Optimal Contracting, Corporate Finance, and Valuation with Inalienable Human Capital

65 Pages Posted: 2 Mar 2015 Last revised: 29 Apr 2023

See all articles by Patrick Bolton

Patrick Bolton

Imperial College London; Centre for Economic Policy Research (CEPR); National Bureau of Economic Research (NBER); European Corporate Governance Institute (ECGI)

Neng Wang

Columbia University - Columbia Business School, Finance; National Bureau of Economic Research (NBER); Asian Bureau of Finance and Economic Research (ABFER)

Jinqiang Yang

Shanghai University of Finance and Economics

Date Written: February 2015

Abstract

A risk-averse entrepreneur with access to a profitable venture needs to raise funds from investors. She cannot indefinitely commit her human capital to the venture, which limits the firm’s debt capacity, distorts investment and compensation, and constrains the entrepreneur’s risk-sharing. This puts dynamic liquidity and state-contingent risk allocation at the center of corporate financial management. The firm balances mean-variance investment efficiency and the preservation of financial slack. We show that in general the entrepreneur’s net worth is overexposed to idiosyncratic risk and underexposed to systematic risk. These distortions are greater the closer the firm is to exhausting its debt capacity.

Suggested Citation

Bolton, Patrick and Wang, Neng and Yang, Jinqiang, Optimal Contracting, Corporate Finance, and Valuation with Inalienable Human Capital (February 2015). NBER Working Paper No. w20979, Available at SSRN: https://ssrn.com/abstract=2572138

Patrick Bolton (Contact Author)

Imperial College London ( email )

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Centre for Economic Policy Research (CEPR)

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National Bureau of Economic Research (NBER)

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Neng Wang

Columbia University - Columbia Business School, Finance ( email )

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Jinqiang Yang

Shanghai University of Finance and Economics ( email )

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China

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