Affiliation:
1. Baruch College–CUNY
2. Purdue University
3. Texas Christian University
Abstract
ABSTRACT
In this paper, we study the seniority orders between a firm's external debts and its inside-debt compensation to its manager and analyze how different seniority orders influence the equilibrium inside debt and external debt. We find that the equilibrium inside debt varies with different seniority orders and is contingent on the firm's financial constraints. We also analyze how the liquidation value upon bankruptcy affects the equilibrium external debt given different seniority orders, and we show that the external debt may increase in the liquidation value. In addition, we examine an extension with asset diversion. We find that contrary to conventional wisdom, assigning seniority to the manager's inside-debt compensation does not mitigate the manager's asset diversion. In fact, asset diversion is more severe when the manager's inside-debt compensation has seniority over the external debts.
Publisher
American Accounting Association
Subject
Accounting,Business and International Management