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Fixed versus dynamic investment: Optimal contracting with competitive entrepreneurs

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  • Wang, Liyuan
  • Ding, Chuan
  • Wang, Zhiyu
  • Zeng, Siyuan

Abstract

This study explores dynamic contracting in venture capital investment, where entrepreneurial compensation integrates absolute and relative performance. We identify a paradox in investment strategies based on startup efficiency: fixed capital suits efficient startups, while dynamic investment benefits inefficient ones. If the Venture Capitalist (VC) can switch strategies, starting with dynamic early-stage investment and transitioning to fixed allocation would enhance returns. We also examine the trade-off between equity and competition incentives, showing that competition incentives strengthen under high correlation and uncertainty, diverging from standard agency theory. These insights help balance effort, incentives and optimize VC financing strategies.

Suggested Citation

  • Wang, Liyuan & Ding, Chuan & Wang, Zhiyu & Zeng, Siyuan, 2025. "Fixed versus dynamic investment: Optimal contracting with competitive entrepreneurs," Finance Research Letters, Elsevier, vol. 82(C).
    • Handle: RePEc:eee:finlet:v:82:y:2025:i:c:s1544612325007548
    DOI: 10.1016/j.frl.2025.107495
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