Staged Venture Capital Contracting with Ratchets and Liquidation Rights

32 Pages Posted: 9 Dec 2009 Last revised: 1 Aug 2011

See all articles by Dietmar Leisen

Dietmar Leisen

Johannes Gutenberg University Mainz - Department of Banking

Date Written: July 30, 2011

Abstract

This paper uses real options analysis to study later round financing in the presence of two standard venture capital contracting provisions: anti-dilution (ratchet) and liquidation preference. We argue that such provisions can preclude financing of a positive NPV venture in the case of a large follow-on financing relative to firm value. Liquidation preference contracting at multiples greater than one is not feasible in the later round if the financing is small relative to firm value. We highlight an interaction effect between the two provisions: increasing the liquidation multiple can help to avoid dilution and the need for the prior venture capitalist to waive ratchet provisions.

Keywords: options, venture capital, preference rights

JEL Classification: G13, G24, G30

Suggested Citation

Leisen, Dietmar P. J., Staged Venture Capital Contracting with Ratchets and Liquidation Rights (July 30, 2011). Available at SSRN: https://ssrn.com/abstract=1520929 or http://dx.doi.org/10.2139/ssrn.1520929

Dietmar P. J. Leisen (Contact Author)

Johannes Gutenberg University Mainz - Department of Banking ( email )

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