Lecture-4

Case Study: The Role of Capital Market

Intermediaries in the Dot-Com Crash of 2000

BITS Pilani, Hyderabad Campus

Case Study Assignment

Case: The Role of Capital Market Intermediaries in Dot-Com Crash of 2000

Read, analyse and come for discussion next Saturday
This case should enable you to understand the role of key intermediaries venture
capitalists, investment banks, sell-side and buy-side analysts, and professional
money managers, and public accountants in the functioning of capital markets. The
case discussion focuses both on the potential value these intermediaries create,
and also some of the governance and incentive challenges they face in performing
their intended function. By focusing on the dot-com bubble of the late 1990s, and its
crash in the 2000, the case attempts to show the incredibly important role of these
players play - both constructive and destructive - in the flow of capital between
individual investors and entrepreneurs. After this case study, you should be able to
understand and appreciate how capital markets work and how information
incentives influence their functioning.

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Case Study Assignment

Case study "The Role of Capital Market Intermediaries in the Dot-Com Crash of 2000
We discuss the following points:
1. Can we identify all the major players that play an inter-mediation role between
individual investors and entrepreneurs / managers. What is the intended function of
each of these intermediaries?
2. How are each of these intermediaries compensated for performing their respective
function? Is compensation arrangement likely to lead to any dysfunctional
incentives?
3. Identify the role of each intermediary seem to have played in creation of the dot-
com bubble. Was this behaviour related to the potential dysfunctional behaviour
identified in question 2?
4. How do you fix this problems?

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Identify all the major players that play an inter-mediation role between individual
investors and entrepreneurs / managers.

Intermediary

1. Venture Capitalist

2. Investment Banks

3. Sell-side Analysts

4. Buy-side Analysts

5. Mutual Funds

6. Auditors

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Intended market function of each of
these intermediaries
Intermediary Intended Market Function

1. Venture Capitalist

2. Investment Banks

3. Sell-side Analysts

4. Buy-side Analysts

5. Mutual Funds

6. Auditors

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Incentives / Compensation to these
intermediaries
Intermediary Intended Market Function Incentives
1. Venture Capitalist Screen early stage investment opportunities
Develop risky but promising ventures by
investing, supporting and overseeing new cos.
2. Investment Banks Help cos. raise capital in public markets by
underwriting & distributing new issues.
3. Sell-side Analysts Provide research reports & investment
recommendations to individual & professional
investors on new and existing securities.
4. Buy-side Analysts Provide proprietary research reports &
recommendations to fund managers.
5. Mutual Funds Buy and sell securities to earn superior risk-
adjusted returns.
6. Auditors Enhance credibility of financial information
reported by the company and confirm its
conformance to the GAAP/ Accounting
Standards.

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 Consequences
Intermediary Intended Market Function Incentives Consequences
1. Venture Screen early stage investment opportunities
Capitalist Develop risky but promising ventures by
investing, supporting and overseeing new cos.
2. Investment Help cos. raise capital in public markets by
Banks underwriting & distributing new issues.

3. Sell-side Provide research reports & investment

Analysts recommendations to individual & professional
investors on new and existing securities.
4. Buy-side Provide proprietary research reports &
Analysts recommendations to fund managers.

5. Mutual Funds Buy and sell securities to earn superior risk-

adjusted returns.
6. Auditors Enhance credibility of financial information
reported by the company and confirm its
conformance to the GAAP/ Accounting
Standards.

7 BITS Pilani, Deemed to be University under Section 3, UGC Act

BITS Pilani, Deemed to be University under Section 3 of UGC Act, 1956