Fairness Norms and Self-Interest in Venture Capital/Entrepreneur Contracting and Performance

Abstract:     
We consider the combined impact of agency problems and social fairness norms on venture capital/entrepreneur contracting and performance. Particularly, we develop a behavioural game-theoretic model in which a venture capitalist and an entrepreneur negotiate over their respective equity shares, and then exert value-adding efforts in running the business. Double-sided moral hazard exists in that both parties may exert sub-optimal effort (the ‘shirking’ problem). We demonstrate that, for a given level of VC-ability, an increase in social fairness norms induces the VC to offer more equity to the entrepreneur, which in turn induces the entrepreneur to exert more effort. This improves venture performance.

Number of Pages in PDF File: 33

Keywords: venture capital performance, double-side moral hazard, fairness norms

JEL Classification: G24, G32

working papers series