The Benefit and Cost of Winner-Picking: Redistribution Vs. Incentives

Abstract:     
This paper examines the agency cost of winner-picking in multi-divisional firms and uses explicit incentive contracts to analyze the interaction between corporate headquarters' investment and incentive policies. Winner-picking, i.e. the efficient reallocation of scarce resources in an internal capital market, adds an extra layer of noise to the moral-hazard problem of incentivizing division managers to produce the resources that can then be redistributed. In particular, division managers with strong future investment opportunities anticipate that headquarters bails them out should they fail to produce enough resources themselves. This reduces incentives to create the resources in the first place with possible consequences for the optimal investment policy.

Note: Previously titled "What Do Internal Capital Markets Do? Redistribution vs. Incentives"

Keywords: Internal Capital Markets, Conglomerate Discount, Transfers, Moral-hazard

JEL Classifications: G31, G34, L23

Accepted Paper Series