Work effort, consumption, and portfolio selection: when the occupational choice matters

We consider a highly-qualified individual with respect to her choice between two distinct career paths. She can choose between a mid-level management position in a large company and an executive position within a smaller listed company with the possibility to directly affect the company’s share price. She invests in the financial market including the share of the smaller listed company. The utility maximizing strategy from consumption, investment, and work effort is derived in closed form for logarithmic utility. The power utility case is discussed as well. Conditions for the individual to pursue her career with the smaller listed company are obtained. The participation constraint is formulated in terms of the salary differential between the two positions. The smaller listed company can offer less salary. The salary shortfall is offset by the possibility to benefit from her work effort by acquiring own-company shares. This gives insight into aspects of optimal contract design. Our framework is applicable to the pharmaceutical and financial industry, and the IT sector. Copyright Springer-Verlag 2011