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Contests to Become CEO: Incentives, Selection and Handicaps

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Author Info
Theofanis Tsoulouhas () (Department of Economics, North Carolina State University)
Charles R. Knoeber () (Department of Economics, North Carolina State University)
Anup Agrawal () (Cluverhouse College of Business, University of Alabama)

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Abstract

Should a firm favor insiders (handicap outsiders) when selecting a CEO? One reason to do so is to take advantage of the contest to become CEO as a device for providing current incentives to employees. An important reason not to do so is that this can reduce the ability of future CEOs and, hence, future profits. The trade-off between providing current incentives and selecting the most able individual to become CEO is the focus of this paper. If insiders are good enough (better or nearly as good as outsiders), it is typically optimal to handicap outsiders, sometimes so severely that they have no chance to win the contest. However, if outsiders are sufficiently better than insiders, selection dominates and it is the insiders who are severely handicapped. Our model provides useful insight into contests to become CEO and rationalizes empirical regularities in the source of CEOs chosen by firms.

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Paper provided by North Carolina State University, Department of Economics in its series Working Paper Series with number 002.

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Length: 34 pages
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Date of revision: Jul 2004
Handle: RePEc:ncs:wpaper:002

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This paper has been announced in the following NEP Reports: References listed on IDEAS
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
  1. Rajesh K. Aggarwal & Andrew A. Samwick, 2003. "Performance Incentives within Firms: The Effect of Managerial Responsibility," Journal of Finance, American Finance Association, vol. 58(4), pages 1613-1650, 08. [Downloadable!] (restricted)
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  2. Chan, William, 1996. "External Recruitment versus Internal Promotion," Journal of Labor Economics, University of Chicago Press, vol. 14(4), pages 555-70, October. [Downloadable!] (restricted)
  3. Rosen, Sherwin, 1986. "Prizes and Incentives in Elimination Tournaments," American Economic Review, American Economic Association, vol. 76(4), pages 701-15, September. [Downloadable!] (restricted)
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  4. Joao Ricardo Faria, 2000. "An Economic Analysis of the Peter and Dilbert Principles," Working Paper Series 101, School of Finance and Economics, University of Technology, Sydney. [Downloadable!]
  5. Edward P. Lazear, 2004. "The Peter Principle: A Theory of Decline," Journal of Political Economy, University of Chicago Press, vol. 112(S1), pages S141-S163, February. [Downloadable!] (restricted)
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Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Theofanis Tsoulouhas & Kosmas Marinakis, 2007. "Tournaments with Ex Post Heterogeneous Agents," Economics Bulletin, Economics Bulletin, vol. 4(41), pages 1-9. [Downloadable!]
    Other versions:
  2. Wu, Steven & Roe, Brian & Sporleder, Thomas, 2006. "Mixed Tournaments, Common Shocks, and Disincentives: An Experimental Study," MPRA Paper 21, University Library of Munich, Germany. [Downloadable!]
    Other versions:
  3. Riis, Christian, 2008. "Efficient Contests," MPRA Paper 10906, University Library of Munich, Germany. [Downloadable!]
  4. Kosmas Marinakis & Theofanis Tsoulouhas, 2006. "Tournaments and Liquidity Constraints for the Agents," Working Paper Series 019, North Carolina State University, Department of Economics, revised Apr 2008. [Downloadable!]
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