Intensified distortion: Investment decisions with endogenous contracts and time inconsistency

Previous studies on investment decisions with endogenous contracts typically adopt differences among discount rates to describe decision makers’ impatience. Yet evidences from behavioral economics and neuroeconomics suggest that decision makers are impatient with short-term choices, but patient with...

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Bibliographic Details
Published in:Finance research letters 2024-07, Vol.65, p.105539, Article 105539
Main Authors: Li, Yanzhao, Guo, Ju-e, Li, Yongwu, Zhang, Jinggong
Format: Article
Language:English
Subjects:
Endogenous contracts
Investment
Real options
Time inconsistency
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Summary:Previous studies on investment decisions with endogenous contracts typically adopt differences among discount rates to describe decision makers’ impatience. Yet evidences from behavioral economics and neuroeconomics suggest that decision makers are impatient with short-term choices, but patient with long-term choices. Using quasi-hyperbolic discounting and real options agency framework, we investigate the effect of this time-vary impatience, i.e., time-inconsistent preference, on compensation contracts and investment triggers. We reveals that time inconsistency does not affect the dominance of restricted stock, but intensifies agency conflicts between the manager and shareholders. Our study provides a new perspective for understanding underinvestment and high equity incentives. •Incorporate time inconsistency into investment decisions with endogenous contracts.•Model time-varying impatience using the quasi-hyperbolic discounting.•Time inconsistency does not affect the dominance of restricted stock on compensation contracts.•Time inconsistency intensifies the agency conflicts between the manager and shareholders.
ISSN:1544-6123
DOI:10.1016/j.frl.2024.105539