Internal Financing, Managerial Compensation and Multiple Tasks

Sandro Brusco and Fausto Panunzi

Department of Economics Working Papers from Stony Brook University, Department of Economics

Abstract: We study the optimal capital budgeting policy of a firm taking into account the choice between internal and external financing. The manager can dedicate effort either to increase the short-term profitability of the firm, thus generating greater immediate cash-flow, or to improve long-term perspectives. When both types of effort are observable, low return firms end up using internal funds, while high return firms use external capital markets. When effort to boost short-term cash flow is observable, while effort to boost long-term profitability is not, non-monotonic policies may be optimal, that is. Financing switches back and forth between internal and external funds as the quality of the project increases.

Date: 2018
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Persistent link: https://EconPapers.repec.org/RePEc:nys:sunysb:18-03

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