Working Paper: CEPR ID: DP15625
Authors: Pierre Chaigneau; Nicolas Sahuguet
Abstract: When assessing managerial ability, a firm can rely on two sources of information: a signal of firm value, such as earnings, and monitoring. We show that a more informative signal can surprisingly increase the value of monitoring. This happens if a more informative signal makes some signal realizations more ambiguous indicators of managerial ability, or if the signal leads to negative belief updating on managerial ability yet does not trigger termination. Then, termination decisions will paradoxically rely less on the signal when it is more informative. In private equity owned firms, the model predicts that monitoring intensity is increasing in signal informativeness conditional on a bad performance. These firms can fall into a "bad governance trap" such that a less informative signal is compounded by worse monitoring upon a bad performance.
Keywords: Board Monitoring; Corporate Governance; System Governance; Complementarity; Hard and Soft Information
JEL Codes: No JEL codes provided
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Signal Informativeness (D83) | Monitoring Intensity (C99) |
| More Informative Signal (D83) | Value of Monitoring (O22) |
| Negative Belief Updating (D83) | Monitoring Decisions (D79) |
| Signal Informativeness (D83) | Reliance on Signal for Termination Decisions (L96) |
| Monitoring Intensity (C99) | Poor Performance (D29) |
| Less Informative Signals (D83) | Worse Monitoring Outcomes (I32) |
| Signal Precision (C29) | Ambiguity in Managerial Ability Assessments (D80) |
| Signal Precision (C29) | Monitoring (E50) |