Frontiers of Entrepreneurship Research
1997 Edition


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Monica A. Zimmerman
David L. Deeds

Temple University
School of Business and Management
111 Speakman Hall (006-00)
Philadelphia, PA  19122

Telephone: 215-204-1692 
Fax: 215-204-8029

Principal Topics

The purpose of this paper is to examine the legitimacy of biotechnology firms in their initial attempt to access public equity financing.  Generally, at the time of their initial public offering (IPO), biotech pharmaceutical firms do not have a profitable record of income and have not achieved Federal Drug Administration (FDA) approval for their products.  They need to access financing to further their research and development, earn FDA approval, market their approved products, and eventually generate profits.  Despite their lack of profits and finished products, biotech firms sell stock.

We explain the sale of public equity in terms of legitimacy.  More specifically, we use Scott's (1995) three forms of legitimacy-regulative, normative, and cognitive.  Regulative legitimacy is indicated by rules, laws, and sanctions.  Normative legitimacy focuses upon values and norms.  Cognitive legitimacy stems from symbols and meanings. It is based upon ideas, models, and modes of thinking-the assumed reality or "taken for granted" nature of legitimacy (Aldrich & Fiol, 1994).  Biotech pharmaceuticals need regulative, normative, and cognitive legitimacy to obtain public equity financing. Biotech pharmaceutical firms undergoing an IPO gain regulative legitimacy by providing information in the prospectus required by the SEC, registering with the SEC, and undergoing FDA drug trials.  They gain normative legitimacy by addressing the norms and values defined by society.  They also attempt to gain cognitive legitimacy by following patterns established in their industry.


The model was tested using 103 pharmaceutical biotechnology companies, which went public between the years of 1982 and 1995.  The data used in this study was gathered from 1) the IPO prospectus of each of the biotech pharmaceutical firms in the sample; 2) popular press indices-The Wall Street Journal, Business Week, and Baron's; and 3) Fortune's annual list of top 500 industrial companies.  The dependent variable is the market value of the firm at the end of the first day of public trading.  The independent variables include the number of popular press articles on biotechnology, the number of biotechnology technical centers established by the government to advance biotechnology, the number of years since Genentech's IPO (the first biotechnology IPO), the number of biotechnology drugs approved by the FDA, the entrepreneurial experience of the CEO, the academic credentials of the management team, the number of management team members holding doctorates, the number of not-for-profit alliances, the entrance into new alliances, the number of for-profit alliances, the number of alliances with Fortune 500 companies, and the professional experience of the management team.

We first analyzed the data using SPSS to produce the sample moments and then ran a factor analysis to establish the construct validity of legitimacy.  Three theoretically justifiable factors were found. We then used structural equation modeling to further study the construct of legitimacy and its relationship with the market value of the firm.

Major Findings

Two forms of legitimacy were indicated, and both were positively related to market value.  The first form of legitimacy was indicated by five observed variables - the number of positive business press reports, the number of negative business press reports, the years since Genentech's IPO, the number of technical centers, and the number of drugs approved by the FDA.  The second form of legitimacy was indicated by three observed variables?not-for-profit alliances, the academic credentials of the management team, and the number of doctorates held by the management team.  The first form is indicated by industry level variables, and the second form is indicated by firm specific variables.  The industry level variables are cognitive in nature.  The firm specific variables are normative in nature.


Our findings suggest that the construct of legitimacy can be used to explain the ability of firms to access resources.  Legitimacy is positively related to the initial public sale of equity.  Furthermore, legitimacy is not a single construct.  At least two forms of legitimacy exist.


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