Question

A large corporation suffers from the​ principal-agent problem when​ its:

a. shareholders sacrifice ​long-term growth for​ short-term profits.
b. board of directors ties the salaries of management exclusively to the profits of the firm.
c. stock shareholders sell firm assets to increase dividend payments.
d. management does not own a large share of firm stock and pursues its own interests rather than those of shareholders.
e. chief executive officer runs the​ day-to-day operations of the corporation while simultaneously sitting on the board of directors.

Answer 1

The correct answer is letter "B": board of directors ties the salaries of management exclusively to the profits of the firm.

Step-by-step explanation:

Principal-agent problems arise when a principal hires an agent to perform duties that conflict with the agent's best interest. The problem typically occurs when the principal provides incentives to act in the principal's interest but not the agent, generating a conflictive agenda.

In that case, if the boards of directors tie the salaries of management according to the profits of the firm, they will be acting on their own interest but not in the interest of the managers, making option "B" to represent a typical principal-agent problem.

Answer 2

The correct answer is d. management does not own a large share of firm stock and pursues its own interests rather than those of shareholders.When management pursues its own interests, there is a conflict with the interest of the shareholders who hired the management in the first place.