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Contests to Become CEO: Incentives, Selection and Handicaps

Author

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  • 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)

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.

Suggested Citation

  • Theofanis Tsoulouhas & Charles R. Knoeber & Anup Agrawal, "undated". "Contests to Become CEO: Incentives, Selection and Handicaps," Working Paper Series 002, North Carolina State University, Department of Economics, revised Jul 2004.
  • Handle: RePEc:ncs:wpaper:002
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    References listed on IDEAS

    as
    1. Chan, William, 1996. "External Recruitment versus Internal Promotion," Journal of Labor Economics, University of Chicago Press, vol. 14(4), pages 555-570, October.
    2. Rosen, Sherwin, 1986. "Prizes and Incentives in Elimination Tournaments," American Economic Review, American Economic Association, vol. 76(4), pages 701-715, September.
    3. Joao Ricardo Faria, 2000. "An Economic Analysis of the Peter and Dilbert Principles," Working Paper Series 101, Finance Discipline Group, UTS Business School, University of Technology, Sydney.
    4. 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, August.
    5. Edward P. Lazear, 2004. "The Peter Principle: A Theory of Decline," Journal of Political Economy, University of Chicago Press, vol. 112(S1), pages 141-163, February.
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    Citations

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    Cited by:

    1. Anja Schöttner & Veikko Thiele, 2010. "Promotion Tournaments and Individual Performance Pay," Journal of Economics & Management Strategy, Wiley Blackwell, vol. 19(3), pages 699-731, September.
    2. Fares, M'hand & Orozco, Luis, 2014. "Tournament Mechanism in Wine-Grape Contracts: Evidence from a French Wine Cooperative," Journal of Wine Economics, Cambridge University Press, vol. 9(03), pages 320-345, December.
    3. S. Cotton, Christopher & Li, Cheng & McIntyre, Frank & P. Price, Joseph, 2015. "Which explanations for gender differences in competition are consistent with a simple theoretical model?," Journal of Behavioral and Experimental Economics (formerly The Journal of Socio-Economics), Elsevier, vol. 59(C), pages 56-67.
    4. Ahrens, Jan-Philipp & Landmann, Andreas & Woywode, Michael, 2015. "Gender preferences in the CEO successions of family firms: Family characteristics and human capital of the successor," Journal of Family Business Strategy, Elsevier, vol. 6(2), pages 86-103.
    5. Brown, Alasdair & Chowdhury, Subhasish M., 2017. "The hidden perils of affirmative action: Sabotage in handicap contests," Journal of Economic Behavior & Organization, Elsevier, vol. 133(C), pages 273-284.
    6. Marinakis, Kosmas & Tsoulouhas, Theofanis, 2013. "Are tournaments optimal over piece rates under limited liability for the principal?," International Journal of Industrial Organization, Elsevier, vol. 31(3), pages 223-237.
    7. Rudi Stracke & Wolfgang Höchtl & Rudolf Kerschbamer & Uwe Sunde, 2015. "Incentives and Selection in Promotion Contests: Is It Possible to Kill Two Birds with One Stone?," Managerial and Decision Economics, John Wiley & Sons, Ltd., vol. 36(5), pages 275-285, July.
    8. Drugov, Mikhail & Ryvkin, Dmitry, 2017. "Biased contests for symmetric players," Games and Economic Behavior, Elsevier, vol. 103(C), pages 116-144.
    9. Jed DeVaro & Antti Kauhanen, 2016. "An “Opposing Responses” Test of Classic versus Market-Based Promotion Tournaments," Journal of Labor Economics, University of Chicago Press, vol. 34(3), pages 747-779.
    10. Theofanis Tsoulouhas & Kosmas Marinakis, 2007. "Tournaments with Ex Post Heterogeneous Agents," Economics Bulletin, AccessEcon, vol. 4(41), pages 1-9.
    11. Aner Sela & Noam Cohen & Maor Guy, 2016. "Two-Stage Elimination Contests with Optimal Head Starts," Working Papers 1611, Ben-Gurion University of the Negev, Department of Economics.
    12. Iqbal, Hamzah & Krumer, Alex, 2017. "Discouragement Effect and Intermediate Prizes in Multi-Stage Contests: Evidence from Tennis’s Davis Cup," Economics Working Paper Series 1719, University of St. Gallen, School of Economics and Political Science.
    13. Oliver Gürtler, 2010. "Collusion in homogeneous and heterogeneous tournaments," Journal of Economics, Springer, vol. 100(3), pages 265-280, July.
    14. Jia, Hao & Skaperdas, Stergios & Vaidya, Samarth, 2013. "Contest functions: Theoretical foundations and issues in estimation," International Journal of Industrial Organization, Elsevier, vol. 31(3), pages 211-222.
    15. Kräkel, Matthias & Schöttner, Anja, 2012. "Internal labor markets and worker rents," Journal of Economic Behavior & Organization, Elsevier, vol. 84(2), pages 491-509.
    16. Timothy N. Bondtn, 2017. "Internal Labor Markets in Equilibrium," Journal of Law, Economics, and Organization, Oxford University Press, vol. 33(1), pages 28-67.
    17. Hammond, Robert G. & Zheng, Xiaoyong, 2013. "Heterogeneity in tournaments with incomplete information: An experimental analysis," International Journal of Industrial Organization, Elsevier, vol. 31(3), pages 248-260.
    18. Jed DeVaro, 2016. "Internal hiring or external recruitment?," IZA World of Labor, Institute for the Study of Labor (IZA), pages 237-237, February.
    19. Waldman, Michael, 2013. "Classic promotion tournaments versus market-based tournaments," International Journal of Industrial Organization, Elsevier, vol. 31(3), pages 198-210.
    20. Kosmas Marinakis & Theofanis Tsoulouhas, 2012. "A comparison of cardinal tournaments and piece rate contracts with liquidity constrained agents," Journal of Economics, Springer, vol. 105(2), pages 161-190, March.
    21. Martijn Cremers & Yaniv Grinstein, 2009. "The Market for CEO Talent: Implications for CEO Compensation," Yale School of Management Working Papers amz2385, Yale School of Management, revised 01 Sep 2009.
    22. repec:ebl:ecbull:v:4:y:2007:i:41:p:1-9 is not listed on IDEAS
    23. Riis, Christian, 2008. "Efficient Contests," MPRA Paper 10906, University Library of Munich, Germany.
    24. DeVaro, Jed, 2011. "Using "opposing responses" and relative performance to distinguish empirically among alternative models of promotions," MPRA Paper 35175, University Library of Munich, Germany.
    25. Ella Segev & Aner Sela, 2014. "Sequential all-pay auctions with head starts," Social Choice and Welfare, Springer;The Society for Social Choice and Welfare, vol. 43(4), pages 893-923, December.

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