firms often turn to alliances when more benign sources of capital are unavailable. That is, new-venture managers prefer to give up as little control as possible to alliance partners when more passive external investors can provide sufficient resources. Consequently, this perspective suggests that capital market munificence should have an attenuating effect on alliance formation.

However, other work suggests that strategic motivations may cause public capital market munificence to have a positive influence on alliance formation by new ventures. New ventures may choose to use alliances as mechanisms to take advantage of the new influx of capital and associated opportunities in the environment. Indeed, firms often enter strategic alliances to capture windows of opportunity in growing markets or invest in specific assets to meet increasing demand (Harrigan, 1988; Kogut, 1988; Park et al., 2002). In many cases, strategic alliances involve the exchange and development of key resources and capabilities. In others, alliance formation symbolically sends signals to investors and other key constituents that alliance partners endorse a venture’s viability at a time when traditional performance metrics are often not available and the new venture’s short track record is difficult to gauge (Aldrich and Fiol, 1994; Janney and Folta, 2006; Nicholson et al., 2005; Podolny, 1994; Stuart, 1998; Stuart et al., 1999). Regardless of the specific strategic purpose of the alliance, these scholars posit an increase in alliance formations in munificent capital markets, and thus a reinforcing effect.

In this study, we contend that a comprehensive explanation of the relationship between public capital markets and new-venture alliance formation requires a contingency perspective that reconciles both views and identifies boundary conditions. Public capital market munificence increases alliance formation activity, but that relationship depends on the availability of resources from other sources. In the absence of strong internal resources or growth in consumer demand, new ventures rely heavily on alliance formation as a means of taking advantage of opportunities created by munificent public capital markets. However, when new ventures are less dependent on public capital markets because they have access to financial resources through venture capitalists and product markets, the positive influence of public capital market munificence on alliance formation weakens. We test our hypotheses using a sample of new Internet-related ventures that spans 13 years, 1990–2002, a setting that allows us to see large fluctuations in capital market munificence.

In doing so, we contribute to the literature on antecedents of alliance formation (e.g. Ahuja, 2000; Eisenhardt and Schoonhoven, 1996; Rothaermel and Boeker, 2008) as well as to the body of work that has investigated how entrepreneurial firms search for, make trade-offs between, and mobilize resources (e.g. Brush et al., 2001; Gilbert et al., 2006; West and DeCastro, 2001; Zott and Quy, 2007). Our research shows that resource dependency theory is not a sufficient explanation for the relationship between capital market munificence and alliance formation. Instead, other explanations anchored in the strategic behavior perspective appear to be more directly influential, and resource dependencies appear to play a moderating role. In addition, we reinforce and extend the findings of Park et al. (2002) about the direct and indirect influences of product market growth and firm resources on alliance formation. This study suggests that the munificence of two other important sources of resources—product market growth and prior private venture capital (VC) investments—moderates the influence of public capital market munificence on the alliance formation behavior of new ventures.

Theory and hypotheses

Alliances can be particularly valuable tools for new-venture managers. In essence, alliances are voluntary, cooperative inter-organizational arrangements involving exchange, sharing or co-development of products, technologies, or services (e.g. Gulati, 1998). Like other forms of exchange, alliance formation requires potential participants to be both willing and able to reach cooperative agreements (Ahuja, 2000; Ring and Van de Ven, 1992, 1994). Alliances also typically require partners to share management control to some degree, and often require partners to make unrecoverable, relationship-specific investments (Gulati and Singh, 1998; Hagedoorn, 1996; Teece, 1986; Williamson, 1991). Consequently, firms that are contemplating entering into alliances must believe that the opportunities available are great enough to justify their enterprising, cooperative efforts. In many cases, although not all, those opportunities are related to the munificence of financial capital markets.

Public capital market munificence

Munificence generally refers to the availability of resources (Aldrich, 1979; Finkelstein and Hambrick, 1996). In the case of public capital markets, munificence refers to the availability of financial capital from outside investors through public markets. Such financial capital directly flows into new ventures through initial public offerings (IPOs), and can create potential arbitrage opportunities that spur other private merger and acquisition (M&A) activity. Among exit options available to a venture, an IPO is generally the preferred option. Indeed, IPOs are generally considered to provide the greater potential returns, as compared to M&As, and many entrepreneurs consider an IPO to be the most desired form of “harvest” (e.g. Kensinger et al., 2000). However, both forms of new-venture exit—IPO and M&A—can help shape entrepreneurs’ strategic calculations and the relationship between public capital market munificence and alliance formation.

How and why would public capital market munificence influence alliance formation? A cascading resource dependency model suggests that the munificence of public capital markets reduces the attractiveness of strategic alliances as a financing vehicle (Lerner et al., 2003; Patzelt et al., 2008). In this view, firms often turn to alliances when more benign sources of capital are unavailable. The division of operational control in alliances can create opportunism risks and other relational frictions that can drag down performance (White and Lui, 2005). Consequently, new-venture managers may prefer to give up as little control as possible to alliance partners when more passive external investors can provide sufficient resources. Studies drawing on the cascading resource dependency model, therefore, highlight an attenuating effect of public capital market munificence on alliance formation.

