Staged Financing: An Agency Perspective

This paper investigates the structure of outside investment in a profitable entrepreneurial venture. Though efficient, financing the venture up front may be infeasible because the entrepreneur cannot commit to not renegotiate down the outside investor's claim once she's sunk her investment. Staging the investment over time helps to mitigate this commitment problem. The early rounds of investment create collateral that support the later rounds. We characterize the optimal staged investment path and show how it is affected by various features of the venture. The predictions of the model are consistent with observations on staged financing in venture capital.