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The role of collateral in entrepreneurial finance

journal contribution
posted on 2023-06-08, 10:08 authored by Liang Han, Stuart Fraser, David Storey
Previous research has suggested collateral has the role of sorting entrepreneurs either by observed risk or by private information. In order to test these roles, this paper develops a model which incorporates a signalling process (sorting by observed risk) into the design of an incentive-compatible menu of loan contracts which works as a self-selection mechanism (sorting by private information). It then tests this Sorting by Signalling and Self-Selection Model, using the 1998 US Survey of Small Business Finances. It reports for the first time that: high type entrepreneurs are more likely to pledge collateral and pay a lower interest rate; and entrepreneurs who transfer good signals enjoy better contracts than those transferring bad signals. These findings suggest that the Sorting by Signalling and Self-Selection Model sheds more light on entrepreneurial debt finance than either the sorting-by-observed- risk or the sorting-by-private information paradigms on their own

History

Publication status

  • Published

Journal

Journal of Business Finance and Accounting

ISSN

0306686X

Issue

3-4

Volume

36

Page range

424-455

Department affiliated with

  • Business and Management Publications

Full text available

  • No

Peer reviewed?

  • Yes

Legacy Posted Date

2012-02-06

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