Financing Breakthroughs under Failure Risk

In a dynamic principal-agent model, the principal, financing the project, cannot observe project failure and the agent, developing the project, can hide or fake failure. Punishments for completion delays, excessive rewards for success, and occasional rewards for failure provide incentives for truthful disclosure of failure. The optimal contract does not always incentivize disclosure of failure and consists of distinct financing stages whereby financing becomes more performance sensitive over time.  Rewards for success decrease during a given financing stage but increase once a new financing stage begins. Dynamic monitoring substitutes for rewards for failure and punishments for delays in incentive provision.

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