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AGENCY PROBLEM
THE PRINCIPAL-AGENT
PROBLEM
Agency Problem
2
SelfInterest
Management
(Agents)
Stockholders
(Principals)
Main Objective:
Maximizing stockholders wealth
Agency Problem
3
Market Forces
Hostile Takeover
Agency Cost
Behavior of Security
Market participants
Monitoring
Expenditure
Bonding Expenditure
Opportunity cost
Structuring
Expenditure
Incentive Plans
Performance Plans
Hostile Takeover
5
No Agreement
Acquiring Company (A)
Acquisition
Opportunity Cost
Agency Cost
8
Monitoring Expenditure
Agency cost
9
Bonding Expenditure
Agency Cost
10
Agents working
their self-interest.
( Insider Trading)
in
Shareholders
Structuring Expenditure
Agency Cost
11
Compensation Plans
12
Incentive Plan
Performance Plan
INCENTIVE PLANS:
Tie management compensation to share prices.
Stock Option: Stock option allow management to purchase shares at
a special/ concessional price.
A higher future price would result in larger management compensation.
Note: Share prices may be affected by economic and behavioral market
forces over which management has no control.
Performance Plans:
Reference Book
14