Faculty of Economics and Business Administration Publications Database

The Effect of Capital Market Characteristics on the Value of Start-Up Firms

Müller, Holger M.
Volume: 72
Number: 2
Pages: 319 - 356
Month: May
ISSN-Print: 0304-405X
Link External Source: Online Version
Year: 2004
Keywords: Venture capital; New business enterprises; Startup costs; Capital market; Collective bargaining; Internet industry; Entrepreneurship
Abstract: We develop an equilibrium model of contracting, bargaining, and search in which the relative scarcity of venture capital affects the bargaining power of entrepreneurs and venture capitalists. This in turn affects the pricing, contracting, and value creation in start-ups. The relative scarcity of venture capital is endogenous and depends on the profitability of venture capital investments, entry costs, and transparency of the venture capital market. Supply and demand conditions also affect the incentives of venture capitalists to screen projects ex ante. We characterize both the short- and long-run dynamics of the venture capital industry, which provides us with a stylized picture of the Internet boom and bust periods. Our model is consistent with existing evidence and provides a number of new empirical predictions.