Venture Capital Contracts

52 Pages Posted: 2 Aug 2019 Last revised: 11 May 2022

See all articles by Michael Ewens

Michael Ewens

Columbia Business School; 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

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Date Written: July 2019

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.

Suggested Citation

Ewens, Michael and Gorbenko, Alexander S. and Korteweg, Arthur G., Venture Capital Contracts (July 2019). NBER Working Paper No. w26115, Available at SSRN: https://ssrn.com/abstract=3428167

Michael Ewens (Contact Author)

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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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