Debt signaling and outside investors in early stage firms

Abstract

By imposing a market like governance and directing entrepreneurs towards professional management, debt, and especially business debt, can serve as a reliable signal for outside equity investors. Such signals of firm accountability can alleviate the stringent information asymmetry at the early stages of the firm, and become stronger for bank business debt, in the presence of personal debt, and in high capital industries. Using the Kauffman Firm Survey, we find evidence consistent with our hypotheses. Outside investors can rely on the governance role of debt and its underpinnings such as the bank-firm relationship. We also corroborate that young firms tend to focus on growth rather than profitability.

Managers’ Body Expansiveness, Investor Perceptions, and Firm Forecast Errors and Valuation

“…We further develop this argument when exploring heterogeneous effects of physical expansiveness in section 4.4. Second, debt relates positively to funding success (panels A and B of table 5, column 5), which can be explained by both higher availability of cash and governance mechanisms imposed by lenders (Epure and Guasch [2020]). Finally, entrepreneurs' characteristics also seem important, with projects led by a more male entrepreneurial team showing higher likelihood of funding success (Brooks et al [2014]), yet being less likely to survive (panels A and B of table 5, columns 4 and 5).…”

Signals for Entrepreneurial Family Lending: Psychological Capital as an Intent Signal

“…Second, the view that the buyer (receiver) favors costly signals has been challenged regarding signal cost. Costly signals, such as educational background, executive experience technical experience, and enterprise-quality have positive effects on entrepreneurs' access to capital (Gomulya et al, 2019;Epure and Guasch, 2020). Scholars have examined that entrepreneurs' virtual and positive psychological capital, although costless for entrepreneurs, also plays an essential role in the decisions of investors and other receivers (Zhou et al, 2021).…”

Determinants of equity financing: a demand-side analysis of Irish indigenous technology-based firms

“…According to Ross (1977), firms can convey private information through the proportion of debt in their capital structure. Debt is easily observable in financial statements and has costly underpinnings -it entails higher screening and monitoring costs and lenders institute an ongoing governance and control mechanism, making debt a reliable signal (Epure & Guasch, 2020). Epure and Guasch (2020), using data collected through the Kauffman Firm Survey, find a positive relationship between debt and external equity financing.…”

“…Debt is easily observable in financial statements and has costly underpinnings -it entails higher screening and monitoring costs and lenders institute an ongoing governance and control mechanism, making debt a reliable signal (Epure & Guasch, 2020). Epure and Guasch (2020), using data collected through the Kauffman Firm Survey, find a positive relationship between debt and external equity financing. Audretsch and Lehmann (2004), examining high-tech firms listed on the Neur Market, find that the likelihood of obtaining venture capital is inversely related to the extent to which the firm is financed by debt.…”