5

Question 1

What is an incentive?

Answer 1

“In incentive is something that motivates an individual to
perform an action. … As such the design of incentive systems
is a key management activity”

Question 2

Types of Incentives (4)

Answer 2

1) Moral incentives
2) Natural incentives or intrinsic motivation
3) Remunerative or financial incentives
4) Coercive incentives

Question 3

Types of Incentives- Moral incentives

Answer 3

The right thing to do (self-esteem, approval of others)

Question 4

Types of Incentives- Natural incentives or intrinsic motivation

Answer 4

Out of curiosity, the pursuit of truth, etc.`

Question 5

Types of Incentives- Remunerative or financial incentives

Answer 5

An agent expects a material reward for given action/result.

Question 6

Types of Incentives - Coercive incentives

Answer 6

When a person expects a negative consequence for having failed to act in a certain way or achieve a certain result

Question 7

Responses to incentives

Answer 7

1) Responses are unpredictable
2) Response to incentives might have unwanted consequences
3) Perverse incentives: targets might be ‘achieved’ and rewards ‘earned’ by ‘gaming the system’ at great costs to the firm.

Question 8

Purpose of executive compensation (3)

Answer 8

1) Attract the right individuals
2) Sufficient to retain those individuals
3) The right balance of incentives to motivate them appropriately

Question 9

Components of Executive Compensation (6)

Answer 9

1) Base annual salary (fixed)
2) Short term incentives
3) Long term incentives
4) Employee benefits
5) Paid expenses (prequisition)
6) Contractual

Question 10

Components of Executive Compensation - Short term incentives

Answer 10

Bonus paid in porppotion of achievement

Question 11

Components of Executive Compensation - Long term incenitves (3)

Answer 11

1) Stock options
2) Restricted stock awards
3) Long term performance award

Question 12

Protection of Shareholder rights

Answer 12

One area is the protection of ‘minority shareholders’ against
‘controlling shareholders’. When a firm is controlled by a
single person (e.g. Facebook) or by a family (e.g. Prada),
management is closely align with the controlling shareholder
(and sometimes are the same people/individual).

Question 13

What three strategies create corporate governance issues ?

Answer 13

1) Dual-class shares
2) Pyramid Structures
3) Cross holdings

Question 14

What is Pyramid Structures?

Answer 14

An individual or a group of individuals (e.g. a family) can achieve and maintain control through a chain of ownership relations
Ex)Even without using dual-class shares and cross-shareholdings, let's say you control 51% of a firm, which in turn controls 51% of a second one, you achieve control of the second one within reality only 26% ownership.
● Through various means, the controlling shareholder might be tempted to ‘tunnel’ cash flow from the second firm to the first one and then to itself, depriving minority shareholders.

Question 15

What is Cross-Holdings?

Answer 15

Cross-holdings arise when firm A owns shares of firm B while Firm B owns shares of firm A
-Can potentially make corporate governance very complicated and ineffective, especially with numerous cross-holdings.