EVA-based two-period compensation plan: A game approach

This paper studies the characteristics of the EVA-based compensation plan between a firm's shareholder (principal) and his manager (agent) by using a dynamic game with incomplete information. We present a two-period principal-agent model to investigate the optimal solutions for the short-term contract and the long-term contract, respectively, and compare their differences. Under both contracts, the agent's effort levels are positively relevant to the incentive weights but are not related to the fixed wages. The optimal incentive weights and thereby the agent's effort levels are positively relevant to the agent's productivity, and are negatively relevant to the agent's effort cost coefficient, risk-aversion degree and the uncertainties. Also, we find that under the short-term contract, the agent takes more effort in both periods than those under the long-term contract, and the principal gets more payoffs.