Staged Financing with a Variable Return

In: The B.E. journal of theoretical economics, Band 7, Heft 1

Abstract

This paper explores the hold-up problem between two parties (an entrepreneur and an investor) when one of the parties (the entrepreneur) is unable to commit not to repudiate the initial contract. To mitigate hold-up we allow the parties to stage investments over time and derive the optimal investment path in a model that places no restrictions on the growth of collateral. Our model predicts that neither positive wealth of the entrepreneur nor the lack of discounting ensures that all profitable projects proceed. We also derive necessary and sufficient conditions for the project to be financeable when there are no costs of delay.