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Venture Capital Finance: A Security Design Approach

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Author Info
Repullo, Rafael
Suarez, Javier

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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 that arises from the managerial contributions of entrepreneurs and venture capitalists. The optimal contract combines an incentive-related insurance motive that makes the initial financiers bear the start-up's downside risk and a financing motive that protects their claims against dilution. These motives can explain the widespread use of convertible preferred stock in venture capital financing.

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Publisher Info
Paper provided by C.E.P.R. Discussion Papers in its series CEPR Discussion Papers with number 2097.

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Date of creation: Mar 1999
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Handle: RePEc:cpr:ceprdp:2097

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Related research
Keywords: convertible preferred stock; Incomplete Contracts; stage financing; start-ups; Venture Capital; warrants;

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Find related papers by JEL classification:
D92 - Microeconomics - - Intertemporal Choice and Growth - - - Intertemporal Firm Choice and Growth, Investment, or Financing
G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage
G32 - Financial Economics - - Corporate Finance and Governance - - - Financing Policy; Capital and Ownership Structure

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This page was last updated on 2009-10-29.

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