سرمایه گذاری بسیار سنگین و کلاهبرداری

We analyze the interactions between two managerial tasks: investing and revealing information. We assume that a manager can invest influencing the firm’s quality, then he reports this quality to investors. Whenever truthful reporting is not an equilibrium, the manager has incentives to overinvest relative to shareholders. Therefore, the potential for market manipulation is the key in understanding investment policy; it is the desire to manipulate prices that leads to inefficient investment. Also, more manipulation occurs when the manager is in control, so prices are less informative. Finally, we show that the manager is better off with an exogenous reporting policy.

Corporate scandals have permeated the news in the past few years with an ensuing debate over the pros and cons of existing executive compensation packages. The governance failures at Enron, Tyco and WorldCom, among others, have cast a shadow over the corporate governance system in the US. More importantly, it cast doubt over the effectiveness of using stocks and options as part of executives’ pay packages with the intent of aligning their interests with shareholders’. In the center of this discussion is the idea that short-termist behavior has been a major negative consequence of packages that are highly sensitive to stock price performance. At a first glance providing stock-based compensation may align incentives as both managers and shareholders now have a common component in their objective function, but it may also create countervailing incentives as these agents may have different horizons. Extra sensitivity to stock price may lead managers to engage in activities that maximize short-run value and neglect the long-run value of the firm since managers are not guaranteed to be around for the long run. We analyze these issues under a new framework modified to let the potential for information manipulation have spillover effects and influence investment policy. Investment is inefficient when the potential and temptation to manipulate information is greatest. More precisely, we show how managers end up investing over and above the shareholders’ optimal level.1 The driving force behind this result comes from two components: first, as the novel part of the model, the manager chooses not only how to invest but also how to reveal information to the market. Second, agents’ expected horizons differ. The result that we wish to emphasize here is the ensuing interaction between information revelation (or manipulation) and investment distortion. Inefficient investment takes place because of the desire to inflate prices through information manipulation. Our model has three types of agents: the manager, existing shareholders and investors (or new shareholders). The existing shareholders are present at the time the manager is hired but may need to sell their shares and exit in the next period. On the other hand, the manager either sells his shares (cash in his pay package) or just quits the firm and takes an outside option; he is never around for the long haul.2 Finally, investors come into the picture as participants in the market for the stock; they become the new shareholders that hold the firm until its final value is realized. Therefore, we see that managers have the shortest horizon, followed by the “existing” shareholders, and finally the investors. As a consequence, stock price maximization is essentially the only objective of the manager while investors only care about final value and shareholders’ objectives are in-between. One can view short-termism in the current paper as a greater concern with stock price than is optimal for shareholders. It is this excessive weight put on stock prices by the manager that leads to the incongruence of incentives between the managers and other agents. Alternatively, this could be viewed as a model of mere “fraud”, but, naming it short-termism is natural because it is the manager’s shorter horizon that leads to the desire for fraud. We focus on the comparison between the manager’s behavior and the behavior that would arise if shareholders were running the firm. To complete the analysis, we also compare these with value-maximizing action and the action that maximizes investors’ utility. Throughout the analysis we assume that investment is costly.3 In the model, the investors are risk averse while the manager and the shareholders are risk-neutral.4 The manager has his compensation package tied to the stock price performance and he faces a two-dimensional decision problem. First, he decides how much to invest. The amount invested stochastically influences the firm’s quality.5 After the investment takes place, the quality of the company is privately revealed to the manager (and to the shareholders). Then, he has to report the observed quality to investors. At this point, he may try to manipulate the market by issuing misleading reports. We assume that if a misleading report is issued the SEC may find out and “punish” (sue) the manager for improper behavior. Hence, this strategy can be seen as costly lies. After the manager’s report has been issued, investors rationally update their beliefs and submit their demand schedule. A portion of the investors has relative performance objectives.6,7 They care about their performance relative to a benchmark. Market clearing then determines prices. In the following period, the company’s payoff is realized and fully paid out to shareholders. Surprisingly, depending on the strength of the investors’ relative performance objective, the manager may want to invest MORE than it is optimal for the shareholders and reveal less information to the market. We see this as a striking result since most of the agency problems literature would predict shirking on part of the manager, which translates into under-investment in our model’s language.8 Therefore, the potential for market manipulation (through misleading information) is crucial in determining managers’ investment policy. We also show that for low strength of the relative performance objective the traditional result obtains, i.e., managers would like to under-invest (shirk) relative to shareholders optimal investment level. So, the interesting and novel part of the model is the interaction between relative performance objectives, information revelation (market manipulation) and investment policy. Furthermore, we show that the manager himself is worse off with a discretionary reporting policy, when compared with a situation where the reporting policy is exogenous (truthful revelation of the state of the world). And, for a given investment level in the first stage, the probability of observing lies in equilibrium is increasing in the relative performance parameter. It is important to stress that the results of this paper hold under both voluntary and mandatory disclosure rules. Under mandatory disclosure we have the exact current model: the manager must disclose his information, but can lie. Under voluntary disclosure, the model works much in the same way because, as long as investors know that the manager has private information, a non-disclosure event is interpreted as a bad signal, hence such event never happens. When the manager wants to report a good signal he must disclose (make a report) and when he wants to report a bad signal he is indifferent between disclosure and no-disclosure. It is clear that, since we assume that both the manager and the shareholders are risk-neutral, the interest divergence problem is not generated by the need to share risk. The payoff asymmetry that delivers our result emanates from the fact that shareholders have a potentially longer horizon than the manager.9 We do not address the question of what is the optimal compensation package for the manager but rather analyze the effects of existing packages that tie executive compensation to stock price performance.10 As mentioned above, part of the investors, to be termed institutional, has a relative-performance-type objective function. This objective captures the fact that mutual or hedge funds are compensated based on a comparison to a benchmark. Palomino (1999) shows that these objectives obtain if investors compare performance across funds when deciding how much to invest in each fund. We show how the relative performance objective helps determine the strength of demand and how this influences the optimal reporting policy and investment choice. Earlier empirical evidence provides us with support for this assumption by showing that fund managers may have this type of objective;11 because either the fund uses a “fulcrum fee”12 and managers get a portion of it, or the fund managers themselves have relative performance contracts.13 Alternatively one could give a different interpretation to the model under which these investors would be employees with keeping up with the Joneses utility functions. That is, the employees would have utility functions that depend on a reference consumption level as well as their own level, where the relevant reference group would be the other employees in this company. For examples, applications and empirical support of such utility functions see, for instance, Gali, 1994 and Shore and White, 2003 and Pinheiro (2007a) and references therein. We also lay out some of the empirical implications of our model and some supportive evidence from previous work. Finally, the appendices present a further generalization of the model that allows for the presence of investors that are fully informed about the state of the world. Throughout the paper we focus on the “investment” interpretation, but the reader is free to think of it, interchangeably, as “effort”. The rest of the paper is organized as follows: Section 2 summarizes the related literature and places our paper in context, stressing its main contributions. Section 3 describes the model in greater detail. Section 4 analyzes the communication stage of the game. We fix an investment level chosen by the agent in charge and analyze the ensuing equilibrium in the market for the company stock. In other words, we analyze how much information is revealed to the market, how the investors respond and what the equilibrium price is. In Section 5, we solve for the optimal investment policy, given our solution for the communication stage, under different assumptions concerning who is in charge. We look at the problem from four different viewpoints: manager, shareholders, investor and an outside entity that maximizes the firm’s final value. In Section 6, we put the two stages together in an equilibrium result, point out the potential for multiplicity of equilibria and discuss the main results concerning investment choice, the associated information manipulation and the manager’s well-being under different reporting structures. We also discuss the empirical implications of the model. Section 7 concludes.

