Abstract

http://ssrn.com/abstract=906331
 
 

References (60)



 
 

Citations (8)



 


 



Short-Term Termination Without Deterring Long-Term Investment: A Theory of Debt and Buyouts


Alex Edmans


London Business School - Institute of Finance and Accounting; University of Pennsylvania - The Wharton School; National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI); Centre for Economic Policy Research (CEPR)

February 9, 2011

Journal of Financial Economics 102(1), 81-101, October 2011

Abstract:     
The option to terminate a manager early minimizes investor losses if he is unskilled. However, it also deters a skilled manager from undertaking efficient long-term projects that risk low short-term earnings. This paper demonstrates how risky debt can overcome this tension. Leverage concentrates equityholders' stakes, inducing them to learn the cause of low earnings. If they result from investment (poor management), the firm is continued (liquidated). Therefore, unskilled managers are terminated and skilled managers invest without fear of termination. Unlike models of managerial discipline based on total payout, dividends are not a substitute for debt -- they allow for termination upon non-payment, but at the expense of investment since they do not concentrate ownership and induce monitoring. Debt is dynamically consistent as the manager benefits from monitoring. In traditional theories, monitoring constrains the manager; here it frees him to invest.

Number of Pages in PDF File: 42

Keywords: Termination, liquidation, managerial myopia, ownership concentration, monitoring, leverage, private equity

JEL Classification: D82, G32, G33

Accepted Paper Series


Download This Paper

Date posted: June 8, 2006 ; Last revised: December 20, 2013

Suggested Citation

Edmans, Alex, Short-Term Termination Without Deterring Long-Term Investment: A Theory of Debt and Buyouts (February 9, 2011). Journal of Financial Economics 102(1), 81-101, October 2011. Available at SSRN: http://ssrn.com/abstract=906331

Contact Information

Alex Edmans (Contact Author)
London Business School - Institute of Finance and Accounting ( email )
Sussex Place
Regent's Park
London NW1 4SA
United Kingdom
University of Pennsylvania - The Wharton School ( email )
3733 Spruce Street
Philadelphia, PA 19104-6374
United States
National Bureau of Economic Research (NBER)
1050 Massachusetts Avenue
Cambridge, MA 02138
United States
European Corporate Governance Institute (ECGI) ( email )
c/o ECARES ULB CP 114
B-1050 Brussels
Belgium
Centre for Economic Policy Research (CEPR) ( email )
77 Bastwick Street
London, EC1V 3PZ
United Kingdom
Feedback to SSRN


Paper statistics
Abstract Views: 2,506
Downloads: 577
Download Rank: 25,116
References:  60
Citations:  8

© 2014 Social Science Electronic Publishing, Inc. All Rights Reserved.  FAQ   Terms of Use   Privacy Policy   Copyright   Contact Us
This page was processed by apollo3 in 0.469 seconds