Labor Market Immobility and Incentive Contract Design

46 Pages Posted: 30 Nov 2018 Last revised: 11 Apr 2022

See all articles by Chen Lin

Chen Lin

The University of Hong Kong - Faculty of Business and Economics

Lai Wei

Lingnan University - Department of Finance and Insurance

Nan Yang

Hong Kong Polytechnic University - School of Accounting and Finance

Date Written: November 20, 2018

Abstract

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

Lin, Chen and Wei, Lai and Yang, Nan, Labor Market Immobility and Incentive Contract Design (November 20, 2018). Available at SSRN: https://ssrn.com/abstract=3289225 or http://dx.doi.org/10.2139/ssrn.3289225

Chen Lin

The University of Hong Kong - Faculty of Business and Economics ( email )

Pokfulam Road
Hong Kong
China

Lai Wei (Contact Author)

Lingnan University - Department of Finance and Insurance ( email )

8 Castle Peak Road
Lingnan University
Hong Kong, New Territories
China

Nan Yang

Hong Kong Polytechnic University - School of Accounting and Finance ( email )

Hung Hom
Kowloon
Hong Kong

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