Question

QUESTION 1 (25 MARKS) (UNIT 1)

You are the CEO of a company and you are considering entering into an agreement to have your company buy another company. CEOs shape strategies and often make final M&A decisions. As a CEO, you also consult your CFOs, who help identify acquisition targets, conduct due diligence, arrange financing, and engage in post-deal execution. In other words, CFOs are the Watson to the CEO’s Sherlock. You think the price might be too high and you will be the CEO of the larger combined company. You expect that your pay and prestige will increase. (a) Explain the nature of the agency conflict between owners and managers arises from the above scenario. (15 marks) (b) Discuss how is it related to ethical considerations. (10 marks) [TOTAL MARKS: 25 MARKS]

Answer 1

a.Agency conflict or Agency problem refers to a conflict of interest between a company's owners and its managers.

Here, the CEO who is managing the company on behalf of its owners/shareholders is supposed to take decisions which will maximize the wealth of the owners. As the mentioned M & A deal seems to be priced too high, he should not go for the acquisition of that particular company. But by doing so he will be losing the opportunity of being a CEO for a much larger company with increased pay and prestige. Now, there exists a conflict between the self-interest of the CEO and the interest of the company's owners. This will definitely end up with the CEO choosing the prior.

b. By choosing not to acquire the company, the CEO is making an ethical consideration to fulfill his duty of saving the company from a high priced deal. Companies should consider ethics while making business decisions as people have much more positive view towards such companies. In order to ensure that employees make such ethical considerations companies form a ethical code or framework which can be referred while making important business decisions.