Modelling the venture capitalist-entrepreneur relationship

Entrepreneurs create start-up companies with financial support from investors. The entrepreneur provides the idea for the new venture and is seeking to establish the viability of the company. The investor provides the capital required for the venture and is seeking a good rate of return. Hence, the objectives of the entrepreneur and the investor may be conflicting. The agreement between the entrepreneur and the investor specifying the initial investment and the timing and form of repayments influences the entrepreneur’s behaviour and subsequently the investor’s return and the survival of the company. An agreement which ensures that there is a good chance of survival when the entrepreneur devotes a lot of effort to the development of the company might be expected to beneficial to both parties. Using Markov decision processes to model the situation, this paper investigates how the nature of the agreement between the entrepreneur and the investor influences the entrepreneur's actions and the outcomes for both parties.