LOS a: Explain the ways in which management may act that are not in the best interest of the firm's owners (moral hazard) and illustrate how dysfunctional corporate governance can lead to moral hazard.

Q1. Which of the following statements regarding corporate governance is least accurate?

A)   Managers use accounting manipulations to their benefit.

B)   The cross holding of shares in Asia has enabled managers to more effectively thwart takeovers.

C)   Shareholders would prefer managers reject hostile takeovers.

Q2. Which of the following statements regarding inadequacies in corporate governance is least accurate?

A)   If managers were paid using stock-based compensation, the level of executive pay could be reduced.

B)   Stock prices often drop when investments are announced.

C)   Shareholders are often ignorant of managerial compensation details.

Q3. Which of the following statements regarding corporate governance is least accurate?

A)   European laws have helped managers avoid takeovers.

B)   Recent financial scandals have focused mostly on managers’ insufficient effort.

C)   Moral hazard problems occur because the owners of the firm often have a distant relationship with the firm’s management.

LOS a: Explain the ways in which management may act that are not in the best interest of the firm's owners (moral hazard) and illustrate how dysfunctional corporate governance can lead to moral hazard. fficeffice" />

Q1. Which of the following statements regarding corporate governance is least accurate?

A)   Managers use accounting manipulations to their benefit.

B)   The cross holding of shares in ffice:smarttags" />Asia has enabled managers to more effectively thwart takeovers.

C)   Shareholders would prefer managers reject hostile takeovers.

Correct answer is C)

Managers may engage in entrenchment strategies to keep their jobs. As an example, managers may resist hostile takeovers that would result in the loss of their job, even when the takeover would benefit shareholders. Most hostile takeovers benefit shareholders because a higher price is received for their stock in the takeover.

Q2. Which of the following statements regarding inadequacies in corporate governance is least accurate?

A)   If managers were paid using stock-based compensation, the level of executive pay could be reduced.

B)   Stock prices often drop when investments are announced.

C)   Shareholders are often ignorant of managerial compensation details.

Correct answer is A)

The level of managerial compensation has grown beyond what many consider reasonable. However, this growth is partly due to performance-based compensation. The higher the performance, the greater the payoff from stock and stock option compensation. Stock prices often drop when investments are announced because managers often misuse funds in value wasting projects.

Q3. Which of the following statements regarding corporate governance is least accurate?

A)   European laws have helped managers avoid takeovers.

B)   Recent financial scandals have focused mostly on managers’ insufficient effort.

C)   Moral hazard problems occur because the owners of the firm often have a distant relationship with the firm’s management.

Correct answer is B)

Recent scandals have focused mostly on self-dealing (e.g., plush office decorations) rather than less obvious management deficiencies (e.g., insufficient effort) because it is much more visible and easier to prove.

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