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Managerial Compensation and Capital Structure

Elazar Berkovitch, Ronen Israel and Yossef Spiegel

Journal of Economics & Management Strategy, 2000, vol. 9, issue 4, 549-584

Abstract: We investigate the interaction between financial structure and managerial compensation and show that risky debt affects both the probability of managerial replacement and the manager's wage if he is retained by the firm. Our model yields a rich set of predictions, including the following: (i) The market values of equity and debt decrease if the manager is replaced; moreover, the expected cash flow affirms that retain their managers exceeds that affirms that replace their managers, (ii) Managers affirms with risky debt outstanding are promised lower severance payments (golden parachutes) than managers affirms that do not have risky debt. (Hi) Controlling for firm's size, the leverage, managerial compensation, and cash flow of firms that retain their managers are positively correlated, (iv) Controlling for the firm's size, the probability of managerial turnover and firm value are negatively correlated, (v) Managerial pay‐performance sensitivity is positively correlated with leverage, expected compensation, and expected cash flows.

Date: 2000
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