Japanese Venture Capital
An Analysis of Start-up Investment
Patterns vs. Silicon Valley
Robert Eberhart, STAJE Fellow
Stanford University
research questions
• What are the apparent differences in venture capital
investment patterns in Japan versus Silicon Valley?
• How can these empirical differences be understood
without cultural explanations and be consistent with
the empirical data?
• Do the explanations - consistent with the
observations - help us understand the future pattern
of VC investment in Japan?
japan VC market
Japanese VC Investment Data
3000
Deals, Investment in Millions of Yen
2500
2000
Total Invested
Number of Deals
1500
1000
500
0
1991 1992 1993 1994 1995 1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006
Note: Annual figures. Figures from 1991 to 2002 are for annual periods through September of indicated year. Figures
from 2003 to 2006 are for annual periods through March of following year. E.g., “2006” is for the fiscal year ending March
31, 2007. Source: VEC, Japan Venture Research
2009-1
2008-3
2008-1
2007-3
2007-1
2006-3
2006-1
2005-3
2005-1
2004-3
2004-1
2003-3
2003-1
2002-3
2002-1
2001-3
2001-1
2000-3
2000-1
1999-3
1999-1
1998-3
1998-1
1997-3
1997-1
1996-3
1996-1
1995-3
1995-1
US VC market
US VC Investment Activity
30000000000
2500
25000000000
2000
20000000000
1500
15000000000
Deals
Amount Invested
1000
10000000000
5000000000
500
0
0
japan VC IRR
Comparative IRR
Syndication
• Syndication
– In US, most deals
– One contract,
several investors
– Claimed uncommon
in Japan
–
1 SOURCE: Japan Venure Research 2009
• Preliminary Survey
data:
– 60-70% of Japan VC
deals are de facto
syndicated1
– Three to four firms per
deal
• With similar term sheets
• A de facto lead
• “ Lead” assigns director
and coordinates
– Lacks the form of a US
syndicate but is same
function
empirical data revisited
• Start with 2800 deals and @Y95M per deal
– With de facto syndicates, we recalculate to obtain:
– Actual NET: (approx.) 1500 deals, $1.9M per deal
• Versus US, 2006:
– 3080 deals with $7.1M per deal
• So, truer picture is:
– in Japan’s economy
• deals are roughly equal, given relative economy size
• but average deal size in Japan is 1/4 of US
– What can explain this empirical difference?
empirical summary
• Any explanation of Japan VC patterns must
account for:
– Comparatively different deal size
• US: $23.5 billion into 3080 deals (2006)
• Japan $2.8 billion into 1500 deals (2006)
– Long term Japanese IRR is lower than U.S.
• Japan LT Avg, life of fund = 3.9%1,2
• U.S. LT Avg, life of fund = 16.5%2
1 SOURCE: Japan Venture zResearch
2SOURCE: Martin Haemmig 2009
is current literature explanatory?
• Institutional Environment
– Lack of Syndication
• No common contracts
• Japanese VC’s do not assign a
director
– Ownership at IPO
• Japanese firms at IPO greater
founder control
– Structure of VC firms
• Shareholder =>Risk
diversification strategy
• Japanese VC JPF structure
=>Internal VC staff to find and
persuade investments
– Tax Implications
• Cultural Explanations
– Japanese entrepreneurs
resist loss of control
– Japanese VC’s are risk
averse
• Salary motivations
• culturally
– Poorly developed reputation
markets for VC’s
• Entrepreneurs cannot
decide which VC => less
opportunism
Do these explain the data?
•
The current
explanations:
1. Suggest a reduction of
the supply of funds,
which
2. Implies a higher return
to reflect attracting the
smaller supply.
3. However, Japan has
lower return…so
inconsistent with many
explanations
analysis
Now what?
• What is the
explanation of the
differences?
• What can we learn?
Heterogeneity can explain
culture
• Cultural
explanations may
actually be path
dependencies within
a heterogeneous
industry structure
• Can find a behavior
depending on the
founding date and
strategy of a VC firm
• ex. “Salaryman type portfolio
investment”
– In some firms, not others,
not in new firms
– Persists in some firms (path
dependence)
• Each period of VC
foundation has its own
institutional path
dependencies
• Appears cultural because a
cultural explanation can be
supported by behavior of
some firm.
heterogeneity in governance
heterogeneity in strategy
Lower return from lower costs
• agency cost differences can explain lower returns
• Opportunism and agency costs
– VC and entrepreneur’s interests are not aligned
– opportunistic behavior
• VC
• Common shareholder
opportunism
• IN US
• In Japan
– VC’s control common
shareholder
opportunism by
• Preferred shares
• Obtaining early control
via
– large investment
– Preferred shares
– Common control of VC
is less effective
• Shareholder activism
not favored by courts
– VC’s almost always common
shareholders
• less divergent interests
– More important - less ability
to control through share
acquisition
• Must acquire common
shares for control
• Rights in law for significant
minorities
• Silencing requires coalition
of 71% or greater
• Shareholder activism can
be expressed effectively
extra-legally
mitigating opportunism
• U.S.
– VC can control with
sub 50% ownership
and preferred rights
– Vocal minority can
be silenced with
involuntary buy-out
– Courts rely on
common
shareholders selling
to get out
• Japan
– sparse preferred so
VC needs 50%+ to
control
– To silence a minority
must control more
than US
– Courts generally
hear remedies to
unfair practice
conclusions
Key points
• Japan VC’s have less motivation to seize explicit
control
– Common shareholder (all), less divergence of interest
– Legal differences reduce ability to control in Japan
• With less need (or ability) to mitigate opportunistic
agency costs, Japanese VC’s obtain less control
• Lower money needed to mitigate agency costs =>
less risk => less return
conclusions
• Cultural explanations
– Inconsistent with IRR
data
– Can be explained by
heterogeneity of VC firms
• Many apparent
differences are
differences of form not
function
• Agency costs, from
opportunism mitigation
tactics, may explain the
difference:
– US structure creates need for
control by VC’s to mitigate
• Common sh’rdr opportunism
• Operationalize VC
opportunism
• But, not req’d or available in
Japan
– Is consistent with empirics
– Explains why Japanese
founders come to IPO with
more ownership
the future
• Predictions of a VC
shakeout in US
• Predictions of second
lost decade in Japan
• But entrepreneurship is
an element of recovery..
VC is a catalyst
• Because of the agency
cost situation in
Japanese VC
investment
• And because of
heterogeneous VC
systems
• Japan has the ability to
adjust to new economic
reality … perhaps
easier than US VC firms
Thank you