Post by Sapphire Capital on Sept 22, 2009 8:56:09 GMT 4
Restrictive Covenants in Venture Capital Contracts
Ola Bengtsson
University of Illinois at Urbana-Champaign
August 21, 2009
Abstract:
I show that VCs frequently have the right to veto specific operational and financial decisions even though they are equity investors with access to other powerful governance mechanisms. Across 182 first-round U.S. venture capital investments, restrictive covenants are commonplace with 92 percent of all contracts including at least one covenant. I exploit the considerable observed variation in the basic design of venture capital contracts to test the underlying motivation in investor demand for restrictive covenants. Consistent with the thesis of Jensen and Meckling (1976), Myers (1977), and Smith and Warner (1979), my results show that covenants are more prevalent for contracts that give VCs a higher debt-like payoff and no control over boards of directors. Restrictive covenants are also more common for older companies and when fewer VCs invest in the round.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1459012_code352333.pdf?abstractid=1459012&mirid=2
Ola Bengtsson
University of Illinois at Urbana-Champaign
August 21, 2009
Abstract:
I show that VCs frequently have the right to veto specific operational and financial decisions even though they are equity investors with access to other powerful governance mechanisms. Across 182 first-round U.S. venture capital investments, restrictive covenants are commonplace with 92 percent of all contracts including at least one covenant. I exploit the considerable observed variation in the basic design of venture capital contracts to test the underlying motivation in investor demand for restrictive covenants. Consistent with the thesis of Jensen and Meckling (1976), Myers (1977), and Smith and Warner (1979), my results show that covenants are more prevalent for contracts that give VCs a higher debt-like payoff and no control over boards of directors. Restrictive covenants are also more common for older companies and when fewer VCs invest in the round.
papers.ssrn.com/sol3/Delivery.cfm/SSRN_ID1459012_code352333.pdf?abstractid=1459012&mirid=2