Promotion Tournaments and Capital Rationing

Bing Han, David Hirshleifer and John C. Persons

The Review of Financial Studies, 2009, vol. 22, issue 1, 219-255

Abstract: We analyze capital allocation in a conglomerate where divisional managers with uncertain abilities compete for promotion to CEO. A manager can sometimes gain by unobservably adding variance to divisional performance. Capital rationing can limit this distortion, increase productive efficiency, and allow the owner to make more accurate promotion decisions. Firms for which CEO talent is more important for firm performance are more likely to ration capital. A rationed manager is more likely to be promoted even though all managers are identical ex ante. When the tournament payoff is relatively small, offering an incentive wage can be more efficient than rationing capital; however, when tournament incentives are paramount, rationing is more efficient. The Author 2008. Published by Oxford University Press on behalf of The Society for Financial Studies. All rights reserved. For Permissions, please e-mail: journals.permissions@oxfordjournals.org, Oxford University Press.

Date: 2009
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Working Paper: Promotion Tournaments and Capital Rationing (2007)
Working Paper: Promotion Tournaments and Capital Rationing (2005)
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