A summary of incentive mechanisms or institutions

Table: A summary of incentive mechanisms or institutions

The institutions listed below could potentially reduce the managerial transaction costs. They are often imperfect because they may be incapable of completely removing the managerial transaction costs.

Go to figure explaining the main issues of the managerial agency problem.

Go to figure illustrating some hypotheses of relevance for corporate governance

Decision system

The decision system is here defined as the system by which corporate decisions are distributed between the annual shareholder meeting, the board of directors and the management. It also covers issues in the corporate charter of relevance for the distribution of control, such as the existence of staggered boards and stocks with differential voting rights. Classic references on decision systems are Fama and Jensen [1983a, 1983b]. More information.

Performance monitoring

The performance monitoring system is here defined as the legislation or the investment tools that make it possible for the firm's constituencies to gather and analyze information about the firm's economic performance. Prominent examples are the corporate disclosure rules regarding accounts and other corporate information that enables investors to price the equity of these companies or rate their creditworthiness. An example of an investment tool that is used for performance monitoring is the discounted cash flow approach used to estimate the fundamental value of a company. Classic references on performance monitoring systems are Jensen and Meckling [1976], and Copeland, Koller and Murrin [1996]. More information.

Incentive based compensation

Incentive based compensation is here defined as the systems that regulate the pecuniary compensation of executives or investment managers. These systems are of major importance in corporate governance because their design determines the incentives of the managers and thereby the economic efficiency of the businesses they manage. Classic references on incentive based compensation systems are Hart and Holmström [1987, part 1]. More information.

Bankruptcy system

The bankruptcy system is here defined by the legal procedures that govern the bankruptcy of firms. For instance, those specifying the transfer of corporate control from stockholders to creditors when a firm goes bankrupt. A reference on bankruptcy systems is Smith and Warner [1979]. More information.

Ownership structure

The ownership structure is defined by the distribution of equity with regard to votes and capital but also by the identity of the equity owners. Two classic reference on ownership structures are Jensen and Meckling [1976] and Holderness, Kroszner and Sheehan [1999]. More information.

Creditor structure

The creditor structure is defined by the distribution of debt and by the identity of the creditors. Two references on creditor structures are Berle [1926], and Stiglitz [1985]. More information.

Capital structure

The capital structure is defined by the firm’s policy with regard to leverage and dividend payments. A classic reference on capital structures is Jensen [1986]. More information.

The market for corporate control

The market for corporate control is defined as equity transactions that are large enough to change corporate control. Two classic references on the market for corporate control are Manne [1965] and Marris [1964]. More information.

The market for management services

The market for management services is simply defined as the market for managerial labor. A classic reference on the market for management services is Fama [1980b]. More information.

Product market competition

There are two kinds of product market competition that are relevant in corporate governance: 1) competition in the firm's product markets, 2) competition in the product markets of the firm’s owners, if they are firms as well, e.g., the product markets of an institutional investor. A classic reference on product market competition is Hart [1983]. More information.