Equilibrium CEO Contract with Belief Heterogeneity

Abstract

We consider a firm owned by shareholders with heterogeneous beliefs who delegate to a manager the choice of a production plan. Shareholders can trade claims that are contingent on all possible realizations of the firm's output. Shareholders cannot observe the chosen production plan and design a contract for the manager that specifies her compensation as a function of the firm's output and possibly some restrictions to trade in the financial market. The contract is designed so that at equilibrium the manager chooses the plan preferred by shareholders and reveals it truthfully. Our first result is that such contract should restrict the manager from trading in the asset market. Second, we show that the marginal utility of manager's compensation should be proportional to that of the representative shareholder at the equilibrium plan. An implication is that, relative to a linear compensation, the manger should be induced to attach larger weights to extreme output realizations. With Milo Bianchi (TSE) et Rose-Anne Dana (Dauphine).