Technological innovation, venture formation and resource allocation : the impact of economic downturn on life sciences venture capital and start-ups

The Massachusetts life sciences supercluster is a source of tremendous innovation. The Commonwealth's academic and industrial institutions produce a consistent stream of cutting-edge scientific research and the region has a well-developed professional and financial infrastructure to support the translation of these ideas into useful products. Venture capital (VC) plays a particularly important role in this ecosystem. VC funding is essential to most life sciences companies due to their high research and development costs and long time to market. The economic downturn of 2008 led to a rapid and significant contraction in the ability of venture capital firms to raise the funding that supports their work. We use this setting to test the impact of a funding shock on life sciences focused venture capital resource allocation. Specifically we looked at the rate and direction of funding choices made by venture capitalists before and after the downturn. We analyzed data on yearly venture capital fundraising and 22,345 observations of investment dyads between venture capital firms and the portfolio companies which they invested in from the ten year period beginning in the year 2000. Additionally, seventy-six interviews with stakeholders in the Massachusetts life sciences community were conducted to help us understand the actual impact of data trends. This resulted in four major findings: (1) Although all venture capital fundraising was hindered in 2008 and 2009, life sciences focused venture funds were impacted disproportionately lightly in 2008 and disproportionately severely in 2009. (2) There has been a decline in the mean level of venture capital funding that companies are receiving. (3) The rate of new company formation is slowing as the rate of reinvestment in existing companies increases. (4) Innovation is being negatively impacted as fewer new companies translate technology into useful products and existing companies scale back their research and development pipelines.