Corp 6 Flashcards
(38 cards)
What is the principal-agent problem in corporate governance?
It is the conflict between shareholders (principals) and managers (agents) where managers may not act in the shareholders’ best interests.
What are agency costs?
They are the losses due to managers not maximizing value, plus costs of monitoring, enforcing rules, and correcting bad decisions.
What are common agency problems?
Reduced effort, perks and private benefits, overinvestment for power/prestige, excessive or too little risk-taking, and short-term focus.
How can perks be a form of agency problem?
Managers may use firm resources for personal benefit, such as luxury offices or travel, which do not maximize shareholder value.
What is an entrenching investment?
A project designed to make a manager’s job essential, increasing their power rather than firm value.
Why is risk-taking an agency concern?
Managers may take too little risk to protect their job or too much risk to ‘gamble for resurrection’ when desperate.
How do stock options affect managerial behavior?
They create incentives to raise stock prices, which may encourage excessive risk-taking or short-term focus.
Why is short-term focus an agency problem?
Managers might boost short-term profits to increase their compensation, even if it harms long-term value.
What is board independence and why does it matter?
Independent directors are not part of management and are more likely to challenge decisions and monitor effectively.
What does the NYSE/NASDAQ require for board independence?
A majority of board members must be independent.
What is the optimal board size?
Large enough to offer oversight, small enough to avoid coordination and free-rider issues.
What is ‘overboarding’ in corporate governance?
When directors serve on too many boards, which can reduce their effectiveness and attention.
What is a staggered board?
A board where only some members are elected each year, which can slow down takeovers and reduce accountability.
How can shareholders influence corporate governance?
Through voting, proxy fights, public engagement, and selling shares (Wall Street Walk).
What is a proxy fight?
A contest where a group tries to replace current board members via shareholder votes.
What is dual-class equity?
A structure where some shares have more voting rights than others, reducing shareholder control.
What is the role of auditors in governance?
To ensure financial reports follow GAAP and fairly reflect company performance.
How do lenders act as monitors?
They track company performance and can restrict actions through loan covenants.
How can takeovers be a governance tool?
Underperforming firms may be acquired by others who use assets more efficiently.
How should management compensation be structured?
It should align manager incentives with shareholder interests using bonuses or equity-based pay.
What is pay-for-performance sensitivity (PPS)?
A measure of how closely changes in compensation match changes in firm value.
What are the dangers of poor compensation design?
It can encourage manipulation, focus on short-term results, or excessive risk.
What is the ‘managerial power’ problem?
Managers may influence their own compensation, leading to excessive or unjustified pay.
What is relative performance evaluation?
Benchmarking executive performance against peers to prevent overpayment due to industry-wide effects.
