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Executive Compensation and the Optimality of Managerial Entrenchment

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  • Gary Gorton
  • Bruce D. Grundy

Abstract

Firms are more complicated than standard principal-agent theory allows: firms have assets-in-place; firms endure through time, allowing for the possibility of replacing a shirking manager; firms have many managers, constraining the amount of equity that can be awarded to any one manager; and, a firm's owner can transfer some control to a manager, thereby entrenching her. Recognizing these characteristics, we solve for the vesting dates; wage, equity and options components; and control rights of an optimal contract. Managerial entrenchment makes the promise of deferred compensation credible. Deferring compensation by delaying vesting reduces a manager's ability to free-ride on a replacement's effort.

Suggested Citation

  • Gary Gorton & Bruce D. Grundy, 1996. "Executive Compensation and the Optimality of Managerial Entrenchment," NBER Working Papers 5779, National Bureau of Economic Research, Inc.
    • Handle: RePEc:nbr:nberwo:5779
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    References listed on IDEAS

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    Cited by:

    1. David R. Skeie, 2007. "Vesting and control in venture capital contracts," Staff Reports 297, Federal Reserve Bank of New York.
    2. Dow, James, 2013. "Boards, CEO entrenchment, and the cost of capital," Journal of Financial Economics, Elsevier, vol. 110(3), pages 680-695.
    3. Marcello Spanò, 2007. "Managerial Ownership and Corporate Hedging," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 34(7-8), pages 1245-1280.

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    JEL classification:

    • G3 - Financial Economics - - Corporate Finance and Governance

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