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Agency, firm growth, and managerial turnover

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This paper explores the relation between firm growth and managerial incentive provision in a dynamic moral hazard environment. Extending earlier, seminal contributions to the optimal dynamic contracting literature, we consider a long-lived firm, run by a sequence of managers, that faces exogenous stochastic growth opportunities. We characterize the optimal compensation, firing and growth policies specified in the long-term contracts signed between the firm and its successive managers. Beyond disciplinary replacement upon poor performance, growth-induced turnover arises when incumbent managers are at a disadvantage to implement the growth potential of the firm. The model yields numerous testable implications on the rate of corporate growth, top management turnover, and the use of bonuses and severance pay in managerial compensation. A new form of agency cost arises, due to a form of contractual externality.

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