However, other factors suggest that public capital market munificence may increase alliance formation activity by new ventures. This can happen for both real and perceived reasons. Increases in IPO and M&A activity are indicative of a munificent public capital market. News about more and larger venture exits via IPO or M&A increase nascent entrepreneurs’ expectations about the potential returns that those entrepreneurs might receive from product market growth and their own venture exit. In many of these cases, greater capital market munificence implies that the supply of capital has outgrown the number of entrepreneurs pursuing that capital so that the returns to entrepreneurial efforts truly grow. Indeed, investors’ capacity to provide capital in response to technological changes or other product market changes may be greater than entrepreneurs’ capacity to provide investment opportunities due to cultural and economic constraints on entrepreneurship (e.g. employment security concerns). However, an increased frequency of news about venture exits could be enough to create a perception that the returns to strategic actions have increased even if the supply of entrepreneurs keeps pace with the supply of capital.

Either way, growth in expected returns from venture exit motivates new ventures’ formation of strategic alliances. Research and development alliances can help nascent ventures refine the product technologies that potential investors judge. Marketing alliances can help establish distribution channels, generate product awareness, and boost sales revenue at a time when profitability might not be a good indicator to investors of a new venture’s viability. And regardless of the functional nature of an alliance, the partnership is an indication to investors that another company believes the new venture possesses some resource or capability of significant value (Nicholson et al., 2005; Podolny, 1994; Stuart, 1998; Stuart et al., 1999). Each of these possibilities is consistent with research suggesting that alliances can improve subsequent IPO performance (e.g. Chang, 2004; Gulati and Higgins, 2003; Stuart et al., 1999), so new ventures may have good reason to strategically use alliances in response to growing capital market munificence.

In addition to its motivational effects, capital market munificence may also make more potential alliance partners available to new ventures. Capital market munificence promotes the proliferation of nascent ventures around the most attractive emerging product markets. Given that the resource requirements for success in emerging product markets are often highly dynamic and that those nascent ventures are likely to have gaps in their resource portfolios, it follows that capital market munificence creates more opportunities for partnership. Consequently, capital market munificence may promote alliance formation among new ventures by influencing factors that both push and pull them into partnerships.

In sum, two sets of countervailing mechanisms linking capital market munificence to alliance formation exist. However, the nature of emerging industries tends to suggest that the positive influences of capital market munificence might dominate the negative influences. In fact, emerging industries tend to be characterized by rapid technology and customer base development (Anderson and Tushman, 1990; Henderson and Clark, 1990; Teece, 1986). Moreover, exploiting emerging product markets often requires capabilities and tacit knowledge that cannot be quickly or easily developed, regardless of the amount of financial capital available (Dierickx and Cool, 1989; Teece et al., 1997). So, although financial capital might serve as a substitute for alliance formation in many cases, it might not in many others. Consequently, this potential attenuation of the negative effects leads us to the following hypothesis:

Hypothesis 1. The munificence of public capital markets increases a new venture’s degree of alliance formation.

Private investments and product market growth

Although many new ventures seek to form alliances in order to take advantage of new opportunities in the environment created by munificent capital markets, forming alliances is not without risk. In fact, alliance partners can engage in opportunistic behavior, including hold-up and intellectual property leakage and subsequent misappropriation (Hamel, 1991; Larson, 1992; Oxley, 1997; Williamson, 1991). Small firms are especially vulnerable to hold-up because they tend to make greater transaction-specific investments (Arino et al., 2008). Furthermore, appropriation hazards are exacerbated for technology-intensive firms making greater intangible transaction-specific investments (Martinez-Noya et al., 2013). In addition, alliances can sometimes limit a new venture’s strategic options if alliance partners cast shadows that preclude other potential partners from approaching the venture. Not surprisingly, many small firms are only likely to form alliances when managers perceive advantages will outweigh disadvantages (Harrigan and Newman, 1990). In light of these potential disadvantages, new-venture managers may have an interest in accessing other sources of resources to grow, instead of forming alliances to access opportunities and obtain resources.

Private investors offer new-venture managers another means of endowing their firms. At the early stages of their lifecycle, before any exit event—such as an IPO or an M&A—new ventures typically receive investments from some combination of friends, family, angel investors, and venture capitalists. Such private investments reduce new ventures’ dependency on other external sources of resources (Pfeffer and Salancik, 1978). If a new venture has been well endowed by prior private investments, new-venture managers may have less incentive to incur the costs and accept the risks of establishing alliances as a means of taking advantage of munificent capital markets. Consequently, substantial private investments may give venture managers the ability to finance growth and delay or forgo alliances as a resource acquisition mechanism. Therefore, we expect substantial private investments in a new venture to lessen the effect of capital market munificence on the new venture’s alliance formation activity:

Hypothesis 2. An increase in prior capital investments decreases the positive influence of public capital market munificence on new ventures’ alliance formation activity.

