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The Allocation of Control Rights in Venture Capital Contracts

Published on Jan 21, 1998in The RAND Journal of Economics
· DOI :10.2307/2555816
Thomas F. Hellmann30
Estimated H-index: 30
(University of Oxford)
Abstract
Venture capitalists often hold extensive control rights over entrepreneurial companies, including the right to fire entrepreneurs. This article examines why, and under what circumstances, entrepreneurs would voluntarily relinquish control. Control rights protect the venture capitalists from hold-up by the entrepreneurs. This provides the correct incentives for the venture capitalists to search for a superior management team. Wealth-constrained entrepreneurs may give up control even if the change in management imposes a greater loss of private benefit to them than a monetary gain to the company. The model also explains why entrepreneurs accept vesting of their stock and low severance.
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