Venture Capital Finance: a Security Design Approach

Rafael Repullo and Javier Suarez

Working Papers from Centro de Estudios Monetarios Y Financieros-

Abstract: This paper provides a theory of venture capital financing based on the complementarity between the financing and advising roles of venture capitalists. We examine the interaction between the staging of investment, that characterizes young firms with a high growth potential, and the double-sided moral hazard problem arising from the managerial contributions of entrepreneurs and venture capitalists. The optimal contractual arrangements have features that resemble the securities actually employed in venture capital financing. In particular, we identify an incentive-related insurance motive for making the initial financier bear the start-up's downside risk, as well as a financing motive for protecting him against dilution. This can explain the widespread use of convertible preferred stock.

Keywords: CAPITAL; INVESTMENTS; BUSINESS FINANCING (search for similar items in EconPapers)
JEL-codes: E22 G14 G31 (search for similar items in EconPapers)
Pages: 46 pages
Date: 1998
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Citations: View citations in EconPapers (19)

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Related works:
Journal Article: Venture Capital Finance: A Security Design Approach (2004)
Journal Article: Venture Capital Finance: A Security Design Approach (2004)
Working Paper: Venture Capital Finance: A Security Design Approach (1999)
Working Paper: Venture Capital Finance: A Security Design Approach (1998)
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Persistent link: https://EconPapers.repec.org/RePEc:fth:cemfdt:9804

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