This paper shows that venture capital investment in start-ups increases innovation of established companies in technologically related fields due to knowledge spillovers. To address endogeneity issues, we instrument R&D expenditures of established companies with state-level R&D tax credits (Bloom, Schankerman, & Van Reenen, 2013) and venture capital investment with past fundraising of private equity buyout funds (Nanda & Rhodes-Kropf, 2013). Exploring the mechanism, we show that the patents of VC-financed start-ups are on average of higher quality, more novel, and less protected by intellectual property rights than those of established firms, leading to significantly larger spillovers. This knowledge transfer between companies is enhanced by mobile start-up inventors.

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