The geographic extent of venture capital externalities on innovation

A stream of literature has demonstrated that venture capital generates externalities that enhance the knowledge base of a given region and accordingly assist firms in high-technology industries to improve their innovative performance. What has gone largely unexamined in this literature is the geographic extent of such externality impact. In this research we address the issue at hand. We do so by analyzing the association between the patenting rate of all life sciences firms (LSFs) that have won Small Business Innovation Research grants from 1983 to 2006 and the venture capital investments that have occurred at increasingly distant spatial units from those firms. Controlling for firm-specific and environmental factors as well as for endogeneity concerns, we document that LSFs tend to produce more patents whenever they are situated in very close proximity to where venture capital investments occur. Further, we find that improvements of the patenting rate of focal firms largely emanate from investments that reflect the expertise of venture capitalists on advancing existing prototypes closer to commercialization. We conclude the paper with a discussion on research and policy implications of our findings.