S2 - alternative theory Flashcards
what is Neo classical theory
firms operate in a perfectly competitive environment
Given the assumptions, firms are no more than black boxes
No role for managerial discretion - survival means maximising profits
No theory of managerial behaviour
what is modern corporation
scale and capital requirements of technology require access to stock market
Divorce of ownership from control
Shareholders own the company
Board of directors take all the major strategic decisions
what are alternative theories
seminal studies raised fundamental studies about what motivates managers
And questioned validity of profit maximisation and neoclassical theory
interests of shareholders not aligned with board of directors
what is baumols sales revenue maximisation
salaries status security of employment are highly correlated with sales revenue
Management have an incentive to maximise sales
Constrained by minimum acceptable level of profit
Unconstrained sales maximisation implies lower profitability
Shareholder revolt - threat of takeover
Market for corporate control - allocation and acquisition takeovers
what is unconstrained sales behaviour
not very realistic as it implies cost inefficiency and managers have some incentive to be efficient to avoid acquisition
More inefficient MCC - the greater the opportunity for firms to diverge from profit maximisation
More realistic to believe that managers wish to increase profits and revenue
Shown by transposing the managerial utility function onto the TR, TC and profit function
what is Williamson’s expense preference model
managerial utility - U(profit,S) is a function of discretionary profits and emoluments (perks)
Profits matter because they might affect pay as well as to reduce threat of takeover
Net profits = gross profit - emoluments
Implies some degree of cost inefficiency because of emoluments which gives utility to managers
Money that would’ve gone to shareholders is transferred to management - welfare neutral
Employing excess staff involves welfare loss
what is marris’s model of growth maximisation
enhances managers esteem, security and remuneration
Balance rate of demand for the firms products with rate of growth of the firms capital
what are constraints on maximising growth
price reductions are not sustainable in the long run
Limits to product diversification
Reduces profitability
what are financial constraints on growth
heavy borrowing increases debt equity ratio or gearing which increases the risk faced by lenders and shareholders
Issuing new shares to finance growth is feasible only if accepted by the stock market
Retained profit has implications for dividend payouts
In early stages, growth and profitability are positively related - managers identify most profitable diversification opportunities
Up to profit maximisation - the interests of shareholders and manager are aligned
After this, growth is at the expense of profitability
how to solve the principal agent problem
standard solution assuming no change in MCC activity - to alter the components of executive remuneration
Salaries of managers incorporate profit sharing
Bonus reliant on profits to encourage less shirking and higher utility
what Is executive remuneration
control for agency
Control for company size
Relative performance measures
Corporate governance variables
what’s the model design
dependent variable is usually some measure of top director compensation and usually lagged one period to capture persistence
Independent variable is measure of company size or stock market performance
Shareholder return = ln(pt+dt)/(pt-1)
timing of shareholder return
top executive compensation and shareholder return might be jointly determined
How identify the actual timing of company performance on top pay
what are empirical results
elasticity of executive compensation shareholder return is small and borderline stat significant
Relative performance variables often stat insignificant
Company size and lagged dependent variable usually stat significant with high coefficients
Time period of study can be strongly affected by changes in regulatory environment