In this paper, we present a full blown equilibrium analysis of the choices of a manager. We put together four main elements: the fact that managers (and/or shareholders) have the choice to engage in value increasing activity, differing horizons of different agents, the important issue of endogenous information revelation and the fact that prices are not exogenous, and hence, respond to the previous choice variables. The main contribution of this work is to analyze the choice of investment and the reporting policy together. Most papers so far would only consider each one in isolation. We show that putting them together may generate important consequences, due to the feedback effect they have on each other. Investment policy depends on how information is revealed, and vice-versa. Interestingly enough, we show that, contrary to the norm, our equilibrium model may produce cases where managers and shareholders would both be overinvesting (or working too hard) as compared to the value maximizing level. This occurs because both insiders have objectives that are at least partially dependent on stock price, and the price has the tendency to be too sensitive to investment project choice. Hence, with these objectives and with the freedom of choosing the way to report the state of world to the public, they choose the “wrong” project. More importantly, we observe managers overinvesting even more than shareholders would. Therefore, the extra sensitivity of managers’ payoffs to the project choice leads them to overinvest above and beyond the optimal for either investors or shareholders. We also show that the results are not weakened even in the presence of multiple equilibria. Much on the contrary, multiplicity of equilibria allows us to draw stronger conclusions concerning the result that managers may overinvest. The fact that the reporting policy is determined endogenously has an even higher effect on the type of distortion generated by the manager’s control over project choice. Finally, we demonstrate that ex-ante the manager is made worse off by having the reporting policy under his control. So, the lack of commitment affects him negatively, and he would rather have a third party reveal the information concerning the quality of the company. We also discuss the empirical implications of the model.