Uncertainty and investor protection : evidence from venture capital contracts in China

Abstract

This paper presents a comprehensive analysis of the role played by venture capital (VC) contracts in safeguarding investors, particularly in uncertain environments. Drawing upon data from 424 real-world VC contracts, we develop the investor protection index, the first of its kind to quantitatively measure the level of protection offered to VC investors. In constructing this index, we explore the relative significance of 20 contractual terms in protecting investors, highlighting that redemption rights and liquidation rights are the most crucial. Our study further enhances the understanding of VC contracts by examining the impact of uncertainty at the company, industry, and economic levels. The findings reveal that uncertainty positively affects the strength of investor protection in VC contracts. However, this effect is less pronounced in investments governed by common law and within high-technology industries. Our results remain robust across various alternative specifications and methodologies.