Separation Of Ownership And Management In Large Corporations 4e2d3x

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Separation of Ownership and Management in Large Corporations 1. Introduction A small group of investors can directly manage a firm they own when it is initially established. As the firm grows, new shares need to be issued to raise more capital, eventually its shares may be able to be traded in public markets. A large public corporation can have hundreds of shareholders who are all the owners of the corporation. It is not realistic that all of them can directly manage the company. Therefore, the separation of ownership and management always exists in large corporations. This separation benefits the corporation, at the same time, it causes some tough problems as well. In this study, the main implications of the separation of ownership and management are discussed. And also, various options available to shareholders in dealing with the negative issues are evaluated. The reminder of the essay contains following contents: Section 2 describes the implications of the separation of ownership and management. Section 3 presents the evaluation of different options available to shareholders. Section 4 concludes.

2. Implications of Separation of Ownership and Management 2.1 Positive Implications First of all, the separation of ownership and control makes corporations sustainable or permanent (Brealey et al., 2011). The ownership can be easily transferred to another shareholder without disturbing the operation. The corporation also can continue even if managers quit or be replaced. Secondly, the corporation can be managed by a team of professionals. When a corporation grows, the owners may not have all the necessary skills to manage the company. Employing professional managers can diverse skills to make sure that the corporation is on tis right way. Thirdly, capital utilization can be maximized. Every shareholder has own preference on investments. It is managers' job to find the optimal investment. Managers should be able to find ways in which business assets are managed to gain the highest profit for all shareholders.

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Finally, managers act as balances between shareholders. They may have to eliminate the negative impact on the corporation due to some of the shareholders. They should be able to lessen losses of other shareholders as a result of the actions of another shareholder. 2.2 Negative Implications The main negative implication of the separation of ownership and control is the principle agency problem. All the advantages brought by the separation of ownership and control are based on one expectation. It is that the managers act on the behalf of shareholders' interests. Because it is the shareholders who have ultimate control of the company and who have the power to choose the management of the company. Managers should pursue the goal of maximizing shareholders' wealth. However, in reality, the situation is not like this. Because of the separation of ownership and management, shareholders cannot control what managers do except indirectly through the board of directors. Managers may make decisions that can benefit themselves instead of the shareholders. For example, managers may want to maximise short-term profits in order to earn bonuses while the shareholders may focus on the long-term development of the corporation. The imperfect and asymmetric information causes conflicts. The conflicts between shareholders and managers refer to principle agency problems. When managers do not attempt to maximize firm value and shareholders incur costs to monitor the managers, agency costs incurred (Brealey et al., 2011). The agency costs are not good things for shareholders. Even worse is that agency problems can sometimes lead to astonishing scandals that adversely affect the corporation and the shareholders. Agency problems widely exist in large corporations. A commonly accepted theory suggests that managers will shirk their responsibilities and use their position for their interests at shareholders' expenses when given opportunity. A study done by Kroll, Wright and Theerathorn in 1993 provide additional evidence shows that managers will be more likely to absorb selfish benefits when they have

3/5 discretionary control over the corporation. Even though some managers do better in controlling costs and maximizing shareholders' profit they may still lavish some savings on themselves. Furthermore, agency problems also have a negative impact on the society. There is an argument says that the separation of ownership and management occurred with diffusion of stock ownership in large corporations. The power to some extent shifted from shareholders to managers. The firm may not be fully subjected to the requirements of economic efficiency and wealth maximization (Kroll et al., 1993). The consequence for advanced societies with such organizations tends to be economic decline (Burnham, 1962; Parsons, 1971 in Kroll et al., 1993).

3. Ways Available for Shareholders in Addressing the Issue 3.1 Legal and Regulatory Requirements There are laws and regulations to constrain the behavior of managers. For example, the U.S Securities and Exchange Commission sets ing standards for public corporations to ensure transparency (Brealey et al., 2011). And Sarbanes-Oxley Act 2002 requires chief executive officers and chief financial officers to certify in the financial statements related to the accuracy of the statements. And the labor contract of the managers could be more detailed and strict in order to reduce managers' opportunity of shirking responsibilities or taking perks. 3.2 Compensation Plans Offering incentive payment and stock options to top managers. Linking their interests tightly with the shareholders' interests. Or making the managers become shareholders. Managers who have company shares in hand will work hard to increase the value of the shares, if they fail to do so, the shares will become valueless to them. The more the increase in share price, the more the managers will gain. 3.3 Board of Directors Board of directors is elected by the shareholders to represent their interests. Board of directors should monitor the managers. Their day-to-day impact is difficult to observe. But when things go wrong, they can become the center of attention. For example, Enron (Adams et al., 2010). The makeup of boards affects what they do.

4/5 After the Enron scandals exploded, Sarbanes-Oxley Act requires public companies place more independent directors who are not involved in the management on the board (Brealey et al. 2011). This to some extend prevents directors from being influenced by the management. Another problem is that some outside directors may serve on several boards at the same time. The research done by Fich and Shivdasani in 2006 indicates that boards relying heavily on busy outside directors are likely to have a low-quality corporate governance. While despite board of directors, managers are monitored by other parties such as security analysts and banks. 3.4 Threats of Takeovers and Labor Market Falling share price indicates the poor performance of the company. This increase the threat of takeovers. Then managers may lose jobs. And the poor performance gives the labor market an adverse signal and the ability of the manager could be questioned. If managers do not try to maximize firm value, they may eventually lose reputation. 3.5 Shareholder Pressure Shareholders have the ultimate control over the corporation. If shareholders are not satisfied with the performance, they can change the top managers or the board of directors. But in this situation, shareholders should be very strong and rational.

4. Conclusion It is difficult to get rid of agency problems. However, there are several ways to mitigate those issues. Each method has its limitations. The shareholders can combine different methods in order to get a better result. The performances of large public corporations have an important influence on the society and the economy. Stricter laws and regulations can be enacted to constrain people with strong power.

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References Brealey, R., Myers, S. and Allen, F. (2011). Principles of corporate finance. New York: McGraw-Hill/Irwin. Kroll, M., Wright, P. and Theerathorn, P. (1993). Whose interests do hired top managers pursue? An examination of select mutual and stock life insurers. Journal of Business Research, 26(2), pp.133-148 Adams, R. B., Hermalin, B. E., and Weisbach M. S. (2010) The Role of Boards of Directors in Corporate Governance: A Conceptual Framework and Survey, Journal of Economic Literature, 48(1), pp. 58–107. FICH, E. and SHIVDASANI, A. (2006). Are Busy Boards Effective Monitors? Journal of Finance, 61(2), pp.689-724. James, R. (2014). The Advantages of the Separation of Ownership & Management (online)

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