Bonuses and managerial misbehaviour

Profit-based bonus payments have been criticised for encouraging managers to take excessively risky actions or to engage in other activities that are not in the firm׳s best interest. We show, however, that large bonuses may discourage managers from such misbehaviour, because they have more to lose in the event that misbehaviour is detected. Thus, large bonuses may be an optimal way for firms to control misbehaviour. Our finding sheds new light on recent proposals to regulate bonuses.