I study the optimal choice of investment projects in a continuous time moral hazard
model with multitasking. While in the first best, projects are invariably chosen by
the net present value (NPV) criterion, moral hazard introduces a cutoff for project
execution which depends on both a project’s NPV as well as it’s signal to noise ratio
(SN). The cutoff shifts dynamically depending on the past history of shocks, current
firm size and the agent’s continuation value. When the ratio of continuation value to
firm size is large, investment projects are chosen more efficiently, and project choice
will depend more on the NPV and less on the signal to noise ratio.
The optimal contract can be implemented with an equity stake, bonus payments,
as well as a personal account. Interestingly, when the contract features equity only,
the project selection rule resembles a hurdle rate criterion.