The Demand for the Establishment of Venture Capital

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The unfulfilled need for VC lies deeper than apparent at first sight and can be traced back to informality and a lack of capital causing limitation in the availability of funds (Chavel, Gonzalez, & Olivas, 2005). The market can be characterized as one with vast demands for financing and low levels of investment supply. On the supply side, the concentration of risk capital in family offices presents issues in the levels of venture capital provision (Márquez & Sandoval-Arzaga, 2018). The privatization of state-owned companies in the 1990s has allowed for the formation of private fortunes that are often put into investment vehicles referred to as family offices (Summa, 1994). Most funds are either partly or fully backed by legacies and face common operational issues. Firstly, family offices tempt to be risk averse in the way they select investment targets as they attempt to keep low profiles (Dib, 2018). Thus, target companies are commonly established enterprises or real estate. Secondly, a conflict of interest emerges from the lack of knowledge the managers of family offices face in VC (Amita, Brander, & Zott, November 1998). Although talented fund managers are available in the market, Marquez & Sandoval-Arzaga (2018) identify that there is a general distrust of family offices towards local fund managers ultimately hindering their diversification into VC. Lastly, family offices do not allow for the participation of national and international institutional investors that are looking to diversify into VC market as they are not open to participation of other limited partners and if they are they are most likely first time funds (Serebrisky, 2015).

On the demand side, low household savings, limited access to finance, high cost of borrowing and key drivers in the scarcity of entrepreneurial finance (OECD, 2018). In their work on Start-Up capital in Mexico Hernandez-Trillo, Pagan, & Paxton (2005) find great importance of personal savings on the financing of new companies. This seems to be independent of whether the sector operating in is formal or informal. Mexico has historically had relatively high household savings (Attanasio & Székely, 1998). At 15.35% of GDP in 2016, household savings are high even when comparing to developed nations like Germany or the USA. Other developing nations such as China have savings in excess of 35% of GDP. Although Quinn (2005 ) finds that household savings are a direct effect of interest rates due to higher opportunity cost, the lack of personal savings limits the channel of self-financing ventures and opportunities to achieve funding through family and friends (Gentry & Hubbard, 2000).

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