Agency Dynamics in Corporate Finance

Bart M. Lambrecht () and Stewart C. Myers ()
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Bart M. Lambrecht: Judge Business School, University of Cambridge, Cambridge CB2 1AG, United Kingdom
Stewart C. Myers: Sloan School of Management, Massachusetts Institute of Technology, Cambridge, Massachusetts 02142

Annual Review of Financial Economics, 2016, vol. 8, issue 1, 53-80

Abstract: We describe a framework for analyzing the dynamics of investment, borrowing, and payout decisions by public corporations. We assume that managers act entirely in their own long-run interests, subject to a governance constraint that limits their rents. Risk-neutral managers invest to maximize value but wait too long to disinvest. Efficient disinvestment can be forced by the right level of debt or by takeovers. Risk-averse managers underinvest; they do not waste free cash flow, because the governance constraint is binding. They smooth rents and consequently payout, so that changes in borrowing become a shock absorber for volatility of operating income. We obtain the Lintner model of payout if risk-averse managers have a utility function with habit formation. We show how to adapt the dynamic framework to analyze several other issues, including the effects of asymmetric information. We show that Lintner-style payout smoothing can also arise when risk-neutral managers are better informed than outsiders.

Keywords: investment; payout; debt; takeover; agency (search for similar items in EconPapers)
JEL-codes: G31 G32 (search for similar items in EconPapers)
Date: 2016
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