New ventures can also fund their activities through organic growth, especially in emerging product markets created by new technologies. Product market growth creates opportunities for new ventures to generate resources through normal business operations. If product markets grow quickly enough, new ventures may have less need for alliances as a means to access munificent capital markets to adequately fund growth initiatives. Even when new ventures lack sufficient financial capital, product market growth is likely to inspire greater confidence among traditional creditors such as banks that do not demand equity stakes.

Organic growth of new ventures in high growth product markets may appeal to entrepreneurial managers more than soliciting external investors because organic growth does not require entrepreneurs to relinquish either strategic control or claims to future profits (Eisenhardt and Schoonhoven, 1996; Park et al., 2002). Organic growth may also appeal to new-venture managers because the processes of forming alliances and subsequently potentially soliciting public capital markets can distract managers from important operational tasks. Having alternative means to fund important growth initiatives, such as taking advantage of product market growth, gives new-venture managers more flexibility as to when to pursue external opportunities through alliances. Therefore, we expect the following:

Hypothesis 3. An increase in the growth rate of new product markets decreases the positive influence of capital market munificence on new ventures’ alliance formation activity.

Methods

Sample

We test the hypotheses using a sample of private, US-based, VC-backed Internet ventures between 1990 and 2002. All new ventures were formed between 1990 and 1999 and are included in the longitudinal sample until experiencing an exit event—IPO, merger or acquisition, leveraged buy-out, bankruptcy, or defunct status—or until the end of the study period. We include not just e-commerce firms but also other Internet firms in the Internet infrastructure, applications, and intermediary sectors; thus, our sample comprises both bricks-and-mortar as well as pure Internet firms across the Internet sector, which is consistent with other Internet sector-wide studies (e.g. Zacharakis et al., 2003). Following prior research (e.g. Katila et al., 2008), we include only VC-backed ventures in our sample because these firms meet a certain minimum quality standard. Specifically, their ability to attract external investors indicates that these firms have viable technology and marketing agendas, and thus have a choice of investors (Davila et al., 2003; Hellman and Puri, 2000). To an extent, including only VC-backed ventures controls for some unobserved heterogeneity.

Our empirical setting is also one marked by tremendous uncertainty and dynamism as well as heightened entrepreneurial activity, which makes it a particularly suitable context for our study. Indeed, the emergence of the Internet represented a radical technological change that disrupted multiple industries by giving rise to new products and services while challenging the value propositions of existing ones. The emergence of the Internet also led to the streamlining of information-related processes. Together, these influences created a high level of uncertainty about technological trajectories and the viability of Internet-related organizations, but they also created enormous entrepreneurial opportunities for smaller, more nimble firms and their investors. This combination offers an ideal context in which to study the influences of environmental munificence on alliance formation behavior. During this period, markets for Internet-related products grew rapidly, yet this period also included significant variation in the latent capital available through public financial markets as the Internet bubble grew and burst. In addition, the high levels of uncertainty in the emerging Internet sector during that time made signaling an attractive strategy (Chang, 2004; Colombo et al., 2006; Pollock and Gulati, 2007).

To construct our dataset, we acquired company data from Thomson Financial’s SDC Platinum Database, including the VentureXpert Portfolio Companies and IPO databases as well as the Global New Issues database. We identified Internet ventures using Venture Economics Industry Codes (VEIC) provided by SDC.¹ Table 1 summarizes Internet subsectors included in our sample. The VEIC codes in Table 4 in Appendix 1 include 2594 unique ventures. After ventures with missing, irrelevant, or incorrect data are dropped, the final sample contains 2546 Internet ventures with 12,576 firm-year observations.

Table 1.

Sample subsectors.^a

Internet subsector	Ventures’ focus	Examples of new ventures
I. Internet infrastructure	Ensure access to as well as fast and reliable traffic across the Internet (software and hardware products, including tools to monitor Internet, development tools as well as Internet service providers)	Akamai, IPivot, Ardent Com.
II. Internet applications	Build on the IP network infrastructure and make it technologically feasible to perform business activities online	Rubric Inc., Inktomi, Net.Genesis, Verity
III. Internet intermediary	Provide a platform for exchange (includes information brokering, as well as providing portals and content)	Travelocity, E*trade, eBay, Yahoo!, Google, WebMD, Quote.com
IV. Internet commerce	Effectively use the Internet as the primary sales channel for their products and services	Pets.com, Amazon.com, Ofoto, eMusic.com, Onlinelearning.net

IP: Internet Protocol.

Groupings are based on Barua et al.’s (1999) definition.

Dependent variable and analytical model

The dependent variable is equal to the total number of alliances formed by a new venture in a given year. We acquired alliance data from Thomson Financial’s SDC M&A JV/Alliance database. All alliance announcement dates gathered from SDC were verified using Lexis-Nexis. Overall, the 2456 Internet ventures in the sample entered into 647 alliances prior to experiencing an outcome event or prior to the end of the study period.

Although many alliance formations have little to do with capital market munificence, using the total number of alliance formations is justified. First, many alliance formations are motivated by multiple intents, and the intent to signal capital markets is often not explicit. Second, unwanted variance in the dependent variable due to alliances that are unrelated to capital markets increases the risk that the regression analysis will mistakenly fail to reject the null hypothesis that there is no relationship between capital market munificence and alliance formation. Despite this risk, the results, which we later describe in detail, do reject the null hypothesis.

