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Quiz #2

Terms in this set (10)

Which of the following is not a common method used to align managerial incentives to those of the investor?

Higher base salary
Restricted stock grants
Stock options
Required share ownership
Higher base salary

Because the base salary doesn't change, regardless of effort or effectiveness, it is not an effective mechanism for reducing agency problems.
Which of the following is not true regarding institutional shareholdings.

Institutional ownership concentrates ownership, making it harder to replace management.
Institutions have greater incentive to monitor the firm based on higher shareholdings.
Institutions have more expertise in monitoring that common shareholders.
Institutional ownership has been shown to make corporate control changes more likely.
Institutional ownership concentrates ownership, making it harder to replace management.

Correct. More concentrated ownership means fewer people have to collaborate in order to make changes. Blockholder ownership reduces agency problems.
Which of the following is an example of moral hazard?

Your son demands that you drive above the speed limit because he is late for school.
Going to Las Vegas and placing a bet on a football game.
Buying a dress you like online from an unknown manufacturer.
Eating at a new restaurant for the first time.
Your son demands that you drive above the speed limit because he is late for school.

Because your son isn't the one who has to pay for a potential ticket, his demand is creating moral hazard.
Which of the following would be most effective in reducing agency costs within a firm?

Requiring managers to buy stock in the firm.
Limit outsiders from owning more than 1% of the company's shares.
Remove outside directors from the board and replace with executives of the firm.
Refuse to answer analyst's questions to reduce negative media.
Requiring managers to buy stock in the firm.

This does help align incentives between managers and shareholders.
Which of the following is not an effective tool in reducing agency problems in a firm?

Increased foreign ownership
Increased blockholder ownership.
Higher compensation from restricted stock grants.
Increased analyst coverage of the firm.
Increased foreign ownership

Correct. Foreign versus domestic ownership has not been found to improve corporate governance.
Which of the following statements are true regarding the board of directors?

The audit and compensation committees must be chaired by outsiders.
Boards are more effective when the same person acts as the CEO and Chairman of the board.
Firms are more likely to pursue their own interests when there is a higher percentage of outsiders on the board.
All corporations are required to audit their financial statements annually.
The audit and compensation committees must be chaired by outsiders.

Correct. In most cases, these committee will be made up entirely of outsiders on the board, but must be majority outsider and chaired by an outsider.
Which of the following is an example of adverse selection?

Hiring a new babysitter to watch your children.
Flying first class instead of coach when the company is paying for the ticket.
Watching re-runs of your favorite TV show.
Going to Las Vegas and betting that the roulette will lands on red.
Hiring a new babysitter to watch your children.

Correct. You don't know how much effort they will put into the job.
Which of the following is not a responsibility of the board of directors.

Deciding on a new promotional campaign.
Setting strategic direction for the firm.
Hire, evaluate and compensate management.
Ensure that adequate financing exists for management to meet company objectives.
Deciding on a new promotional campaign.

Correct. This would be a decision of management towards achieving goals set by the board of directors.
Which of the following is not a technique used to forecast growth when creating financial projections?

Percentage of sales method
The top-down approach
The bottom-up approach
The sustainable growth ratio
Percentage of sales method

This is a common assumption for estimating values in the projections, but not the initial value of sales growth.
What action is not useful in reducing information asymmetry in order to reduce the impact of adverse selection on your product?

Posting reviews of the product on the website where you control the content.
Providing a warranty against bad outcomes.
Providing information on the history of a product or its quality.
Requesting a third party to collect feedback from prior customers and publicly report it.
Posting reviews of the product on the website where you control the content.

Because you control which information is being shown to potential customers, this isn't an effective solution. All the comments could be "cheap talk", as there is no cost to the signal.
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