Labor Market Immobility and Incentive Contract Design
46 Pages Posted: 30 Nov 2018 Last revised: 11 Apr 2022
Date Written: November 20, 2018
This study examines the eﬀects of reduced labor market mobility on the exercisability design of executive option compensation. After managers are restricted from working for competitors by the adoption of the Inevitable Disclosure Doctrine, ﬁrms lengthen the exercisability schedules of option compensation. Treated ﬁrms also increase the use of a progressive performance-based exercisability provision (PPV) in these options, allowing managers to exercise options earlier once they have lost their convexity. The eﬀects increase with managerial career concerns, and with ﬁrms’ growth opportunities and dependence on knowledge assets. The ﬁndings suggest that under knowledge protection by restricting human capital mobility, ﬁrms are more willing to invest in long-term positive NPV projects while managers are not. Firms use options with long-term exercisability to extend managers’ incentive horizon, and condition exercisability on performance to manage one downside of long exercisability: lost convexity when these unexercisable options move deep in-the-money.
Keywords: Labor market mobility, Inevitable disclosure doctrine, Executive compensa¬tion, Options duration, Progressive performance vesting, Risk taking, Human capital investment, Non-patentable innovation
JEL Classification: G30, G34, J33, M52, M54, O31
Suggested Citation: Suggested Citation