If managers are adverse to taking risks, it may be difficult to induce them to make the right decisions. Conversely, if entrepreneurs are overoptimistic, then investors want to curtail various actions. Uncertainty also affects the timing of investment. Investors need to know how information-gathering activities can address these concerns and when they should be undertaken. The second factor, asymmetric information, is distinct from uncertainty.
Various problems develop in settings where asymmetric information is prevalent.
The entrepreneur might also invest in projects that build up his reputation at the investors expense. Asymmetric information can also lead to selection problems. The entrepreneur may exploit the fact that he knows more about the project or his abilities than investors do. Investors may find it difficult to distinguish between competent entrepreneurs and incompetent ones. Without the ability to screen out unacceptable projects and entrepreneurs, investors are unable to make efficient and appropriate decisions.