International finance ch 4

The formula to compute the value of the "block premium" is

(Price per share paid for the control block-the exchange price after the control transaction)/the exchange price after the announcement of the control transaction

Suppose Mr. Lee and his relatives hold 30 percent of shares outstanding of Samsung Life, which in turn holds 20 percent of Samsung Electronics. What is the cash flow right of the Lee family in Samsung Electronics?

6 percent 30% x 20%

Many companies issue shares with differential voting rights, deviating from the one-share one-vote principle.

By accumulating superior voting shares, investors can acquire control rights exceeding cash flow rights.

Where is concentrated ownership common? Multiple select question. United States Europe Asia

Europe Asia

True or false: The legal analysis of corporate governance predicts that investor protection should have no effect on the development of external capital markets.

False

Concentrated corporate ownership is most prevalent in

Italy.

Which of the following is true regarding leveraged buy-outs (LBOs)?

LBOs involve managers or buyout partners acquiring controlling interests in public companies (usually financed by heavy borrowing), and concentrated ownership and high levels of debt associated with LBOs are the mechanism for solving the agency problem.

Why do managers tend to retain free cash flow?

Managers may not be acting in the shareholders best interest, and for a variety of reasons, want to use the free cash flow.

Which of the following falls under the purview of corporate governance? Multiple select question. Maximize shareholder wealth Curb managerial excesses Protecting shareholders rights

a. Protecting shareholders rights b. Curb managerial access

Sarbanes-Oxley Act of 2002

applies to listed companies.

Regarding corporate governance systems, in Germany and Japan ______ play the central role of corporate governance.

banks and a few permanent large shareholders

The key to extracting private benefits of control that are not shared by other shareholders on a pro rata basis is to

become a large shareholder and acquire control rights exceeding cash flow rights.

Companies domiciled in countries with weak investor protection can reduce agency costs between shareholders and management

by listing their stocks in countries with strong investor protection.

The Sarbanes-Oxley Act requires corporate officers to ______. Multiple select question. sign off on the firm's financial statements return any bonuses in cases of fraud limit their compensation and stock options personally prepare all financial statements

c. return any bonuses in cases of fraud d. sign off on the firm's financial statements

In many countries, hostile takeovers are relatively rare. This is so partly because of

concentrated ownership in these countries, as well as cultural values and political environments disapproving hostile corporate takeovers.

For firms with free cash flows,

debt can be a stronger mechanism than stocks for credibly bonding managers to release cash flows to investors.

In Germany, the corporate board is

legally charged with looking after the interests of stakeholders (e.g., workers, creditors, etc.) in general, not just shareholders.

Unless investors can derive significant private benefits of control,

they will not pay substantial premiums for voting shares over nonvoting shares.

In the United Kingdom, the majority of public companies

voluntarily abide by the Code of Best Practice on corporate governance.

The economic, legal, and institutional framework in which corporate control and cash flow rights are distributed among shareholders, managers, and other stakeholders of the company is referred to as

Corporate governance

Following the subprime mortgage crisis and the bailout of large financial institutions with taxpayers' money, the U.S. Congress passed the ______ Wall Street Reform and Consumer Protection Act in July 2010.

Dodd-Frank

The strongest protection for investors is provided by

English common law countries, such as Canada, the United States, and the U.K.

When company ownership is diffuse,

a "free rider" problem discourages shareholder activism and few shareholders have a strong enough incentive to incur the costs of monitoring management.

Free cash flow refers to

a firm's funds in excess of what's needed for undertaking all profitable projects.

What are remedies for the agency problem? Multiple select question. Independent board of directors Accounting transparency Concentrated ownership Elimination of debt

a. Concentrated ownership c. Accounting transparency d. Independent board of directors

Which companies were involved in corporate scandals that led to the Cadbury Code of Best Practice? Multiple select question. Marks & Spencer Ferranti BCCI Thomson Reuters

a. Ferranti b. BCCI

What are positive effects of debt in reducing the agency problem? Multiple select question. It forces managers to disgorge cash flows to investors. Debt does not allow managerial discretion as is the case for dividends. It may cause the risk-averse managers to forgo profitable but risky investment projects. It increases the stability of the company in turbulent times.

a. It forces managers to disgorge cash flows to investors. c. Debt does not allow managerial discretion as is the case for dividends.

That managers of a public corporation often pursue their own interests rather than the interests of the shareholders is referred to as the ______ problem.

agency

In the graph, X, Y, and Z represent

alignment, entrenchment, alignment.

