Question 1: a.
Principal-agent conflicts between owners and managers because the interests of managers are not generally aligned with those of owners. The ownersÃÂ¡ÃÂ¯ interests are to maximize their own wealth. The managers are their agents, hired to make decisions on the ownerÃÂ¡ÃÂ¯s behalf. They only own small fraction of the firmÃÂ¡ÃÂ¯s equity, which provides them with little incentive to maximize firmÃÂ¡ÃÂ¯s value. So, facing the very little equity owned, the managers have strong incentives to consume perquisites. If significant benefits associated with the control of a corporation, including a large salary, office perquisites, and prestige, those self-interested managers will bias their decisions about the firmÃÂ¡ÃÂ¯s financing and investments to preserve their control and enhance their benefit. Such as managers may choose for the firm to invest in projects where the managerÃÂ¡ÃÂ¯s personal relationships with other parties to the project are critical to the projectÃÂ¡ÃÂ¯s successful completion. The manager at the retiring age might not be willing to take a big long-term +NPV investment project if their bonus, stipend scheme is closely related to the performance of the year.
The huge initial investment might influence current yearÃÂ¡ÃÂ¯s profitability, which results the decrease in the managerÃÂ¡ÃÂ¯s income. As above, in making decisions, managers would make trade off among three constituencies. They would not try to maximize shareholder value only. Consequently, the conflicts between the parties occur.
b. (i) Monitoring by financial institutions. Bank debt is widely held, it can eliminate the free-rider problems especially in reducing the free-rider problem with respect to monitoring the firmÃÂ¡ÃÂ¯s management. Also it makes the bank has strong incentive to monitor the firmÃÂ¡ÃÂ¯s performance, which indirectly reduces owner-manager agency costs.
(ii) Monitoring by large ÃÂ¡ÃÂ°block-holders.ÃÂ¡ÃÂ± Large shareholders have sufficient incentive to actively monitor firm management and also have better and cheaper access to information about...