Final answer:
Bad corporate governance can result in financial scandals, loss of shareholder trust, and a decline in company value. Measuring the cost of deviations from value maximization involves assessing factors like stock price and cost of capital. Poor governance can also cause negative externalities, impacting society beyond the company's direct activities.
Step-by-step explanation:
The consequence of bad corporate governance can lead to a myriad of negative outcomes, including financial scandals, loss of shareholder trust, legal repercussions, and ultimately, a decline in the firm's value. Conceptually measuring the dollar cost of deviations from value maximization can be complex, but one could look at metrics like stock price declines, increased cost of capital, or the loss of competitive advantage. Additionally, poor governance can lead to externalities which are unintended consequences impacting society that are not reflected in the company's financial statements.
For instance, if a company ignores environmental regulations to cut costs and thereby increase short-term profits, a negative externality could be environmental damage. This damage has a cost to society, such as health problems or clean-up costs. On the other hand, a positive externality might be a technology company investing in local education, thus improving the local workforce and benefiting the community beyond the company’s direct gains.
Market equilibrium price and quantity can be identified where the supply and demand curves intersect. When firms engage in practices that fail to account for the full social costs of their actions, such as pollution, they can contribute to market failure. This is because the firm is not bearing all the costs of its actions, leading to a misallocation of resources and a result which is not socially optimal.
Guiding Questions
- Not-for-profit organizations, governmental entities, and cooperatives are examples of organizations that do not exist solely to make a profit.
- Government may intervene in the economy to correct market failures, provide public goods, or regulate industries to prevent monopolies and maintain competition.
Corporate governance is crucial for ensuring that companies are managed in the interests of shareholders and the broader society. The case of Lehman Brothers illustrates the disastrous effects that can result when corporate governance fails, leading to a lack of accurate information and sound decision-making.