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Stock-Based Compensation and CEO (Dis)Incentives

Efraim Benmelech, Eugene Kandel () and Pietro Veronesi

No 13732, NBER Working Papers from National Bureau of Economic Research, Inc

Abstract: Stock-based compensation is the standard solution to agency problems between shareholders and managers. In a dynamic rational expectations equilibrium model with asymmetric information we show that although stock-based compensation causes managers to work harder, it also induces them to hide any worsening of the firm's investment opportunities by following largely sub-optimal investment policies. This problem is especially severe for growth firms, whose stock prices then become over-valued while managers hide the bad news to shareholders. We find that a firm-specific compensation package based on both stock and earnings performance instead induces a combination of high effort, truth revelation and optimal investments. The model produces numerous predictions that are consistent with the empirical evidence.

JEL-codes: D2 G34 J3 (search for similar items in EconPapers)
Date: 2008-01
New Economics Papers: this item is included in nep-bec and nep-dge
Note: CF LS
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Published as Efraim Benmelech & Eugene Kandel & Pietro Veronesi, 2010. "Stock-Based Compensation and CEO (Dis)Incentives," The Quarterly Journal of Economics, MIT Press, vol. 125(4), pages 1769-1820, November.

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Journal Article: Stock-Based Compensation and CEO (Dis)Incentives (2010) Downloads
Working Paper: Stock-Based Compensation and CEO (Dis)Incentives (2007) Downloads
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