We test the hypotheses using zero-inflated negative binomial regression (ZINB). Like standard negative binomial regression, zero-inflated negative binomial regression has the advantage of being appropriate for longitudinal analysis of count-based dependent variables. The baseline estimation accounts for right-censoring. However, zero-inflated negative binomial regression is more appropriate in cases where the data are overdispersed due to excess zeros (see Greene, 2003), as is the case in this study. To address overdispersion of the data, zero-inflated negative binomial regression estimates two models. The first model (inflation model) estimates the likelihood of a zero count. The second model predicts the count using negative binomial regression, but it incorporates a correction from the first model to do so. In effect, zero-inflated negative binomial regression constitutes a more rigorous test in cases of overdispersed data due to excess zeros than negative binomial regression and provides a better fit than negative binomial regression. To assess the appropriateness of using zero-inflated negative binomial regression, as opposed to negative binomial regression, we use the Vuong (1989) test.

Independent variables

Trends in public investment activity convey information about the munificence of the resource environment. Indeed, significant fluctuations in fundraising, investing, and public offering market activity have been observed over time (Gompers and Lerner, 2001). We use 1-year lagged, inflation-adjusted, annual public offering proceeds as an indicator of investor activity in the Internet sector. Because the Internet sector encompasses multiple industries and most public equity offerings during the observation period were Internet-related, we conservatively use total proceeds across public capital markets. We use total proceeds instead of number of IPOs because available capital is the construct of theoretical interest. Inflation-adjusted proceeds are highly correlated with the number of IPOs during the period of observation (0.63, p < 0.01). In the models, the independent variables are scaled as follows: product market growth is divided by 10; prior capital investments and capital market munificence are both divided by 100.

An argument could be made that, in spite of our use of a 1-year lag, the relationship between annual public offering proceeds and alliance formation activity is recursive. However, the fact that most new ventures do not form alliances suggests that the recursive effects of alliances on market-level proceeds are relatively small even though the effects may be large enough to influence the behavior of individual new ventures. Nonetheless, we conducted a robustness test of our model in which we replaced the actual public offering proceeds data with estimates of proceeds in the absence of alliances in the prior year. We calculate our estimates of alliance-less public offering proceeds using an ordinary least squares regression of public offerings, prior-year proceeds, and estimated alliances formed by public offering firms on actual public offering proceeds. The results of the robustness test do not substantially differ from the results of our ZINB model.

Given our interest in Internet-related ventures, we use the 1-year lagged growth rate of the Internet hosts as our indicator of product market growth. This is consistent with the literature that implicitly defines product market growth in terms of consumer demand growth (see Eisenhardt and Schoonhoven, 1996; Park et al., 2002). Internet hosts are computers that house information available through the Internet; their growth rate reflects the growth rate of the number of technology users. Although specific growth rates varied across individual industries within the Internet sector, all ultimately depended on the underlying growth rate of Internet users. Thus, host growth represents a relevant, but conservative measure of market growth rates across these related industries. The Menlo Park–based organization, Network Wizard, collected data on Internet hosts throughout the observation period of the study using its biannual domain survey. Network Wizard surveys of Internet hosts have been referenced by leading trade publications, including PC World, ComputerWorld, CommunicationsWeek, InfoWorld, and Computing Japan.

Given the need for rapid product innovations and competitive responses in fast-moving markets, coupled with the limited availability of internal capital, new ventures in high-technology industries rely on external funding, primarily from VC as their primary source of financial resources. We, therefore, measure a venture’s financial capital resources as the 1-year lagged cumulative amount of capital raised (in millions of dollars), updated in each firm-year.

Control variables

Our focus on the influence of capital market munificence on alliance formation makes statistical control of other alliance formation drivers that are correlated with capital market munificence important. Alternate alliance formation motives that are not correlated with capital market munificence are less of a concern. Ahuja (2000) describes these factors in terms of inducements that “push” and opportunities that “pull” firms into alliance formation, but these “push” and “pull” factors could also influence resource dependencies in public capital markets. Therefore, we want to rule out a potential spurious correlation between capital market munificence and alliance formation by controlling for these “push” and “pull” factors.

One of these factors is the pre-existing resource and capability endowments of the new venture. Prior private investments, which could be correlated with public capital market munificence, determine the resources and competencies that a new venture has to offer to potential alliance partners, including potential partners that may be interested in eventually acquiring the new venture. Prior private investments also serve as a proxy for a new venture’s assets that can enhance the valuation of the new venture by potential investors. Conversely, a new venture’s prior private investments, which lower a new venture’s resource dependency on external constituents, reduce the venture managers’ willingness to cede control to alliance partners (Eisenhardt and Schoonhoven, 1996) or public investors (Lerner et al., 2003; Patzelt et al., 2008). Drawing on this logic, prior research suggests that existing resource endowments have a curvilinear, inverted-U influence on alliance formation because well-endowed firms are less likely to need alliance partners and poorly endowed firms are less likely to be attractive to potential alliance partners (Park et al., 2002). Therefore, in addition to a variable equal to prior private investments in new ventures, we also include a variable equal to prior investments squared.

