| Description |
This paper is a discussion of the effects of diversification in venture capital (VC) portfolios. The venture capital structure is formed by three components: the firm, a fund (or funds), and portfolio companies within each fund. One single firm can have simultaneous active funds, which typically last between five and ten years, and contain multiple portfolio companies within each fund. A VC firm's fund can either be specialized or diversified depending on the strategy of the general partners. A specialized fund is attractive to firms who have specific knowledge or industry expertise. This expertise aids in superior selection decisions, value added to the firm, and reduced agency costs via staged capital infusion. The drawback, like in any undiversified portfolio, is the increase in vulnerability to unsystematic risk of the limited partner's investment. Diversification within a firm's fund can be assessed using naïve, dynamic, and systematic measurements. Naïve diversification includes the number of portfolio companies, dynamic measures diversification over time, and systematic looks at diversification across stages, industries, and countries. |
