1. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. Global Business 2e C ha p t e r 16 Financing and Governing the Corporation Globally

2. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. LEARNING OBJECTIVES After studying this chapter, you should be able to: 1.Outline the two means of financing: equity and debt. 2.Differentiate among the various ownership patterns around the world. 3.Understand the role of managers in both principal-agent and principal-principal conflicts. 4.Explain the role of the board of directors. 5.Identify voice-based and exit-based governance mechanisms and their combination as a package. 6.Explain how governance mechanisms vary around the world. 7.Describe how institutions and resources affect corporate finance and governance. 8.Participate in two leading debates on corporate finance and governance. 9.Draw implications for action.

3. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. FINANCING Financing How a firm’s money, banking, investments, and credit are managed

4. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. CORPORATE GOVERNANCE Corporate governance The relationship among various participants in determining the direction and performance of corporations

5. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

6. EQUITY AND DEBT Equity Stock in a firm (usually expressed in shares), which represents the owners’ rights to the value of the firm Shareholders Firm owners Debt A loan that the firm needs to pay back at a given time with an interest

7. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. EQUITY AND DEBT Bond Loan issued by the firm and held by creditors Bondholders Creditors of bonds Default When a bond is not paid back

8. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. COST OF CAPITAL Cost of capital Rate of return that the firm needs to pay to capital providers Cross-listing Listing shares on a foreign stock exchange

9. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

10. OWNERS Concentrated ownership and control When founders of a start up firm completely owns and control the firm Diffused ownership Numerous small shareholders but none with a dominant level of control Separation of ownership and control Ownership is dispersed among many small shareholders and control is largely concentrated in the hands of salaried, professional managers who own little (or no) equity

11. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. OWNERS The vast majority of large firms throughout continental Europe, Asia, Latin America, and Africa feature concentrated family ownership and control, which has both advantages and disadvantages. Other than families, the state is another major owner of firms in many parts of the world. State-owned enterprises (SOEs) suffer from an incentive problem.

12. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. MANAGERS Top management team (TMT) Team consisting of the highest level of executives of a firm led by the CEO Chief executive officer (CEO) Main executive manager in charge of the firm Agency relationship Relationship between shareholders and professional managers

13. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. PRINCIPAL-AGENT CONFLICTS Principals Owners or those who delegate authority Agents Managers or those to whom authority is delegated Agency theory Suggests the extent that the interests of principals and agents do not completely overlap, there inherently will be conflicts

14. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. PRINCIPAL-AGENT CONFLICTS Principal-agent conflicts When the interests of principals and agents do not completely overlap and result in a conflict of goals Agency costs (1) principals’ costs of monitoring and controlling agents (2) agents’ costs of bonding (signaling that they are trustworthy)

15. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. PRINCIPAL-AGENT CONFLICTS Information asymmetries Agents almost always know more about the property they manage than principals do

16. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. PRINCIPAL-PRINCIPAL CONFLICTS Principal-principal conflicts When the primary conflicts are between two classes of principals: controlling shareholders and minority shareholders

17. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

18. PRINCIPAL-PRINCIPAL CONFLICTS Expropriation Activities that enrich controlling shareholders at the expense of minority shareholders Tunneling Divert resources from the firm for personal or family use

19. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. PRINCIPAL-PRINCIPAL CONFLICTS Related transactions Controlling owners sell firm assets to another firm they own at below-market prices or spin off the most profitable part of a public firm and merge it with another private firm they own

20. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

21. BOARD OF DIRECTORS Board composition Insider/outsider mix on a board of directors Inside directors Top executives of the firm who are on the board of directors Outside directors Nonmanagement members of the board

22. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. LEADERSHIP STRUCTURE CEO duality CEO doubles as a ch airman ? If you were looking for candidates to serve on a Board of Directors, what qualities would you look for?

23. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. ROLE OF BOARDS OF DIRECTORS The ability to effectively control managers boils down to how independent directors are. Outside directors who are personally friendly and loyal to the CEO are unlikely to challenge managerial decisions. Directors are not at risk if they fail to protect shareholder interests. Courts usually will not second- guess board decisions in the absence of bad faith or insider dealing. Directors are often protected from the consequences of bad decisions. Directors who challenge management are outside the norm. When directors “stick their necks out” by confronting the CEO in meetings to raise a point, nobody picks it up.

24. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. INTERNAL (VOICE-BASED) GOVERNANCE MECHANISMS Voice-based mechanisms Shareholders’ willingness to work with managers, usually through the board, by “voicing” their concerns Shareholder capitalism Managers become much more focused on stock prices

25. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. EXTERNAL (EXIT-BASED) GOVERNANCE MECHANISMS Exit-based mechanisms Shareholders no longer have patience and are willing to “exit” by selling their shares

26. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. MARKET FOR CORPORATE CONTROL Three findings have emerged: On average, shareholders of target firms earn sizable acquisition premiums. Shareholders of acquiring firms experience slight but insignificant losses. A substantially higher level of top management turnover follows M&As.

27. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part. MARKET FOR PRIVATE EQUITY Private equity Equity capital invested in private companies that, by definition, are not publicly traded. Leveraged buyout (LBO) A means by which investors, often in partnership with incumbent managers, issue bonds and use the cash raised to buy the firm’s stock.

28. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

31. CORPORATE FINANCE AND GOVERNMENT DEBATES Managerial human capital Top managers and directors are regarded as valuable, rare, and hard-to-imitate firm specific resources Stewardship theory “Pro-management” theory that suggests that most managers can be viewed as owners’ stewards

32. © 2011 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.