The other major factor driving alliance formations and public investments is expectations about future market opportunities. Existing product market growth serves as an important indicator of future market opportunities. Both alliances and public investments can help a firm to access resources and capabilities at lower cost and higher speed than internal development processes so that the firm can take advantage of the growing demand (Harrigan, 1988). Therefore, we include a 1-year lagged variable equal to the growth rate of the Internet sector. However, prior investments might reduce a firm’s resource dependency on alliance partners or public investments (Park et al., 2002). Therefore, we include a 1-year lagged control variable equal to the product of prior investments and Internet host growth to control for interactive effects in addition to controlling for the direct effects of Internet host growth.

Expectations about future market opportunities are also influenced by subjective assessments that are not directly tied to real market growth rates. Intensifying media attention to a particular sector can independently influence the attractiveness of that sector, and motivate both alliance formation and public investment. Anecdotal evidence suggests that this was particularly true about the Internet sector during our study’s observation period. Therefore, we include year fixed effects to control for variance in media attention and other cultural and economic factors across the study’s observation period.

Firms across different industries differ in terms of the capital intensities and technical complexities of their value creation processes. As a result, firms’ resource needs and propensities to seek alliances also likely vary. In order to control for intra-industry differences, we include dummy variables capturing differences among four Internet subsectors consistent with Barua et al.’s (1999) classification scheme. The subsectors include Internet infrastructure, Internet applications, Internet intermediaries, and Internet commerce. Two independent coders (former industry professionals) coded the data using the SDC field “Company Business Description” with additional cross-reference checks. Inter-rater reliability was 0.97, as measured by Cohen’s kappa (Cohen, 1960). The applications subsector dummy variable is not included, so it represents the reference group in the reported results.

The prominence of a new venture’s VC partner could also be influential. VC firms differ in terms of their size and social capital. Indeed, large VCs tend to have more resources to dedicate to finding high-potential new ventures. Thus, a new venture’s ties to prominent VCs provide market cues about the prospects and resource backing behind the new venture (Chang, 2004; Gulati and Higgins, 2003; Stuart et al., 1999). This could make the new venture more appealing to potential alliance partners. Additionally, large VCs typically have a greater number of business relationships that they can use to facilitate useful exchanges across the companies in which they invest. Therefore, consistent with prior literature, we control for new ventures’ relationships with prominent VCs. If one or more of the VCs invested in a given new venture was one of the top 30 VCs by total capital under management according to the SDC VentureXpert database the year prior to the investment, then the variable was coded as 1 and 0 otherwise.

New ventures’ ages could also be influential. Assessing younger companies can be difficult because they have less history by which they can be judged (Beatty and Ritter, 1986). Moreover, firm age could influence others’ perceptions of a new venture’s legitimacy and viability and might influence their ability to form alliances. Therefore, we include a control variable equal to new ventures’ ages in months.

A number of other factors, such as organizational culture and informal business relations, will influence a new venture’s propensity to form alliances over time. Because our model lacks the statistical power to control for the fixed effects of 2546 firms, we control for the nonindependence of new ventures’ propensity to form alliances by including a variable equal to each venture’s number of alliances formed during observation divided by the number of years the venture is in the sample. We also control for the effects of recent inter-organizational activity (e.g. Barden, 2012; Gulati, 1995) by including a variable equal to each new venture’s alliance formations in the prior year.

Results

Table 2 provides correlations and descriptive statistics of the study’s variables. Table 3 provides the results of the zero-inflated negative binomial regressions that test the hypotheses.

Table 2.

Descriptive statistics and correlations (N = 12,576).^a

		Mean	SD	1	2	3	4	5	6	7	8	9	10	11	12	13
1.	Number of alliances	0.05	0.31	1.00
2.	Number of alliances _t−1	0.04	0.25	0.24	1.00
3.	Age	37.82	25.45	0.05	0.09	1.00
4.	Prominent VC_t−1	0.23	0.42	0.08	0.07	0.10	1.00
5.	Internet infrastructure subsector	0.13	0.33	0.05	0.04	−0.01	0.06	1.00
6.	Internet applications subsector	0.55	0.50	−0.05	−0.05	0.06	−0.06	−0.42	1.00
7.	Internet intermediary subsector	0.23	0.42	0.02	0.02	−0.04	0.00	−0.21	−0.61	1.00
8.	Internet commerce subsector	0.09	0.28	−0.01	0.00	−0.03	0.04	−0.12	−0.34	−0.17	1.00
9.	Average number of alliances per period	0.05	0.17	0.54	0.42	−0.04	0.07	0.10	−0.10	0.05	−0.01	1.00
10.	Prior capital investments_t−1	0.12	0.34	0.22	0.25	0.09	−0.06	−0.01	0.03	0.05	0.22	0.25	1.00
11.	Prior capital investments squared_t−1	0.13	2.70	0.05	0.03	0.05	−0.03	−0.01	0.00	0.00	0.05	0.03	0.73	1.00
12.	Product market growth_t−1	5.99	3.26	−0.20	−0.08	0.03	−0.01	−0.01	0.00	0.05	−0.20	−0.08	−0.13	−0.02	1.00
13.	Capital market munificence_t−1	5.47	2.09	0.14	0.11	−0.04	0.02	0.01	0.00	−0.05	0.14	0.11	0.12	0.01	−0.09	1.00

SD: standard deviation.

