Stock-Based Compensation and CEO (Dis)Incentives
AbstractStock-based compensation is the standard solution to agency problems between shareholders and managers. In a dynamic rational expectations equilibrium model with asymmetric information we show that although stock-based compensation causes managers to work harder, it also induces them to hide any worsening of the firm's investment opportunities by following largely sub-optimal investment policies. This problem is especially severe for growth firms, whose stock prices then become over-valued while managers hide the bad news to shareholders. We find that a firm-specific compensation package based on both stock and earnings performance instead induces a combination of high effort, truth revelation and optimal investments. The model produces numerous predictions that are consistent with the empirical evidence.
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Bibliographic InfoPaper provided by National Bureau of Economic Research, Inc in its series NBER Working Papers with number 13732.
Date of creation: Jan 2008
Date of revision:
Publication status: published as Efraim Benmelech & Eugene Kandel & Pietro Veronesi, 2010. "Stock-Based Compensation and CEO (Dis)Incentives," The Quarterly Journal of Economics, MIT Press, vol. 125(4), pages 1769-1820, November.
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Other versions of this item:
- D2 - Microeconomics - - Production and Organizations
- G34 - Financial Economics - - Corporate Finance and Governance - - - Mergers; Acquisitions; Restructuring; Corporate Governance
- J3 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs
This paper has been announced in the following NEP Reports:
- NEP-ALL-2008-01-12 (All new papers)
- NEP-BEC-2008-01-12 (Business Economics)
- NEP-DGE-2008-01-12 (Dynamic General Equilibrium)
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