Great Ideas (Don't) Sell Themselves: The Disclosure Paradox in Digital Startups Auctions

Abstract

An inventor may be hesitant to reveal her idea to potential buyers because she fears it will be stolen. I show that this disclosure paradox can result in only the worst ideas being sold, leading to an ineffective commercialization of the best ideas. This distortion at the top is especially significant when gains f rom trade a re concentrated among a few, high-quality ideas. Next, I investigate the disclosure paradox in an online marketplace for early-stage digital start-ups. Sellers can protect their unpatentable ideas through confidentiality agreements (NDAs), and they can have the exchange verify their advertising revenues. I provide evidence that these disclosure technologies are used by high-quality inventors to assuage information frictions, sell their ideas more easily and to capture more value. Surprisingly, confidentiality agreements discourage many potential buyers and are less effective than revenue verification. I estimate that the disclosure paradox leads to significant welfare losses: going from a scenario in which every seller has access to revenue verification to o ne where nobody has access to it destroys 63% of the potential gains from trade and reduces the number of sold start-ups by 17%. Through simulations, I show that the losses are magnified by the skewed distribution of ideas.