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HYPOTHESES

Firm Legitimation.  An entrepreneurial firm must proactively seek legitimacy particularly those firms operating in emerging industries. As discussed earlier, entrepreneurial organizations are generally resource poor and dependent upon external constituents for critical resources, such as capital.  In addition, early stage ventures have little history and provide very little concrete data upon which these external constituents can make a rational prediction of the firm's future performance. Under these circumstances, the external constituents are forced to rely on the limited data available and their 'gut feel'. Uncertainty and ambiguity make evaluations of risk highly subjective and dependent upon the heuristics of the specific decision makers and the framing of the issue (Tversky & Kahneman, 1981). The firm in this situation can influence the constituents evaluation by  conveying the image that it is a legitimate organization through the use of strategic institutional responses such as identification with organizations which have a strong base of legitimacy or communication via the press (Dowling & Pfeffer, 1975; Fombrun & Shanley, 1990). Therefore, a firm which is successful in creating an aura of legitimacy will  receive a superior evaluation from the financial markets and in turn be able to raise more capital on the public markets. Therefore, firm legitimacy will be positively related to the amount of capital raised in an IPO.

Hypothesis
1 Firm level legitimacy will be positively related to the amount of capital raised by the firm's IPO.

In the biotechnology industry identification is a widely used method of gaining legitimacy. Biotechnology firms attempt to identify themselves with strong research universities, such as Harvard, Stanford, UC San Francisco etc.  These organizations have a long history of successful research in biology and pharmacology and a strong base of legitimacy. By identifying themselves with these organizations biotechnology firms pursuing uncertain and risky research and development projects are attempting to associate their firm with respected entities in their environment. In essence, they are attempting to achieve legitimacy by association.  This leads to our second  hypothesis.

Hypothesis 2
Being identified as being founded by researchers from a medical school or a school with a graduate biochemistry program  rated among the top 10 schools in the US will be a positive indicator of firm legitimacy.

Entering into strategic alliances with pharmaceutical or chemical companies also represent an attempt to use identification to enhance a firm's legitimacy. The financial markets, while unfamiliar with the details of the techniques of recombinant DNA, genetic therapy, monoclonal antibodies, etc.,  recognize that pharmaceutical and chemical companies are better positioned to evaluate a biotechnology firm due to the similarities that exist in these two industries.  Therefore, a firm which is able to attract a pharmaceutical or chemical company as an alliance partners enhances its legitimacy in the eyes of the financial markets and a firm which is able to attract multiple partners further enhances its legitimacy. In a rapidly evolving industry, such as biotechnology, a firm must appear to be on the leading edge of the development of technology. It can signal this to potential investors by the positive evaluations it's projects receive from other knowledgeable entities. Recent entry into a strategic alliance provides this external validation. In the eyes of the financial markets, a firm which has been able to attract a pharmaceutical or chemical company as an alliance partner in the last year will have greater  legitimacy than a similar firm which has received no such validation. This leads to our fourth hypothesis.

Hypothesis 3
Entry into an alliance with a pharmaceutical or chemical company during the twelve months prior to the IPO will be a positive indicator of firm legitimacy.

To improve the legitimacy of the firm, the managers/entrepreneurs will attempt to communicate information about the firms operations, personnel, resources, performance, etc. to their external constituents. This communication can be disseminated to a wide audience through press articles about the firm (Fombrun & Shanley, 1990). The industry and business press serve as agents by publishing articles about the firm which are then read by external constituents. The availability of information has been shown to bias individual judgments (Tversky & Kahneman, 1974), therefore we can predict that the amount of information available though the business and industry press about a specific firm will improve that firm's reputation (Burt, 1983).  This leads to our next hypothesis.

Hypothesis 4
The number of articles about the firm which appear in the industry or business press during the twelve months prior to the IPO will be a positive indicator of firm legitimacy.

Industry Legitimation.  In an emerging industry there are no clear standards by which to measure firm performance and no clear models of operation by which to judge the firm's methods (Aldrich & Fiol, 1994).  This makes it difficult for founders to convince external constituents to provide resources since they have no means by which to judge the firm. In contrast, firms in established industries begin with a certain amount of legitimacy since they can cite the actions of previous firms in the industry and conform to accepted industry practices. The process of gaining legitimacy for an industry is a poorly understood phenomena.  Previous research has found that the average new industry took 29  years to grow to maturity ( Klepper & Grady, 1990), in contrast the internet has achieved  widespread legitimacy in less than 5 years (Hunt & Aldrich, 1996). As a consequence of that legitimacy firms pursuing internet applications were able to raise significant amounts of capital on the public markets in 1996. This leads to our next hypothesis.

Hypotheses 5
The level of industry legitimacy at the time of a firm's IPO will be positively related to the amount of capital raised by a firm's IPO.

As discussed earlier, the communication of information about an organization can improve the visibility and in turn the legitimacy of a firm. Similar, processes are at work at the industry level as well. Previous research has shown that publics are more likely to perceive activities or domains as important that receive the greatest media attention (McQuail, 1985). Therefore, the value of a firm's IPO will be positively related to the level of media coverage during the 12 months prior to the IPO.
 
Hypothesis 6
The amount of capital raised in a firm's IPO will be positively related to the number of articles about the industry which have appeared in the business and industry press in the twelve months prior to the IPO.
 
Aldrich & Fiol (1994) hypothesize that industries gain  legitimacy through the use of third party actors to promote their activities, linkages with established educational institutions and through collective marketing and lobbying efforts. In the case of biotechnology these roles have been filled by the publicly supported state biotechnology research centers. These centers are state government, university, or nonprofit organizations that work to strengthen commercial biotechnology within a specific geographic region. The importance of these centers for the development of the field is reflected in the fact that the majority of the new biotechnology firms in the US have received either financial or research support from biotechnology centers. In fact, more than one in six new biotechnology firms owe all or part of their origins to the biotechnology centers (Institute for Biotechnology Information, 1995). Therefore, as the number of biotechnology research centers have grown across the country the legitimacy of the biotechnology industry should have increased.

Hypothesis 7
The number of  regional biotechnology research centers in existence during the year of the firm's IPO will be positively related to the legitimacy of the biotechnology industry

As individual firms in an industry achieve some measure of success the overall industry's legitimacy rises which in turn increases the legitimacy of  all the firm's in the industry. However, legitimation of an emerging industry is unlikely to be a steady upward movement from illegitimate to legitimate. The recent performance of firms within the industry is likely to impact the overall legitimacy of the industry in both a positive or negative manner. In the case of biotechnology, performance is best captured by examining the pattern of  the FDA's approval of drugs developed using biotechnology techniques  Drug approvals provide evidence of the legitimacy to external constituents of the industry. They're signs of larger institutional approval of the basic techniques of the industry as well as symbols of the commercial potential of these techniques. This leads to our final hypothesis.

Hypothesis 8
The number of drugs approved during the twelve months prior to a firm's IPO will be positively related to the amount of capital raised in the firm's IPO.
 
 
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