The Role of Individual Financial Contributions in the Formation of Entrepreneurial Teams

This paper studies, theoretically and empirically, how entrepreneurs, heterogeneous in how much they are able to contribute to a joint business, organize in partnerships. The theoretical part demonstrates that, for a wide range of economically plausible production technologies, (i) moral hazard and / or budget balancing, both common in joint production, have no impact on the structure of such entrepreneurial teams, while (ii) the contractual limitation of fixed-rate revenue sharing – under which partners only specify an equity sharing rule – creates incentives for the entrepreneurs making relatively large contributions to seek for the partners who are also able to contribute a lot. In particular, if the underlying production technology exhibits decreasing returns to total financial investment, the coowners’ financial contributions are negatively correlated in the absence of any frictions or in the presence of moral hazard and / or budget balancing. However, if partners only use fixedrate revenue sharing contracts, such a correlation may reverse from negative to positive. The empirical part of the paper finds, using the Panel Study of Entrepreneurial Dynamics and the Kauffman Firm Survey, that the individual contributions are indeed positively correlated across co-owners, and documents a number of other regularities consistent with relying on fixed-rate revenue sharing contracts.