Chapter 29

Question 1

What is corporate governance?

Answer 1

The system of controls, regulations and incentives designed to prevent fraud

Question 2

When do agency conflicts arise?

Answer 2

When the manager does not internalize the full costs of his/her actions

Question 3

What is the role of corporate governance system?

Answer 3

It is to mitigate the conflict of interest without bearing managers with risk

Question 4

What are the tasks of the board of directors?

Answer 4

1. Hiring the executive teams
2. Setting the compensation
3. Approving the major investments and acquisitions
4. Dismissing executives if necassary

Question 5

What are the three types of directors?

Answer 5

1. Inside directors (i.e employees)
2. Gray directors (i.e, indirectly connected to the firm)
3. Outside directors (independent directors)

Question 6

When is a board captured?

Answer 6

When the monitoring duties have been compromised by loyalties to management

Question 7

What were the aims of Sarbanes-Oxley Act (SOX) and Dod Frank Act of 2010?

Answer 7

Improving corporate governance and reducing the likelihood of capture

Question 8

Which other monitors complement the board?

Answer 8

1. Security analysts as they produce independent valuations
2. Lenders via financial covenants
3. Employees are able to detect outright fraud
4. SEC protects the investing public against fraud and stock price manipulation

Question 9

What are the disadvantages of increasing pay-for-performance sensitivity?

Answer 9

1. Increased risk exposure
2. Manipulating the release of financial forecasts
3. Backdating, choosing the grant date of a stock option retroactively

Question 10

How can direct action occur?

Answer 10

1. Shareholders voice, by submitting a resolution that it put to vote ate the annual meeting
2. Shareholder approvel, by voting in favor of or against major actions taken by the board
3. Proxy contests, shareholders introduce an alternative slate of directors for election to the board

Question 11

What is backdating?

Answer 11

Practice of choosing the grant date of a stock option retroactively

Question 12

How did the SOX improved the accuracy of information given to boards and shareholders?

Answer 12

1. Overhauling incentives and independence in the auditing process
2. Stiffening penalties for providing false information
3. Forcing companies to validate their internal financial control processes

Question 13

What was the Dod-Frank act?

Answer 13

1. Requiring US listed firms to be composed of independent board members
2. Allowing only large shareholders to nominate board candidates
3. Requiring firms to provide shareholders with a nonbinding vote on the compensation scheme of any executive incentive compensation
4. Demanding public information to establish policies that allow taking back up to three years of any executive incentive compensation
5. Require companies to disclose the ratio of CEO annual total compensation to that of the median employee

Question 14

How can controlling shareholders make decisions that benefit them over minority shareholders?

Answer 14

1. Dual class shares, thus superior shares
2. Pyramid structure in which they can tunnel the profits towards companies in which they hold the largest share

Question 15

What is the stakeholder model?

Answer 15

Giving explicit consideration to other stakeholders