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POID Working Paper

The signaling value of legal form in debt financing

We examine if a startup's legal form choice is used as a signal by credit providers to infer its risk to default on a loan. We propose that choosing a legal form with low minimum capital requirements signals higher default risk. Arguably, small relationship banks are more likely to use legal form as a screening device when deciding on a loan. Using data from Orbis and the IAB/ZEW Start-up Panel for a sample of German firms, we find evidence consistent with our hypotheses but inconsistent with predictions of several competing explanations, including differential demand for debt or growth opportunities.

Felix Bracht, Jeroen Mahieu and Steven Vanhaverbeke

15 December 2022     Paper Number POIDWP052

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This POID Working Paper is published under the Programme on Innovation and Diffusion.