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The Role of Collateral in Entrepreneurial Finance

Han, L., Fraser, S. and Storey, D. J. (2009) The Role of Collateral in Entrepreneurial Finance. Journal of Business Finance & Accounting, 36 (3 & 4). pp. 424-455. ISSN 1468-5957

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To link to this item DOI: 10.1111/j.1468-5957.2009.02132.x


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 incentivecompatible 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.

Item Type:Article
Divisions:Henley Business School > Business Informatics, Systems and Accounting
ID Code:45483

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