Multilateral Contracting in Stage Financing

Paolo Fulghieri, Yunzhi Hu and Felipe Varas

No 20966, CEPR Discussion Papers from Centre for Economic Policy Research

Abstract: Venture capital financing typically features complex securities and staging. We develop a dynamic contracting model where an entrepreneur seeks financing from active investors (who provide costly monitoring and screening) and passive investors (who offer cheaper capital). Under multilateral moral hazard, we show that the optimal contract can be implemented through a sequential offering of securities, including common and preferred equity, options, warrants, as well as a combination of senior debt and credit lines (venture debt). Our model predicts when entrepreneurs optimally separate monitoring and screening across multiple active investors ("rounds financing") versus consolidating these functions with a single active investor ("milestone financing"). Rounds financing dominates when informed capital is scarce.

Keywords: Venture capital financing; Security design (search for similar items in EconPapers)
JEL-codes: G32 (search for similar items in EconPapers)
Date: 2025-12
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