Dr.Samson Maharana

1. Wealth Maximization and
Stake holder's Conflict
Stake Holders of A Company
•Shareholders
•Bondholders
•Management
•Society
•Employees
•Vendors
•Customers
•Government
•Regulators

2. Ideal Scenario for Stock Price
Maximization
Shareholders
• Company maximizes shareholders wealth
• Shareholders hire and fire management
Bondholders
• Lend money to Company
• Company protects the interest of the
lenders

3. Society
• Company does not create any social cost
• Cost if any can be traced to the firm
Financial Market
• Markets are efficient and assess the
effects of news on the value

4. Real World Scene
Shareholder
• Managers put managerial interest over
shareholders interest
• Shareholders have little control over
management
Bondholders
• Bondholders lend money
• Hurt by shareholders action

5. Society
• There is large social cost
• It cannot trace social cost to firms
Financial Markets
• Markets are volatile, short term and make
mistakes
• Delayed and misleading information

6. Regulated Scene
Shareholders
• Managers think like shareholders
• Stock based compensation, hostile
takeovers and active investors
Bondholders
• Lend Money
• Protect them with covenants and
innovations

7. Society
• Reduced Social Cost
• Laws and restrictions, investors/customers
backlash
Financial Market
• More liquid markets with reduced
transaction costs
• More external information and active
analysis

8. Management Vrs. Shareholders
Diversified Risk for Shareholders
• Limited Liability
• Representative Management
• Liquidity of investment through market trading
Total Risk for Management
Not Transferable
Trusteeship Relationship
Principal and Agent Relationship

9. Conflict Between Management and Shareholders
Opportunity to Management to Increase their
Compensation
1. Excessive Consumption of Perquisites
2. Manipulation of earnings and dividends (when
compensation is in the form of share)
3 Maximizing the size of the firm rather than it’s value
( compensation and size are normally related)
4 Siphoning the Corporate Assets (by setting shell
companies )

10. Opportunity to management to decrease the riskiness of
their employment income
1. Excessive Diversification
2. Bias towards investment in near term payoffs
3. Underemployment of debt
4. Management Entrenchment (investing in their own
area of competencies thus making it difficult to through
them out)
5 Golden Parachute in the employment contract
6 Inclusion of Poison Put in the bond contract
7 Trying to check the attempts of active investors
(trying to purchase a majority of shares)
Share buy back, allow passive investors to buy more
shares through div reinvestment plan

11. Conflict Resolution-Reducing the
Agency Problems
• Making managers think more like
shareholders
-Employee stock option scheme
-Warrants on stock
• More Effective Board of Directors
-Smaller Boards
-More independent directors( 50%)

12. -Directors’ compensation more in terms of
stock and less in cash
-Directors’ selection not by choice but by a
nomination committee
• Increasing Stockholder’s power
Provides stockholders with better and
more updated information about the
company, Making large shareholders
becoming part of the management,to have
more institutional stockholders in the
board

13. Conflict of Interest between
Stockholders and Bondholders
Three types of actions leading to transfer
wealth from bondholders to the
stockholders
• Investment in Risky Business
• Payment of Higher Dividend
• High leverage Buyout

14. How can the Bondholders Obtain Partial Protection
against the Actions of the Stockholders?
1. Restrictions on Investment Policy
Where to invest? How much to invest?
Incase of violation, veto power
Some possible adverse impact of the
restrictions
Possibility of turning down profitable
projects,higher monitoring and legal costs due
to the constraints,demand for higher interest
rate by the bondholders

15. 2 Taking on the Equity Route
Attempting to become equity shareholders
through
-Buying equity stake in the firm at the
same time while lending money
-Making the bonds convertible at the
option of the bondholders
3 Bond Innovations
Puttable Bonds
Bonds with extra return