Economics

Corporate Finance

1. Agency Conflicts and Corporate Governance 2. Ownership Around the World 3. Initial Public Offerings in International Markets 4. Dividends 5. Corporate Restructurings

Prof. Florencio Lopez de Silanes

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Corporate Finance

Agency Conflicts and Corporate Governance

Prof. Florencio Lopez de Silanes

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Road Map

Introduction. Taxonomy of Agency Conflicts and Tunneling. Evidence of Agency Costs. Solutions to the Agency Problem.

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What is the Agency Problem?

M&M securities are akin to the slices of a pizza Debt receives coupon and principal. Equity gets dividends. No role for control/power/authority. Something is missing. they carve out cash flows:

Agency Hypothesis Shareholders may not be best qualified to run the firm require specialized knowledge shareholders (“principals”) hire a CEO (“agent”). CEO may not have sufficient financial resources to own the firm / may want a diversified portfolio. The separation of ownership and control is efficient.

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What is the Agency Problem?

Grossman & Hart: Shareholders do not have full control over the CEO because they cannot write a complete contract (too many contingencies). The CEO has some control rights (ie, has discretion) → can pursue goals other than maximizing shareholders wealth. The separation of ownership and control is efficient but costly. Next, we consider different examples of agency problems.

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Agency Conflicts / Tunneling

The term “tunneling” was first used to characterize the expropriation of minority shareholders in Czech Republic—as in removing assets through an underground tunnel—to describe the transfer of assets and profits out of firms for the benefit of those who control them. Reported incidents of tunneling are not restricted to the Czech Republic. Some recent examples include: “Argentine Small Holders Get No Respect”—WSJ 8/31/99. “Behind Enron’s Fall…Hidden Deals with Officers and Minimal Disclosure Finally Cost is its Trust ”— WJS 12/05/01...