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Covenants in Venture Capital Contracts

Bengtsson, Ola LU (2011) In Management Science 57(11). p.1926-1943
Abstract
This paper studies how covenants are included in contracts between venture capitalists (VCs) and entrepreneurs. I show that VCs hold covenanted veto rights even though they are shareholders who have access to other powerful governance solutions. Unlike bank loans and bonds, venture capital (VC) contracts exhibit considerable variation in their contractual designs. I exploit this variation to confirm the argument that covenants are in place to overcome a conflict of interest that arises from debt-like contractual features of a venture capitalist's preferred stock. In particular, I find that contracts with higher fixed payoffs include 1.6 more covenants than do contracts with lower fixed payoffs. Similarly, VC contracts with no VC board... (More)
This paper studies how covenants are included in contracts between venture capitalists (VCs) and entrepreneurs. I show that VCs hold covenanted veto rights even though they are shareholders who have access to other powerful governance solutions. Unlike bank loans and bonds, venture capital (VC) contracts exhibit considerable variation in their contractual designs. I exploit this variation to confirm the argument that covenants are in place to overcome a conflict of interest that arises from debt-like contractual features of a venture capitalist's preferred stock. In particular, I find that contracts with higher fixed payoffs include 1.6 more covenants than do contracts with lower fixed payoffs. Similarly, VC contracts with no VC board majority requirement include 0.6 more covenants than do contracts that require a VC board majority. Covenants are also more common with older companies and when fewer VCs invest in a round. My findings contribute to both the debt covenant literature and the entrepreneurial finance literature. (Less)
Please use this url to cite or link to this publication:
author
organization
publishing date
type
Contribution to specialist publication or newspaper
publication status
published
subject
keywords
Finance, Venture Capital, Contracts, Entrepreneurship
categories
Popular Science
in
Management Science
volume
57
issue
11
pages
1926 - 1943
publisher
Informs
external identifiers
  • scopus:81255178487
ISSN
0025-1909
language
English
LU publication?
yes
id
7a0bc30e-5ac8-4402-9f3f-1a53465500fc (old id 3629048)
alternative location
http://ejscontent.ebsco.com/ContentServer.aspx?target=http%3A%2F%2Fmansci.journal.informs.org%2Fcgi%2Freprint%2F57%2F11%2F1926.pdf
date added to LUP
2013-04-03 09:09:15
date last changed
2017-10-01 03:14:30
@misc{7a0bc30e-5ac8-4402-9f3f-1a53465500fc,
  abstract     = {This paper studies how covenants are included in contracts between venture capitalists (VCs) and entrepreneurs. I show that VCs hold covenanted veto rights even though they are shareholders who have access to other powerful governance solutions. Unlike bank loans and bonds, venture capital (VC) contracts exhibit considerable variation in their contractual designs. I exploit this variation to confirm the argument that covenants are in place to overcome a conflict of interest that arises from debt-like contractual features of a venture capitalist's preferred stock. In particular, I find that contracts with higher fixed payoffs include 1.6 more covenants than do contracts with lower fixed payoffs. Similarly, VC contracts with no VC board majority requirement include 0.6 more covenants than do contracts that require a VC board majority. Covenants are also more common with older companies and when fewer VCs invest in a round. My findings contribute to both the debt covenant literature and the entrepreneurial finance literature.},
  author       = {Bengtsson, Ola},
  issn         = {0025-1909},
  keyword      = {Finance,Venture Capital,Contracts,Entrepreneurship},
  language     = {eng},
  number       = {11},
  pages        = {1926--1943},
  publisher    = {Informs},
  series       = {Management Science},
  title        = {Covenants in Venture Capital Contracts},
  volume       = {57},
  year         = {2011},
}