There are many forces which will tend to create a convergence between the interests of stockholders and managers, and thus cause managers to be interested in maximizing a corporation's profits or value: Show a. Competitive pressures could lead to stock price declines for nonperforming company, and again result in take overs, proxy contest, etc. b. In many corporations, management remunerations are tied to the performance and managers frequently are awarded stock options which gain value as the price of shares rises. Thus, managers will have an interest in maximizing stockholder welfare. c. Corporate shares are not only owned by widely dispersed stockholders but by large institutional holders such as: banks, insurance companies, mutual funds, pension funds, etc. These organizations employ analysts who continually study stock performance. Nonperforming companies would be sold from these institutions' portfolios, and lead to decreased prices of these stocks. This could lead to the dismissal of present management.  Copyright Mark Wilson, Getty Images James Mulva If a company your clients are investing in is doing the following, it may be worth another look at their portfolio. By Chase Hinderstein Selecting companies to invest in is no easy feat. As an investor, you want to be sure that the company’s executives maximize long-term, sustainable wealth for their shareholders. In fact, corporate directors are bound by fiduciary duties and standards which include acting to promote the value of the corporation for the benefit of its stockholders. Today, many people approach investments by buying what they know. But just because the parking lot at your favorite retail store has cars packed to the brim whenever you visit, doesn’t mean that it’s necessarily a good investment. It’s more important to look for strong businesses with a competitive advantage and lasting value. However, there are certain actions of a business that you should look out for to ensure what they’re not doing. If a company you are investing in is doing the following, it may be worth another look at your portfolio. 1. They have a high level of acquisitions. It’s important to keep an eye on companies that make a lot of acquisitions and then break apart and sell off pieces of the acquired company. In these instances, the company is churning assets to create the impression of value, but is just manufacturing short-term shareholder value. In the long term, it is unlikely to benefit shareholders. Before retiring in 2012, ConocoPhillips’ CEO James Mulva took on debt to buy assets around the world. While the claim was that this debt would produce long-term returns, the company was borrowing in a higher rate environment to create assets for the future, only to spin them off to cover their debt. In the process, they sold some assets with the best long-term prospects. This practice manufactured short-term earnings and growth forecasts for the company, leading to greater bonuses and stock rewards for management. However, this is not to say that any acquisition is a red flag for investors. Companies with distinct strategies can make great acquisitions that provide a real return on value. 2. Executives use the company’s shares as currency. When executives use the company’s shares as currency, they are by nature indicating the shares are overvalued. If a company has cash on hand, but chooses to use its stock as currency, it may mean that the shares are worthless. While this is not always the case, it’s important for shareholders to pay attention to how the company plans to use its capital. Insider shareholder activity can also provide insight into whether an executive views their shares as undervalued. When an insider buys shares, this indicates that they think the shares are undervalued. However, selling shares is not the juxtaposition to buying shares. An executive selling shares doesn’t necessarily think the company is overvalued, they may just need the capital. 3. Executives put their own interest ahead of the company’s. Some of the worst offenders are executives who knowingly and purposefully use capital in a way that is contrary to the interests of their shareholders. In one such example, the late Aubrey McClendon was outed as CEO of Chesapeake Energy after a series of conflict-of-interest allegations for giving himself personal access to the most choice oil and natural gas leases up for bid. McClendon had negotiated a deal that let him buy stakes of up to 2.5 percent in wells the company invested in, and he borrowed more than $1 billion from outside lenders to do so. He did this ahead of the interests of the company and its shareholders. Conflicts of interest are not always so blatant, but there are steps that investors can take to make sure that management is acting in their best interests. To monitor potential issues, investors can take part in regular conference calls the company holds and should review previous annual reports and CEO letters to shareholders. Then, look at where they are today and if they were honest and transparent and continued on the path they laid forth. Chase Hinderstein is a Senior Vice President and Senior Portfolio Manager with The Wise Investor Group at Baird in Reston, Va. Why might one expect managers to act in shareholders interest?Managers would act in shareholders' interests because they have a legal duty to act in their interests. Managers may also receive compensation, either bonuses or stock and option payouts whose value is tied (roughly) to firm performance.
How do you motivate managers to act in shareholders best interest?Several mechanisms are used to motivate managers to act in the shareholders' best interests. These in- clude (1) the threat of firing, (2) the threat of takeover, and (3) managerial compensation plans. 1. The threat of firing.
What causes potential conflicts of interest between stockholders and managers?The conflicts between stockholders and the managers of a business include the following: The more money that managers make in wages and benefits, the less stockholders see in bottom-line net income. Stockholders obviously want the best managers for the job, but they don't want to pay any more than they have to.
What is the conflict of interest between shareholders and managers?Such conflicts of interest arise when managers and shareholders have different amounts of cash support-particularly if the cash support of executive structures takes up too much of the corporate budget, resulting in less profit for shareholders.
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