A complete contract between shareholders and managers would specify exactly what the manager will do under each of all possible future contingencies. all of the options would be an expensive contract to write and a very expensive contract to monitor. would eliminate any conflicts of interest (and managerial discretion).

all of the options

Benetton, an Italian clothier, is listed on the New York Stock Exchange. This decision provides their shareholders with a higher degree of protection than is available in Italy. This decision can be a signal of the company's commitment to shareholder rights. This may make investors both in Italy and abroad more willing to provide capital and to increase the value of the pre-existing shares. all of the options

all of the options

Even though compliance with the Cadbury Code of Best Practice is voluntary, the job security of U.K. chief executives has become more sensitive to the company performance, strengthening managerial accountability and weakening its entrenchment. joint CEO/COB (chief executive officer and chairman of the board) positions declined. all of the options the Cadbury Code has made a significant impact on the internal governance mechanisms of U.K. companies.

all of the options

What are the consequences of weak investor protections? Multiple select question. Conflicts of interest between large and small investors Concentrated ownership of equity Free riding of many small investors Larger numbers of public companies

c. Conflicts of interest between large and small investors d. Concentrated ownership of equity

Which statements are true with regard to the Cadbury Code of Best Practice? Multiple select question. Firms not in compliance can be fined up to 2.5% of annual revenue. It has not had a significant impact on British corporate boards. It says that the CEO and board chairman should be different people. It specifies that boards of directors of public companies include at least three outside directors.

c. It specifies that boards of directors of public companies include at least three outside directors. d. It says that the CEO and board chairman should be different people.

In the United States and the United Kingdom, hostile takeovers

can serve as a drastic corporate governance mechanism of the last resort.

Following the adoption of the Cadbury Code of Best Practice joint CEO/COB positions declined

from 37 percent of the companies before the adoption to 15 percent afterwards.

The Sarbanes-Oxley Act of 2002

has had the consequence that many foreign firms have de-listed in the U.S. exchanges and listed their shares on the London Stock Exchange and other European exchanges.

In countries with concentrated ownership,

hostile takeovers are quite common.

The Dodd-Frank Act was passed

in 2010.

Many companies provide managers with ______ contracts, such as stocks and stock options, to align the interests of managers with those of investors.

incentive

The separation of the company's ownership and control,

is especially prevalent in such countries as the United States and the United Kingdom, where corporate ownership is highly diffused.

Concentrated ownership of a public company

is relatively rare in the United States and common in many other parts of the world.

When designing an incentive contract,

it is important for the board of directors to set up an independent compensation committee that can carefully design the contract and diligently monitor manager's actions.

In a public company with diffused ownership, the board of directors is entrusted with

monitoring the management and safeguarding the interests of shareholders.

A study on corporate governance in the United Kingdom by Dahya, McConnell, and Travlos (2002) found that board of directors is more likely to appoint an _______ CEO after an increase in outsiders' representation on the board.

outside

The objective of governance reform should be to strengthen the protection of ______ from expropriation by ______.

outside investors; managers and controlling insiders

Unless investors can derive significant ___________, they will not pay substantial premia for voting shares over nonvoting shares.

private benefits of control

The agency problem refers to the possible conflicts of interest between

self-interested managers as agents and shareholders of the firm who are the principals.

The major components of the Sarbanes-Oxley Act include all of the following except

shareholder voting rights reform: "One share one vote" is now the law of the land.

The investors supply funds to the company but are not involved in the company's daily decision making. As a result, many public companies come to have

strong managers and weak shareholders.

If a company continually performs poorly and all of its internal governance mechanisms fail to correct the problem, an outsider may attempt a(n) ______ bid.

takeover

If an incentive contract specifies certain accounting performance,

that accounting number will likely be the focus of managers.

In many countries with concentrated ownership

the conflicts of interest are greater between large controlling shareholders and small outside shareholders than between managers and shareholders. Correct

The public corporation has a key weakness which is

the conflicts of interest between managers and shareholders.

English common law countries tend to provide a stronger protection of shareholder rights than French civil law countries because

the former countries tend to protect property rights better than the latter.

The genius of public corporations stems from their capacity to allow efficient sharing or spreading of risk among many investors, who can buy and sell their ownership shares on liquid stock exchanges and let professional managers run the company on behalf of shareholders. This risk sharing stems from

the limited liability of shareholders.

Tobin's Q is

the ratio of the market value of company assets to the replacement costs of the assets. MV/RC

In high-growth industries where companies' internally generated funds fall short of profitable investment opportunities,

managers are less likely to waste funds in unprofitable projects.

The private benefits of control are largest where the rights of _____ shareholders are ______ protected.

minority; not well

Accounting transparency

promises to reduce the information asymmetry between corporate insiders and the public.

The right to make decisions under those contingencies that are not specifically covered by a contract are referred to as ______ control rights.

residual

Match the corporate board structure description with the appropriate country.

Germany: Has a codetermination system requiring that workers be represented with boards legally charged with representing the interests of stakeholders Japan: Insider-dominated and primarily concerned with the welfare of the keiretsu to which the company belongs United Kingdom: Voluntarily adhere to the Code of Best Practice that there be at least three outside directors and that the board chairman and the CEO be different individuals.

What are positive effects of equity (vs. debt) in the capital structure? It legally compels managers to disgorge cash flows to investors. It does not create the incentive for risk-averse managers to forgo profitable but risky investment projects. Equity does not allow managerial discretion as is the case for coupon payments. It increases the stability of the company in turbulent times.

