Venture Capital Contracts

75 Pages Posted: 22 Jul 2019 Last revised: 19 Feb 2021

See all articles by Michael Ewens

Michael Ewens

California Institute of Technology - Division of the Humanities and Social Sciences; National Bureau of Economic Research (NBER)

Alexander S. Gorbenko

University College London - Department of Economics and School of Management

Arthur G. Korteweg

University of Southern California - Marshall School of Business

Multiple version iconThere are 2 versions of this paper

Date Written: December 20, 2020

Abstract

We estimate the impact of venture capital (VC) contract terms on startup outcomes and the split of value between the entrepreneur and investor, accounting for endogenous selection via a novel dynamic search and matching model. The estimation uses a new, large data set of first financing rounds of startup companies. Consistent with efficient contracting theories, there is an optimal equity split between agents, which maximizes the probability of success. However, VCs use their bargaining power to receive more investor-friendly terms compared to the contract that maximizes startup values. Better VCs still benefit the startup and the entrepreneur, due to their positive value creation. Counterfactuals show that reducing search frictions shifts the bargaining power to VCs and benefits them at the expense of entrepreneurs. The results show that selection of agents into deals is a first-order factor to take into account in studies of contracting.

Keywords: venture capital, contracts, entrepreneurship, matching, structural

JEL Classification: G24, D86, C78

Suggested Citation

Ewens, Michael and Gorbenko, Alexander S. and Korteweg, Arthur G., Venture Capital Contracts (December 20, 2020). USC Marshall School of Business Research Paper Sponsored by iORB, No. Forthcoming, Available at SSRN: https://ssrn.com/abstract=3423155 or http://dx.doi.org/10.2139/ssrn.3423155

Michael Ewens (Contact Author)

California Institute of Technology - Division of the Humanities and Social Sciences ( email )

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Alexander S. Gorbenko

University College London - Department of Economics and School of Management ( email )

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Arthur G. Korteweg

University of Southern California - Marshall School of Business ( email )

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United States

HOME PAGE: http://www.marshall.usc.edu/personnel/arthur-korteweg

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