Risk, Managerial Effort and Project Choice

[1] Journal of Financial Intermediation, (3), (1992):308-45. [2] The Theory of Corporate Finance, Vol. 1, M.J. Brennan editor, Edward Elgar Publishers, Cheltenham, UK, 1996, pp. 419-58.

Journal of Financial Intermediation, Vol. 3, 1992

Posted: 1 Dec 2008

See all articles by David A. Hirshleifer

David A. Hirshleifer

University of California, Irvine - Paul Merage School of Business; NBER

Yoon Suh

University of California, Los Angeles (UCLA) - Accounting Area

Abstract

In our model risk-neutral shareholders need to motivate a manager to select among projects with different risks, and to work hard in implementing the chosen project. Curvature of the manager's compensation contract as a function of profit affects his attitude toward project risk. The optimal curvature depends on the trade-off between controlling project risk and motivating effort. The analysis predicts greater option-based compensation when there are desirable risky growth opportunities (proxied by Tobin's q or R&D expenditures) and less option compensation when there are effective monitoring institutions (such as outside directors and bank lenders).

Suggested Citation

Hirshleifer, David A. and Suh, Yoon, Risk, Managerial Effort and Project Choice. [1] Journal of Financial Intermediation, (3), (1992):308-45. [2] The Theory of Corporate Finance, Vol. 1, M.J. Brennan editor, Edward Elgar Publishers, Cheltenham, UK, 1996, pp. 419-58.; Journal of Financial Intermediation, Vol. 3, 1992. Available at SSRN: https://ssrn.com/abstract=1287742

David A. Hirshleifer (Contact Author)

University of California, Irvine - Paul Merage School of Business ( email )

Irvine, CA California 92697-3125
United States

HOME PAGE: http://sites.uci.edu/dhirshle/

NBER ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Yoon Suh

University of California, Los Angeles (UCLA) - Accounting Area ( email )

D410 Anderson Complex
Los Angeles, CA 90095-1481
United States

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