All correlations greater or equal to 0.02 are significant at p < 0.05.

Table 3.

Pooled zero-inflated negative binomial regression results (N = 12,576).

	Model 1		Model 2		Model 3
	Coefficient	Robust SE	Coefficient	Robust SE	Coefficient	Robust SE
Inflation (logit) model:
Constant	2.59***	0.65	2.39***	0.60	2.36***	0.63
Age	−0.19***	0.05	−0.18***	0.04	−0.18***	0.04
Negative binomial model:
Constant	−4.09***	0.25	−4.84***	0.35	−7.08***	1.03
Number of alliances_t−1	−0.74***	0.11	−0.74***	0.11	−0.75***	0.11
Age	0.01***	0.01	0.01***	0.01	0.01***	0.01
Prominent VC_t−1	0.22^†	0.12	0.23^†	0.12	0.22^†	0.12
Internet infrastructure subsector	0.38*	0.15	0.43**	0.15	0.42**	0.15
Internet intermediary subsector	0.09^†	0.14	0.09	0.14	0.09	0.14
Internet commerce subsector	0.07	0.21	0.07	0.21	0.08	0.21
Average number of alliances per period	6.60***	0.33	6.65***	0.33	6.64***	0.33
Year fixed effects included	Yes		Yes		Yes
Prior capital investments_t−1	−0.11	0.79	0.22	0.79	0.48	0.79
Prior capital investments squared_t−1	−0.57*	0.21	−0.46*	0.20	−0.42*	0.20
Product market growth_t−1	−0.07*	0.02	−0.06*	0.03	0.22^†	0.12
Product market growth_t−1 × Prior capital investments_t−1	0.32*	0.13	0.21	0.13	0.51*	0.20
H1: Capital market munificence_t−1			0.11**	0.03	0.71**	0.26
H2: Capital market munificence_t−1 × Prior capital investments_t−1					−0.28*	0.14
H3: Capital market munificence_t−1 × Product market growth_t−1					−0.08*	0.04
Ln(α)	0.55***	0.14	0.54***	0.13	0.54***	0.14
Vuong statistic	4.08***		3.83***		3.68***
Log likelihood	−1585.15***		−1580.19***		−1576.16***
Difference calculation			(2) − (1)		(3) − (2)
Model difference statistic (using −2LL)			9.91**		8.07*

SE: standard error.

***

p < 0.001; **p < 0.01; *p < 0.05; ^†p < 0.10.

As Table 3 indicates, Model 1 includes the control variables. Model 2 adds the main effect of public capital market munificence to test Hypothesis 1. Model 3 adds the interaction terms to test Hypotheses 2 and 3. All models are individually significant (p < 0.001). Furthermore, the inclusion of additional covariates in Models 2 and 3 significantly improves model fit over the previous model, as illustrated by the model difference statistic (p < 0.01 and p < 0.05, respectively). The predictor of excess zeros, age, is statistically significant in all four models. The significance of the dispersion parameter alpha is significantly different from zero in all four models (p < 0.001), which suggests that our data are overdispersed and that a negative binomial model is more appropriate than a Poisson model. Furthermore, the Vuong statistic is also positive and significant (p < 0.001), which suggests that our zero-inflated model is a significant improvement over a standard negative binomial model.²

Hypothesis 1 posits that the availability of capital through external capital markets positively influences the formation of alliances among new ventures. Results in Model 2 of Table 3 indicate that the coefficient is positive and significant (β = 0.11, p < 0.01), and remains positive and significant in the saturated model, Model 3 (β = 0.71, p < 0.01). Thus, Hypothesis 1 is supported.

Hypothesis 2 posits that capital invested in a new venture decreases the influence of capital market munificence on the new venture’s alliance formation. Results of the regression analysis in Table 3 support Hypothesis 2. The coefficient of the invested public capital offering proceeds interaction term in Model 3 is negative and significant (β = −0.28, p < 0.05). Figure 1 graphically depicts the interactive influences of invested capital and capital market munificence on the alliance formation activity of new Internet ventures during the observation period. Specifically, it graphically shows that the influence of public capital market munificence on the new venture’s alliance formation (i.e. alliance rate multiplier) decreases when prior investments in new ventures increase.

Hypothesis 3 predicts that the influence of capital market munificence on the new venture’s alliance formation decreases when product market growth increases. The coefficient of the variable that captures the interaction between capital market munificence and product market growth in Model 3 of Table 3 is negative and significant (β = −0.08, p < 0.05). Therefore, Hypothesis 3 is supported. Figure 2 graphically depicts the interactive influences of capital market munificence and product market growth on the alliance formation activity of new Internet ventures during the observation period. It shows that the influence of capital market munificence on the new venture’s alliance formation (i.e. alliance rate multiplier) decreases when product market growth increases.

