A complete guide to pass your exam;
- Summary of the book (Corporate governance: A global perspective by Marc Goegen)
- Summary of lectures (1 to 21)
- Summary of the papers discussed
Firms can have a lot of different objectives, this is what drives the firm
Corporate social responsibility
Main goal is do not harm the society
Pie Mentality
“Everyone is in the same team”
A company serves more than only the investors
o Colleagues, citizens, suppliers, collagues, customers,
etc.
Ignoring the pie? MORE conflict, pressure on regulators, LESS
trust
TRADE-OFF – Pie mentality
Same people may be out as a result of creative destruction
Pareto Improvements
Pie grows, it is possible to find a way of compensating those slices would otherwise fall
(Coarse Theorem)
Lecture 2 – International Corporate Governance Environment
Investing decisions
Where to put money towards
Financing decisions
How to raise money for a project
Payout decisions
1
,What to do with the returns, how to distribute
There is no universal agreement on the goal of a corporation, this depends on..
- Culture
- Electoral system
- Legal tradition
- Governments political orientation
Corporate Governance
Combination of mechanism which ensures that the management runs the firm for the benefit of one
or several stakeholders. Such stakeholders may cover shareholders, creditors, suppliers, clients,
employees and other parties with whom the firm conduct its business.
Set of contracts with the aim to minimize conflicts between corporate players
Conflicts
- Shareholder VS managers
- Shareholder VS debtholders
- Shareholders VS non-fin-shareholders
- Large shareholders VS minor shareholders
Moral Hazard
Once a contract is signed it may be in the interest of the
agent to behave badly or less responsibly
This agency problem occurs when an agent acts on
behalf of a principle
Exist due to asymmetric information (Agent has more
information)
FE:
Insufficient effort
Extravagant investment
Entrenchment
Self-dealing
Lack of transparency
Accounting manipulations
Moral Hazard can be prevented by a complete contracts, these should specify what the managers
must do in every given situation + how the distribution of profits must occur in every situation
Can be prevented by Separation of Ownership and Control (Jensen & Meckling)
Principal-Agent Problem Agency cost, because we need to be sure the manager runs the company
in the interest of the principal
Agency cost
1. Monitoring
Principal observing the agent and keeping a record of the agent’s behavior
Avoid unwanted actions
2. Bonding Cost
The cost incurred by the agent in order to signal credibly to the principle (you will act in interest of
principal)
FE: Buy shares of the firm
3. Residual Loss
Incurred by the principal
2
, Agent may not make the decision that maximize the value of the firm
FE: Give job to friends or family, even when they are not the best for the job
Agency problems
Perquisites
Consumption by the management
- Benefit for management, cost for shareholder
Use company jets for private use
Empire Building
Growth for the sake of growth
- Free cash flow problem
- Management: Growth > shareholder maximization
Invest in projects with NPV < 0 destroying shareholder value, rather than NPV > 0
Increasing power and social status, greater managerial compensation
While a company may have limited investment opportunities, shareholders have access to a wide
range of investment opportunities
Scenario 1 Default, because debt is higher than equity
If your firm goes bankrupt the bank gets everything, shareholder
nothing
Equity holder gets the leftover of the firm assets. Unlimited gain
Total agency cost
= agency cost of debt + equity
Minority VS Majority shareholder conflict
Large shareholders Corporations, families, government
Minority shareholders are expropriated through..
Tunneling
Large shareholders transferring the firm’s assets or profits into his own pockets
Transfer pricing
3
, Overcharging the firm for services or assets provided (large shareholders expropriating minority
shareholders)
Nepotism
Large shareholders appoint family members to top positions instead of the most suitable candidates
Infighting
Deflecting management time as well as other firm resources
Related-party transactions
Tunneling and transfer pricing involving the large shareholders
Ownership pyramids make this more tempting
Stock Ownership Mutual Organization
Traditional stock exchange corporations Building Society or Bank they can be savers
and borrowers
Rabobank
Principal-Agent problem low Principal-Agent problem is severe
$1 = 1 Vote 1 person = 1 Vote
Stock price as a measure of performance Not listed in stock market
High conflict of interest between stakeholders Low degree of conflict; owners ARE the
and owners stakeholders
Disciplinary function: large shareholders Low(er) market discipline
monitors the management a lot
Members can SELL their stocks; just a Members can WITHDRAW their money any
replacement time pure loss in fund
Ownership
- Cash flow rights
Pro rata right to the firms earnings
In case of liquidation, cash flow right gives the owner a pro rate right to the firm’s assets
Control
- Control right
Stems from voting rights
Voting rights
Give the holder the right to make certain decisions about the firm and/or vote in favor of
members of the company’s board of directors
Ownership
Founder
Right to appoint specific number of board members (founder keeps particular percentage of assets)
Golden share
Another channel: FE to block the takeover of a firm
Management’s de factor control
Management can control firm de facto in the absence of a large shareholder
4
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