L4: Debt and Incentives Flashcards
Agency costs
Example where use of leverage creates a conflict btw S/H and D/H
“Games” played by shareholders at the expense of creditor
Suppose a levered firm is choosing between two projects with equal NPV, one of which is riskier than the other. Are equity- and debt-holders indifferent between the two?
“Games” played by shareholders at the expense of creditor
Suppose a levered firm is choosing between two projects with equal NPV, one of which is riskier than the other. Are equity- and debt-holders indifferent between the two?
- Consequences
Where do conflicts of interest btw D/H and S/H arise?
Who pays for risk-shifting behaviour?
Do we see the risk-shifting behaviour in practice?
Why can’t we avoid costs of financial distress by renegotiating with creditors?
Do we observe the debt-overhand problem in reality?
What are the implications from the agency conflicts?
Mitigating Asset Substitution
Leverage and Managers - Shareholder conflicts
Debt and Incentives to maximize NPV
JensenandMeckling (1976)
JensenandMeckling (1976): Assumptions
“Effort” Is a Metaphor
Private benefits examples
MM and moral hazard
Investor break-even conditions
Optimality of debt
How to figure out if its best to finance the project with debt or equity
How to handel managerial finance problem?
Agency costs
Limitations of risk shifting potential