Discussion and conclusion

The results obtained in this study allow us to make the following contributions to the literature. One, our research extends prior studies on resource acquisition and on alliance formation (e.g. Brush et al., 2001; Eisenhardt and Schoonhoven, 1996; Gilbert et al., 2006; West and DeCastro, 2001; Zott and Quy, 2007) by finding that resource dependency theory is not a sufficient explanation for the relationship between capital market munificence and alliance formation. In fact, rather than finding that public capital market munificence attenuates alliance formation, as resource dependency logic would suggest, instead, we find support for a reinforcing effect, as posited by the strategic behavior perspective. This finding implies that much prior empirical research on capital markets and alliance formation may have overlooked or underestimated the ways that capital markets can actually motivate the use of alliances. Unlike prior studies that view alliances, public capital markets, and internally available financial resources as substitutes to one another (see Patzelt et al., 2008), we contend that the relationship between public capital markets and alliances can have both reinforcing and attenuating effects, depending on the new venture’s internally available financial resources and external product market growth. We reconcile the attenuating and reinforcing effects by highlighting boundary conditions that give us a more nuanced view of the relationship between capital market munificence and alliance formation. In fact, the findings of our study suggest that explanations anchored in the strategic behavior perspective—taking advantage of increased economic activity and external opportunities—are more directly influential, and resource dependencies play a moderating role.

The events and memes that emerged around the Internet sector during the study’s observation period also support the hypothesis that strategic motivations positively linked capital market munificence to alliance formation. For many Internet entrepreneurs during this period, IPOs became important ends in themselves. Capital infusions helped ensure new ventures’ survival until growing product markets could reach viability. To many entrepreneurs, early capital infusion seemed particularly important because of their beliefs that early movers would have significant advantages (Eisenmann, 2006). Other entrepreneurs viewed IPOs as the primary path to rapid personal enrichment. Consequently, the proliferation of IPO success stories motivated even more Internet entrepreneurs to pursue external opportunities created by the public capital market munificence and to form alliances, which would strengthen new ventures’ resource portfolios and attract the attention of investors.

One interesting path for future research is determining the exact nature of the mechanisms behind the positive, direct influence of public capital market munificence and alliance formation. Alliance formations in response to capital market changes could be both substantive and symbolic. What business functions do new ventures prefer to develop through alliance formation in response to capital market changes? How do different types of alliances influence IPO outcomes and entrepreneurs’ expectations? And to what degree does less substantive signaling play in new ventures’ decisions to form alliances?

Memes that developed around Internet start-up successes motivated investors to take significant risks under uncertainty (Shiller, 2000). In this environment of high risk-taking, even small pieces of information or indirect inferences about the viability of a new venture could influence potential investors. Consequently, implicit endorsements from business partners could be the primary or sole focus of some new ventures’ alliance formations. This begs questions about the signaling effects of alliance intent and scope. Some kinds of alliances may send more positive signals to potential investors than others. Existing research in this area does not offer consistent guidance (Chan et al., 1997; Das et al., 1998; Levitas and McFadyen, 2009). Alliance multiplexity, size, and functional scope may all influence the attractiveness of new ventures to their investors (Hoehn-Weiss and Karim, 2014; Khanna, 1998; Khanna et al., 1998; Oxley and Sampson, 2004). For example, R&D alliances might influence potential investors’ valuations of a new venture more or less than marketing alliances do. Future research should study whether new-venture managers recognize differences in the signaling effects of different kinds of alliances and the ways that other resource-based alliance intents influence the determinants and outcomes of signaling alliances.

In addition to findings about the direct effects of capital market munificence on alliance formation, our results also support both hypothesized moderating effects of alternate sources of resources. Thus, our study reinforces and extends the findings of Park et al. (2002) about the direct and indirect influences of product market growth and firm resources on alliance formation. The influence of public capital market munificence on new ventures’ alliance formation activity appears to depend on the availability of resources from sources other than public capital markets. Specifically, if a new venture has received sufficient investments from private venture capitalists, the new venture’s success may depend less on forming alliances that could allow it to take advantage of the opportunities created by the munificence of public capital markets. Likewise, if product markets are expanding rapidly, new-venture managers may be more likely to believe that they can raise sufficient capital through organic growth and that they may not need to take on the risks inherent in entering an alliance as a new venture. In addition to not wanting to incur the risk of forming alliances, new-venture managers may also simply not have the bandwidth to both pursue growing product markets and to focus on alliance formation for the purpose of attracting investors. Thus, resource dependency does appear to play an important role in shaping the moderating effects of prior private capital investments and product market growth on the relationship between public capital market munificence and alliance formations by new ventures.

