Debt, Managerial Compensation and Learning

33 Pages Posted: 11 Feb 2002

See all articles by Neelam Jain

Neelam Jain

City, University of London

Date Written: June 10, 2004

Abstract

Using a dynamic model with uncertainty and asymmetric information, we study the impact of debt and bankruptcy on managerial compensation and learning. In this model, compensation has two roles to play - providing incentives to the manager and learning about his type. We show that debt, through bankruptcy, acts as a substitute of compensation in both dimensions and derive conditions under which debt lowers average compensation, pay-performance sensitivity and increases learning. We also examine the choice of debt and show that firm value can be increased due to debt's effect on managerial compensation, abstracting from other costs and benefits of debt. Finally, we conduct comparative statics with respect to the underlying parameters.

Keywords: Debt, Managerial Compensation, Learning

JEL Classification: D8, G3, J3, L2

Suggested Citation

Jain, Neelam, Debt, Managerial Compensation and Learning (June 10, 2004). Available at SSRN: https://ssrn.com/abstract=299424 or http://dx.doi.org/10.2139/ssrn.299424

Neelam Jain (Contact Author)

City, University of London ( email )

London
United Kingdom

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