Chapter 1
Comparative Corporate Governance and Financial Goals
End-of-Chapter Questions
1. Corporate goals: shareholder wealth maximization. Explain the assumptions and objectives of the shareholder wealth maximization pmodel.
Answer: The Anglo-American markets have a philosophy that a firm’s objective should follow the shareholder wealth maximization (SWM) model. More specifically, the firm should strive to maximize the return to shareholders, as measured by the sum of capital gains and dividends, for a given level of risk. Alternatively, the firm should minimize the risk to shareholders for a given rate of return. The SWM model assumes as a universal truth that the stock market is efficient. This means that the share price is
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Corporate governance is a broad operation concerned with choosing the board of directors and with setting the long run objectives of the firm. This means managing the relationship between various stakeholders in the context of determining and controlling the strategic direction and performance of the organization. Corporate governance is the process of ensuring that managers make decision in line with the stated objectives of the firm.
(b) The market for corporate control.
Answer: In cases where management does not behave as agents of the stockholders, the equity market provides a means for outside investors to replace the existing management and possibly the controlling shareholders through a takeover.
(c) Agency theory.
Answer: Management of the firm concerns implementation of the stated objectives of the firm by professional managers—agents—employed by the firm. In theory managers are the employees of the shareholders, and can be hired or fired as the shareholders, acting through their elected board, may decide. Ownership of the firm is that group of individuals and institutions which own shares of stock and which elected the board of directors. In countries and cultures in which the ownership of the firm has continued to be an integral part of management, agency issues and failures have been less a problem. In countries like the United States, in which ownership has become largely separated from management (and widely dispersed),
There are three internal and one external governance mechanisms used for owners to govern managers to ensure they comply with their responsibility to satisfy stakeholders and shareholder’s needs. First, ownership concentration is stated as the number of large-block shareholders and the total percentage of the shares they own (Hitt, Ireland, Hoskisson, 2017, p. 317). Second, the board of directors which are elected by the shareholders. Their primary duty is to act in the owner’s best interest and to monitor and control the businesses top-level managers (Hitt, Ireland, Hoskisson, 2017, p. 319). Third, is the
Although stock implies ownership, few equity investors expect to play a role in running the companies whose shares they buy. Such firms are widely held, and few stockholders have large enough blocks of stock to influence management decisions. In small business, of course, owners usually run their companies.
Common stockholders are the basic owners of a corporation, but few stockholders of large corporations take an active role in management. Instead, they elect the corporation’s board of directors to represent their interests. Board members seldom get involved in the day-to-day management of the company. They establish the basic mission and goals of the corporation and appoint
Managers and shareholders are the utmost contributors of these conflicts, hence affecting the entire structural organization of a company, its managerial system and eventually to the company's societal responsibility. A corporation is well organized with stipulated division of responsibilities among the arms of the organizational structure, shareholders, directors, managers and corporate officers. However, conflicts between managers in most firms and shareholders have brought about agency problems. Shares and their trade have seen many companies rise to big investments. Shareholders keep the companies running
Corporate governance is a commonly used phrase to describe a company’s control mechanisms to ensure management is operating according to
In this essay I plan to show what consequences there are from a separation of ownership from control and what effects could occur as a result. I will be arguing whether managers are worth the cost of hiring, to the business as a whole, giving examples of problems that may arise in these types of situations and what impact they can cause. The separation of ownership in large firms is when the owners appoint paid managers to run their businesses, causing ownership to be divorced from control. Diseconomies of scale are the forces that cause larger firms to produce goods and services at increased per-unit costs.
6. The goal of shareholder wealth maximization model is to maximize the return to shareholders, and it is measured by the value of the firm’s common stock. It is also concerned with minimizing the risk to the shareholders’ bonuses. The model looks at the present value of all expected future cash flows (McGuigan, Moyer, & Harris, 2011, p.8).
The article is written to help readers gain a solid understanding the roles of corporate governance, both inside and outside the company. Its goal is simply to impart information, not make claims or arguments on its own. I will be judging it mainly on the sources gathered, numerous examples and explanations given and the overall effectiveness it possesses in effectively communicating its ideas.
The Oxford English Dictionary defines ‘governance’ as ‘the act, manner, fact or function of governing, sway, control’. ‘To govern’ is ‘to rule with authority’, ’to exercise the function of government’, ‘to sway, rule, influence, regulate, determine’, ‘to conduct oneself in some way; curb, bridle (one’s passions, oneself)’, or ‘to constitute a law for’.
To put it simply, in financial terms, to maximize shareholders wealth means to maximize purchasing power. Throughout the years, we have learned that markets are most efficient when the company is able to maximize at the current share price. Every company’s main goal should be to strive to maximize its value to every single one of their shareholders. Common stock represents the value of the market price, and it also gives the shareholder an idea of the different investment, financing, and dividend decisions made by that particular firm.
The corporation is owned by its stockholders, these stockholders elect a board of directors that oversee the activities of the company. The board of directors appoints officers like a president, vice-president, controller, and treasurer. The
An agent is hired by the principal to perform some duty that benefits the needs of the principal. The agency problem is an issue that occurs when the agents use their authority to make decisions in their own interest at the expense of the principals. For example, company managers (agents) were put in place to make decisions that maximize the wealth of the shareholders (principals) but may instead engage in empire-building or may make inefficient company decisions for job security. In order to mitigate these potential agency problems, several mechanisms have evolved. These include directly tying the compensation of managers to the success of the firm; oversight and influence by the board of directors as well as outsiders such as security analysts, creditors, or large institutional investors; the threat of a proxy contest by unhappy shareholders to replace the current management team; or the threat of takeover by another firm. However, most of these mechanisms have a low chance of success or can create other problems. The best mechanism that prevents agency problems is the threat of takeover by another firm. If the
The principals (the shareholders) have to find ways of ensuring that their agents (the managers) act in their interests.
“Corporate finance theory, teaching and the typically recommended practice at least in the US are all built on the premise that the primary goal of a corporation should be the maximization of shareholder value.”
Corporate Governance refers to the way a corporation is governed. It is the technique by which companies are directed and managed. It means carrying the business as per the stakeholders’ desires. It is actually conducted by the board of Directors and the concerned committees for the company’s stakeholder’s benefit. It is all about balancing individual and societal goals, as well as, economic and social goals. Corporate Governance is the interaction between various participants (shareholders, board of directors, and company’s management) in shaping corporation’s performance and the way it is proceeding towards. The relationship between the owners and the managers in an organization must be healthy and there should be no conflict between the