The ways that alliances can compensate for a lack of available financial capital is an open question. Some types of substantive alliances may have little to do with the availability of capital. For example, in some cases where specialized resources or tacit knowledge are required, alliances offer capabilities that cannot be easily accessed through conventional market exchange. If so, then prior private investments might moderate the relationship between capital market munificence and manufacturing alliance formation more than it moderates the relationship between capital market munificence and R&D alliance formation. Consequently, future research should examine how the independent variables interactively influence different types of alliance formation.

Future research could clarify a number of issues surrounding this topic. In terms of scale, few events can compare to the Internet’s emergence and the accompanying increase in public capital market activity. The high levels of media coverage and investor enthusiasm were notable. However, these events were not completely unique. On smaller scales, other emerging technologies and product markets (e.g. biotechnology, alternative energy technologies) have accompanied waves of investor enthusiasm. Moreover, research suggests that young firms in these other technological sectors have used alliances to send positive signals to prospective investors (Levitas and McFadyen, 2009; Nicholson et al., 2005). Nonetheless, future research should examine these contexts to replicate and extend this research.

Future work should also address some of the limitations of this study. First, alliance formation requires commitments by multiple parties. However, we conduct our analysis at the level of the individual new venture rather than at the level of the dyad. Thus, future research could explore the moderating influences of dyadic characteristics between potential partners such as similarities, differences, and specific complementarities. For example, the influence of capital market munificence might depend on the degree to which potential partners are asymmetric in size or prestige. Furthermore, in this research, we focus on financial resources due to the importance and fungibility of this type of resource. Indeed, undercapitalization is recognized as a primary cause of new-venture failure. However, in addition to financial resources, future research could examine the effects of other types of resources, such as technical resources or network resources, on the relationship between public capital markets and alliance formation. Another aspect to consider in future work could be a more granular measurement of the timing of capital infusion, that is, to examine the elapsed time between capital infusion and alliance formation because alliances may be needed at a specific time following a capital infusion. Finally, consistent with prior research, we focus on only VC-backed ventures in our study. Extending the analysis to non-VC-backed ventures would allow for greater generalizability of our findings.

In summary, this study investigates the relationships among four of the most important sources of resources new ventures access for growth. Our study hypothesizes and finds a more nuanced relationship than previously discussed between capital market munificence and alliance formation, dependent on the availability of alternative resources—VC and product markets. By illustrating boundary conditions affecting the relationship between public capital market munificence and alliance formation, we reconcile two opposing views, the predominantly used resource dependence view that suggests an attenuating effect of public capital market munificence on alliance formation, and the reinforcing view suggested by the strategic behavior perspective. Our results also raise questions about whether there are subtle, but important, differences between the potential signals emitted by new ventures’ alliance formations and those of established public firms, thereby contributing to the entrepreneurship and alliance literatures. Our research, therefore, contributes to understanding how new-venture managers respond to changing financial market conditions, and the evidence offered by this study could help prospective new-venture managers formulate a financial strategy to ensure their survival and success.

Footnotes

Appendix 1

Table 4.

Sample composition: “Internet Specific” Venture Economics Industry Code (VEIC).

VEIC 1550–1559	Internet communications (including Internet backbone infrastructure, Internet service providers, and Internet access service)
VEIC 1560–1562, 1569	E-commerce technology (including Internet security and Transaction services and E-commerce services)
VEIC 1563, 2780–2798	Internet software (including Internet search engines and web server software)
VEIC 2142	Internet specific computer hardware—web servers
VEIC 2765–2768	Internet programming (including web design)
VEIC 2800–2829	Internet e-commerce—products
VEIC 2830–2849	Internet e-commerce—services
VEIC 2850–2869	Internet content—portals and aggregators
VEIC 2870–2879	Internet services (including data warehousing services and Internet marketing services)

Acknowledgements

We wish to thank Tim Rowley, our three anonymous reviewers, seminar participants at the Strategic Management Society Conference and Academy of Management Meeting, and seminar participants at Oregon State University for their valuable contributions to this article.

Funding

This research received no specific grant from any funding agency in the public, commercial, or not-for-profit sectors.

Notes

Author biographies

Manuela N Hoehn-Weiss is an Assistant Professor at the University of Washington Bothell. Her research, which is positioned at the intersection of strategy and entrepreneurship, investigates how young firms obtain access to and acquire resources that are critical to their operations. The core of her inquiry examines how alliances affect new-venture performance. She also explores related questions, at different levels of analysis, that address (1) how different resource configurations affect firm performance, (2) how new ventures acquire different types of resources necessary for growth, and (3) how entrepreneurs acquire financial resources. Her research has been published in Strategic Management Journal, Journal of Private Equity, and Frontiers of Entrepreneurship Research. She received her doctorate in Strategy and Policy from Boston University.

Jeffrey Q Barden is a member of the Oregon State University College of Business faculty. His research focuses on topics related to exchange, including cooperation and conflict, embeddedness, and risk behavior. In addition to Strategic Organization, his research has appeared in Academy of Management Journal, Academy of Management Review, Journal of Business Venturing, Journal of International Business Studies, Journal of Sport Management, and Strategic Management Journal. He has a PhD from the Duke University Fuqua School of Business, an MBA from the Indiana University Kelley School of Business, and a BA in economics from the University of North Carolina.

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