It increases the stability of the company in turbulent times. It does not create the incentive for risk-averse managers to forgo profitable but risky investment projects.

What are reasons that financial development can promote economic growth? Multiple select question. Expropriation by insiders is reduced. Saving becomes more attractive relative to consumption. Investors can charge a high price for funds. Savings are allocated more efficiently.

Savings are allocated more efficiently. Saving becomes more attractive relative to consumption. Expropriation by insiders is reduced.

Which of the following is not an example of an incentive contract?

Seasonal bonus

The objective of corporate governance reform should be what?

Strengthen the protection of outside investors from expropriation by managers and controlling insiders.

Suppose you are the CEO of company A, and you serve on the board of company B, while the CEO of B is on your board.

This is a potential conflict of interest for both parties.

Countries where hostile takeovers are relatively more common include which of the following? Multiple select question. United Kingdom Germany Japan United States

United Kingdom United States

The prohibition of proprietary trading by deposit-taking banks is the ______ Act, named for the former Federal Reserve Chair.

Volker

Financial development can contribute to economic growth in what way(s)? Financial development enhances savings. Financial development channels savings toward real investments in productive capacities. Financial development enhances the efficiency of investment allocation through the monitoring and signaling functions of capital markets. all of the options

all of the options

Following the adoption of the Cadbury Code of Best Practice, joint CEO/COB (chief executive officer and chairman of the board) positions declined. there has been a significant impact on the internal governance mechanisms of U.K. companies. CEOs have become more sensitive to company performance, strengthening managerial accountability and weakening managerial entrenchment. all of the options

all of the options

In the United States, due to the diffused ownership structure of the public company, management often gets to choose board members who are likely to be friendly to management. all of the options boards of directors are legally responsible for representing the interests of the shareholders. there is a correlation between underperforming firms and boards of directors who are not fully independent.

all of the options

In the United States, it is well documented that boards dominated by their chief executives are prone to trouble. public scrutiny can help improve corporate governance. as public firms improve their corporate governance, the stock price goes up. all of the options

all of the options

It is important for society as a whole to solve the agency problem, since the agency problem regards economic growth. hampers capital market functions. leads to waste of scarce resources. all of the options

all of the options

The Cadbury Code has not been legislated into law, and compliance with the code is voluntary. This "comply or explain" approach has apparently persuaded many companies to comply rather than explain. all of the options Currently, 90 percent of all LSE-listed companies have adopted the Cadbury Code. However, the London Stock Exchange (LSE) currently requires that each listed company show whether the company is in compliance with the code and explain why if it is not.

all of the options

The key strength(s) of the public corporation is/are their capacity to allow efficient risk sharing among many investors. their capacity to raise large amounts of funds at relatively low cost. their capacity to consolidate decision-making. all of the options

all of the options

When managerial self-dealings are excessive and left unchecked, they can have serious negative effects on share values. they can impede the proper functions of capital markets. they can impede such measures as GDP growth. all of the options

all of the options

When managerial self-dealings are excessive and left unchecked, they can impede the proper functions of capital markets. they can have serious negative effects on share values. all of the options they can impede such measures as GDP growth.

all of the options

In the reality of corporate governance at the turn of this century, managers of one firm often sit on the boards of other firms, whose managers are on the board of the first firm. Due to the interlocking nature of these boards, there can exist a culture of "I'll overlook your problems if you overlook mine." a typical board of directors often has relatively few outside directors who can independently and objectively monitor the management. all of the options have been true to a greater or lesser extent in the recent past. boards of directors are often dominated by management-friendly insiders.

all of the options have been true to a greater or lesser extent in the recent past.

Comparing the U.S. with the German and Japanese corporate governance systems, the U.S. system is "market centered." the German and Japanese systems are "bank centered." it seems fair to say that no country has a perfect system. all of the options. Correct

all of the options.

Weaknesses of the Sarbanes-Oxley Act include which of the following? Multiple select question. There has been less management of earnings. Compliance is costly, particularly for small firms. Board members are less likely to be corporate insiders. Foreign firms have chosen to list on the London stock exchange instead of U.S. exchanges.

b. Compliance is costly, particularly for small firms .c. Foreign firms have chosen not list on U.S. exchanges.

Suppose in order to defraud the shareholders, a manager sets up an independent company that he owns and buys one of the main company's inputs of production from this company. He would be tempted to set the transfer price

below market prices.

Suppose in order to defraud the shareholders, a manager sets up an independent company that he owns and sells the main company's output to this company. He would be tempted to set the transfer price

below market prices.

That outside directors are associated with a higher turnover rate of CEOs following poor firm performance is evidence that they can reduce managerial ______.

entrenchment

While debt can reduce agency costs between shareholders and management,

excessive debt may also induce the risk-averse managers to forgo profitable but risky investment projects, causing an underinvestment problem. Additionally, with debt financing, companies can misuse debt to finance corporate empire building.

Several studies document the empirical link between

financial development and economic growth.