We use cookies to give you the best experience possible. By continuing we’ll assume you’re on board with our cookie policy

Agency Costs and Ownership Structure Essay Sample

The whole doc is available only for registered users OPEN DOC
  • Pages:
  • Word count: 787
  • Category: cost stock

Get Full Essay

Get access to this section to get all the help you need with your essay and educational goals.

Get Access

Agency Costs and Ownership Structure Essay Sample

1. Motivation
a. Draw on property rights, agency and finance to develop ownership structure theory 2. Theory of the Firm: An Empty Box
a. Meet inputs and outputs to maximize profits
3. Property Rights
a. Means “human rights” in this paper
b. Affected by contracts
i. Behavior of managers effected
4. Agency Costs
a. Sum of
i. Monitoring expenditures by the principal
ii. Bonding expenditures by the agent
iii. Residual loss
b. Includes principal – agent relationship and cooperative effort c. Most literature focuses on how to structure contracts between principal and agent to minimize agency costs (maximize principals welfare) 5. Some General Comments on the Definition of the Firm

a. Legal fictions which serve as a nexus for a set of contracting relationships among individuals i. Existence of divisible residual claims on the assets and cash flows of the organization which can generally be sold without permission of the other contracting individuals

The Agency Cost of Outside Equity
1. Overview
a. Compare behavior of manager who owns 100% vs. less than 100% i. Wholly owned he makes operating decisions which maximize his utility 1. Pecuniary returns and non-pecuniary aspects
ii. Manager will expend resources to the point where the marginal utility derived from a dollar’s expenditure equals the marginal utility of additional purchasing power iii. As percent ownership falls, increased monitoring costs 2. Simple Formal Analysis of the Sources of Agency Costs of Equity and Who Bears Them a. Permanent Assumptions on page 314

b. Temporary assumptions on page 314
c. Figure 1
i. The value of the firm and the level of non-pecuniary benefits consumed when the fraction of outside equity is (1-a)V and utility curves representing owner’s indifference curves between wealth and non-pecuniary benefits d. Theorem: for a claim on the firm of (1-a) the outsider will pay only (1-a) times the value he expects the firm to have given the induced change in the behavior of the owner-manager i. The decline on the value of the firm is entirely imposed on the owner-manager 3. Determination of the Optimal Scale of the Firm

a. Figure 2
i. Determination of the optimal scale of the firm in the case where no monitoring takes place 4. The Role of Monitoring and Bonding Activities in Reducing Agency Costs a. Equity holders have ways to reduce managers consumption of perquisites i. Will do this as long as the current value of the monitoring costs is less than the NPV of the savings ii. Managers wealth may increase but will lose some benefits iii. Can lead to an optimal size of the firm

b. Figure 3
i. The value of the firm and level of non-pecuniary benefits when outside equity is (1-a), and U represents owner’s indifference curves between wealth and non-pecuniary benefits and monitoring activities impose opportunity set BCE as the tradeoff constraint facing the owner 5. Pareto Optimality and Agency Costs in Manager-Operated Firms a. Agency costs are non-zero

b. Agency relationship is a non-optimal and wasteful organization structure 6. Factors Affecting the Size of the Divergence from Ideal Maximization a. Magnitude of agency costs will vary from firm to firm

i. Tastes of managers
ii. Ease at which managers can exercise preferences
iii. Costs of monitoring and bonding activities
iv. Cost of measuring managers performance
v. Cost of devising and applying compensation metrics
vi. Cost of behavior rules or policies
b. Constrained by the market for the firm itself
i. Owners can always sell their firm
c. Competition as a limit on managerial misbehavior?
i. Monopoly will permit larger divergences from value maximization is frequently argued 1. Owners will still undertake costs to minimize agency problems

Some Unanswered Questions Regarding the Existence of the Corporate Form 1. The Question
a. Why are millions of people willing to become residual claimants? i. Many other ways to raise capital
1. Bonds
2. Notes
3. Mortgages
b. Many argue that managers do not behave in the interest of stockholders i. Why have non-manager-owed shares not been driven out by fixed claims? 2. Some Alternative Explanations of the Ownership Structure of the Firm a. Limited liability is one of the most important features of equity claims i. It just shifts risk

ii. If shareholders had unlimited liability, it would be spread over many shareholders 1. Shareholders would then have incentive to keep track of both liabilities of GM and wealth of other shareholders 2. Pay creditors a higher interest rate to contract limited liability to shareholders b. The irrelevance of capital structure

i. MM (58) demonstrated that in the absence of bankruptcy costs and tax subsidies on interest, firm value is independent of the financial structure
1. MM (63) demonstrate that tax subsidies would increase the value of the firm ii. Debt was issued prior to the current tax subsidies

iii. Tax subsidies and bankruptcy costs cannot explain preferred stock and warrants

We can write a custom essay

According to Your Specific Requirements

Order an essay

You May Also Find These Documents Helpful

Cost Benefit Analysis

Definition of cost-benefit analysis Cost-benefit analysis is the process of analyzing business decisions. The benefits of a given situation or business related action can be summarized, and then minus the associated costs. Some consultants or analysts have built a model to provide dollar value for intangible assets, For example, the benefits and costs of living in a town will most analysts take into account opportunity...

Standard Costing: Meaning and Objectives

“Standard costing” is a traditional cost accounting method and management tool in which “standard costs are employed to value the overall cost of a production”. A “ Standard cost” can be defined as a “predetermined/estimated future cost of performing an operation, producing a good or offering a service”.  As explained in our workbook, using standard costs enable managers to identify in advance material, labor and...

Management Information Systems

1.What is the relationship between management information systems (MIS) and information technology (IT)? Management information systems (MIS) deals with the coordination and use of information technology. MIS plans for, develops, and manages the use of information technology tools to help people perform tasks related to information processing and management in their personal lives, careers, and/or just for every day actions when working with information. MIS...

Geometry: Integral and Surface Area

* Computation of the surface area, amount and type of needed material and the volume of the package. Volume V= L x H x W = (23 cm) (4 cm) (12cm) = (276) (4) = 1 104 cm Area A= L x W = (23cm) (12cm) = 276cm Surface Area A= 2(Lh) + 2(Lw) + 2(Wh) / 2( lh + lw + wh) = 2(23*4)...

Blue Nile Case Research: Managerial Accounting

1.Blue Nile’s Strategy for success in the marketplace is to increase Blue Nile recognition and create more customer traffic. They want to build a brand loyalty among their customers to encourage repeat purchases. Blue Nile has both online and offline advertising. They offer a wide range of high quality diamonds to appeal to more buyers. Also to keep their pricing competitive. a.I would think that...

Get Access To The Full Essay
Materials Daily
100,000+ Subjects
2000+ Topics
Free Plagiarism
All Materials
are Cataloged Well

Sorry, but copying text is forbidden on this website. If you need this or any other sample, we can send it to you via email.

By clicking "SEND", you agree to our terms of service and privacy policy. We'll occasionally send you account related and promo emails.
Sorry, but only registered users have full access

How about getting this access

Become a member

Your Answer Is Very Helpful For Us
Thank You A Lot!


Emma Taylor


Hi there!
Would you like to get such a paper?
How about getting a customized one?

Can't find What you were Looking for?

Get access to our huge, continuously updated knowledge base

The next update will be in:
14 : 59 : 59
Become a Member