Agency Theory & Corporate Governance

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What are the advantages and disadvantages of giving shareholders a larger say in the operations of a firm?

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Giving shareholders more say in the operation of a firm allows for a check on the excesses often seen in American firms with regard to executive pay and benefits packages. It also potentially provides for faster reactions to changing social and political realities as the shareholders are potentially more likely to be representative of average Americans than the firm's executives. This can prevent some missteps that might lead to boycotts or other issues. Finally, the stakeholders may improve conditions for average workers, which may help increase revenues and attract better workers.

The two major disadvantages to increasing shareholder power are that shareholders may not fully understand the business itself, which could lead to detrimental determinations as to the businesses course. Second, many shareholders are short-term investors looking to maximize short term profits, which could hinder long-term viability.

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Shareholder activism has been increasingly in the news in the recent decade, especially in connection with issues having to do with corporate governance. It can have both good and bad effects.

On the positive side, activist shareholders can make corporations more responsible. The combination of independent boards of directors and activist shareholders can restrain the tendency to give astronomical pay and golden parachutes to executives who harm the corporation to maximize their stock options by short term tricks like share buybacks. Activists can also keep a corporation focused on profitability rather than pointless acquisitions or simply growth for its own sake. Shareholders can also hold a corporation to higher standards of ethics and social responsibility, and act as a counterweight against cronyism.

On the down side, shareholders can place too much emphasis on short term profitability and dividends and less on the long term future of a company. 

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