The Financing of Innovation: Learning and Stopping

Dirk Bergemann and Ulrich Hege

No 1292R, Cowles Foundation Discussion Papers from Cowles Foundation for Research in Economics, Yale University

Abstract: This paper considers the financing of a research project under uncertainty about the time of completion and the probability of eventual success. We distinguish between two financing modes, namely relationship financing, where the allocation decision of the entrepreneur is observable, and arm's length financing, where it is unobservable. We find that equilibrium funding stops altogether too early relative to the efficient stopping time in both financing modes. The rate at which funding is released becomes tighter over time under relationship financing, and looser under arm's length financing. The trade-off in the choice of financing modes is between lack of commitment with relationship financing and information rents with arm's length financing.

Keywords: Innovation; venture capital; relationship financing; arm's length financing; learning; time-consistency; stopping; renegotiation-proofness (search for similar items in EconPapers)
JEL-codes: D83 D92 G24 G31 (search for similar items in EconPapers)
Pages: 50 pages
Date: 2001-02, Revised 2004-10
New Economics Papers: this item is included in nep-bec, nep-cfn, nep-ent, nep-fin, nep-ino and nep-mic
Note: CFP 1176
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (12)

Published in RAND Journal of Economics (Winter 2005), 70(3): 1107-1033

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Related works:
Working Paper: The Financing of Innovation: Learning and Stopping (2012)
Journal Article: The Financing of Innovation: Learning and Stopping (2005)
Working Paper: The Financing of Innovation: Learning and Stopping (2005)
Working Paper: The Financing of Innovation: Learning and Stopping (2001)
Working Paper: The Financing of Innovation: Learning and Stopping (2001)
Working Paper: The Financing of Innovation: Learning and Stopping (2001)
Working Paper: The Financing of Innovation: Learning and Stopping (2001)
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