Managerial replacement strategies and severance pay

Kareen Brown, Parunchana Pacharn and Evelyn Patterson

Advances in accounting, 2022, vol. 56, issue C

Abstract: This paper demonstrates the benefits to shareholders of offering severance packages to managers. We show that severance pay is not merely a way to coax underperforming managers to step aside. Rather, a manager's efforts can pave the way for the manager's successor, and thereby attract more talented potential replacements. We consider two settings that differ on whether or not the shareholder can fully commit to a replacement strategy. In both settings the shareholder makes replacement decisions based on output and the availability of a suitable replacement candidate at the end of the first period. When the shareholder can fully commit to the circumstances of replacement, severance pay serves solely to improve contract efficiency, because the probability of the replacement candidate emerging is influenced by the incumbent manager's effort. In the setting without full commitment, severance pay not only improves contract efficiency but also allows the shareholder to expand the set of credible output–contingent replacement strategies. Generally, severance pay motivates managers to build value in the firm despite the possibility that in doing so, they make their own services obsolete.

Keywords: Severance pay; Contract design; Managerial incentives; Management turnover (search for similar items in EconPapers)
JEL-codes: G3 M2 (search for similar items in EconPapers)
Date: 2022
References: View references in EconPapers View complete reference list from CitEc
Citations:

Downloads: (external link)
http://www.sciencedirect.com/science/article/pii/S0882611022000025
Full text for ScienceDirect subscribers only

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:eee:advacc:v:56:y:2022:i:c:s0882611022000025

DOI: 10.1016/j.adiac.2022.100583

Access Statistics for this article

Advances in accounting is currently edited by Dennis Caplan

More articles in Advances in accounting from Elsevier
Bibliographic data for series maintained by Catherine Liu ().