The Value of Benchmarking

33 Pages Posted: 16 Sep 2002

See all articles by Dirk Bergemann

Dirk Bergemann

Yale University - Cowles Foundation - Department of Economics; Yale University - Cowles Foundation

Ulrich Hege

Toulouse School of Economics; European Corporate Governance Institute (ECGI)

Date Written: August 2002

Abstract

We consider the provision of venture capital in a dynamic model with multiple research stages, where time and investment needed to meet each benchmark are unknown. The allocation of funds is subject moral hazard. The optimal contract provides for incentive payments linked to attaining the next benchmark, which must be increasing in the funding horizon of each stage. Benchmarking reduces agency costs, directly by shortening the agent's guaranteed funding horizon, and indirectly via an implicit incentive effect of information rents in future financing rounds. The ex ante need to provide incentives and the venture capitalist's desire to cut information rents ex post create a hold-up conflict, which can be overcome by providing all funds in every stage in a single up-front payment. Empirical patterns of the evolution of financing rounds and research intensity over the lifetime of a project are explained as optimal choices: The optimal capital allocated and the funding horizon are increasing from one stage to the next. This emphasizes the notion that early stages are the riskiest in an innovative venture.

Keywords: Venture Financing, Optimal Stopping, Benchmarking, Stage Financing, Abandonment Option

JEL Classification: D83, D92, G24, G31

Suggested Citation

Bergemann, Dirk and Hege, Ulrich, The Value of Benchmarking (August 2002). Cowles Foundation Discussion Paper No. 1379. Available at SSRN: https://ssrn.com/abstract=327184

Dirk Bergemann (Contact Author)

Yale University - Cowles Foundation - Department of Economics ( email )

28 Hillhouse Ave
New Haven, CT 06520-8268
United States
203-432-3592 (Phone)
203-432-2128 (Fax)

HOME PAGE: http://www.econ.yale.edu/~dirk/

Yale University - Cowles Foundation

Box 208281
New Haven, CT 06520-8281
United States

Ulrich Hege

Toulouse School of Economics ( email )

Place Anatole-France
Toulouse Cedex, F-31042
France
+33 5 61 12 86 01 (Phone)

HOME PAGE: http://https://www.tse-fr.eu/people/ulrich-hege

European Corporate Governance Institute (ECGI)

c/o ECARES ULB CP 114
B-1050 Brussels
Belgium

HOME PAGE: http:/www.ecgi.org

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