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Incentive Provision in Light of Expertise and Operational Involvement of Angel Investors

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  • Anil Arya
  • Brian Mittendorf
  • Thomas Pfeiffer
Abstract
Angel investors provide a unique role in startup entities: in addition to providing financing, they also provide expertise and make critical operational and managerial decisions. As a result, a startup not only seeks funding from its angel investor, but also strives to ensure that their expertise promotes entrepreneurial success. This study formalizes a model of optimal equity sharing with angel investors in light of the facts that (i) they have private information about their expertise, (ii) the expertise impacts the efficacy of subsequent operating decisions, and (iii) equity sharing alters control rights linked to these decisions. We demonstrate that an entrepreneur will exhibit seemingly excessive optimism in decision‐making when angel investors claim they bring high expertise (skills) to the table. This apparent optimism is not a sign of naiveté but rather an effective device to discipline boasting by angels. The results demonstrate the critical role of expertise and decision rights in constructing ownership‐sharing agreements with angel investors. They also demonstrate a case in which the private information of investors (rather than that of insiders) is important, and how such adverse selection concerns entail aggressive operational choices, rather than the typical response of caution, coupled with limited equity usage that accounts for not just the transfer of ownership, but also the transfer of decision rights.

Suggested Citation

  • Anil Arya & Brian Mittendorf & Thomas Pfeiffer, 2021. "Incentive Provision in Light of Expertise and Operational Involvement of Angel Investors," Production and Operations Management, Production and Operations Management Society, vol. 30(9), pages 2890-2909, September.
    • Handle: RePEc:bla:popmgt:v:30:y:2021:i:9:p:2890-2909
    DOI: 10.1111/poms.13409
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    Cited by:

    1. Charles H. Fine & Loredana Padurean & Sergey Naumov, 2022. "Operations for entrepreneurs: Can Operations Management make a difference in entrepreneurial theory and practice?," Production and Operations Management, Production and Operations Management Society, vol. 31(12), pages 4599-4615, December.
    2. Wesley II, Curtis L. & Kong, Dejun Tony & Lubojacky, Connor J. & Kim Saxton, M. & Saxton, Todd, 2022. "Will the startup succeed in your eyes? Venture evaluation of resource providers during entrepreneurs' informational signaling," Journal of Business Venturing, Elsevier, vol. 37(5).
    3. Rohit Aggarwal & Michael J Lee & Braxton Osting & Harpreet Singh, 2021. "Improving Funding Operations of Equity‐based Crowdfunding Platforms," Production and Operations Management, Production and Operations Management Society, vol. 30(11), pages 4121-4139, November.

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