Essays in managerial and financial economics
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This thesis is a collection of essays in financial and managerial economics. In Chapter 2, we present a model in which mutual gains from trade motivate the use of termination provisions in merger contracts. The inclusion of a termination provision in the contract permits Pareto efficient merger contracts and results in strictly higher payoffs for both bidder and target compared to contracts without termination fees. The fees are revealed not to be a form of bidder insurance even though they do increase the probability that a merger is consummated. The model provides a rich collection of predictions, all of which are consistent with the empirical regularities reported to date. In Chapter 3, I model the decision of two firms to form an equity alliance when they consider future corporate control. An established partner receives a signal about the match quality that he has with an entrepreneurial firm. The entrepreneurial firm (Target) has superior information about the quality of the prospective match than the Bidder. This uncertainty will be revealed to the established firm (Bidder) either after the merger or within an equity alliance. I show that it is optimal for the established firm to propose a merger if the signal is above an endogenous signal threshold. If the signal is below the threshold, the optimal choice is to form an equity alliance and have the match quality revealed through contracting. After the revelation of the true match quality, and if the match quality is sufficiently high to generate a positive payoff for the established firm, the two firms can proceed to a merger. If the match quality is below the endogenous quality threshold, then the Target is permanently rejected. Surprisingly, I find that even though the signal is positively correlated with the true match quality, it has a negative impact on the Bidder's payoff resulting from the Alliance. In Chapter 4, we use an agency model with moral hazard and adverse selection to study the effect of a mentor's ability on the compensation of his mentees. An agent who is trained by a mentor of higher ability receives valuable experience that increases not only his productivity but also his output sensitivity to effort. In our model's equilibrium, the greater productivity translates into higher total compensation, and the greater output sensitivity of effort leads to stronger incentives. We test these predictions by using data from college football coaches and we find strong empirical support for our hypotheses. Football coaches who have previously worked as assistants to head coaches of superior ability, are on average more productive and earn higher total compensation. Furthermore, their compensation contracts include stronger incentives in the form of bonus payments, an outcome consistent with our model's predictions.