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Optimal Incentive Schemes and the Coexistence of Debt and Equity

Author

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  • Philippe Aghion
  • Mathias Dewatripont
  • Patrick Rey

Abstract

One of the main decisions facing firms is that of a choice of a capital structure, and in particular the choice of debt versus equity. Models where capital structure matters have focused either on the incentive approach, where agency problems stemming from the separation between ownership and control are important, or on control as a motive for the issue of debt or equity. These approaches have left open the question of the coexistence of debt and equity in a world where optimal financial incentive schemes are possible. In this paper, we examine this question from a complete contract perspective and argue that the complementarity between debt and equity can be explained as follows: equity will be useful as a way to favour value-increasing transfers of control, while debt will make sure such transfers take place even when they may go against private managerial interests.

Suggested Citation

  • Philippe Aghion & Mathias Dewatripont & Patrick Rey, 1990. "Optimal Incentive Schemes and the Coexistence of Debt and Equity," CEPR Financial Markets Paper 0006, European Science Foundation Network in Financial Markets, c/o C.E.P.R, 33 Great Sutton Street, London EC1V 0DX..
    • Handle: RePEc:cpr:ceprfm:0006
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    Cited by:

    1. Heinrich, Ralph P., 1999. "A Model of Corporate Governance As a System," Kiel Working Papers 931, Kiel Institute for the World Economy (IfW Kiel).

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