initiatives may erode shareholder value because they fail to achieve some synergies

that we discussed in Chapter 6 (e.g., building on core competencies, sharing activities,

or enhancing market power). Agents (executives) may have a stronger preference toward
diversification than shareholders because it reduces their personal level of risk from potential
loss of employment. Executives who have large holdings of stock in their firms are more
likely to have diversification strategies that are more consistent with shareholder interests—
increasing long-term returns.58
At times, top-level managers engage in actions that reflect their self-interest rather than
the interests of shareholders. We provide two examples below:
• In addition to an annual base salary of $1.3 million and $10.4 million in stock
compensation and bonuses, Heather Bresch, CEO of Mylan Pharmaceuticals, also
received $6.4 million in other compensation in 2015. This included $19,200 for the use
of a company-provided automobile and $310,000 in personal use of the company jet.59
• John Hammergren, the CEO of health care giant McKesson Corporation, has a
pretty sweet deal. In 2015, Hammergren took home $25.9 million in salary and stock
options. But he’s also protected himself well if he’s dismissed as CEO. According to
the firm’s 2015 proxy statement, McKesson would pay Hammergren $141.7 million
in unearned compensation if he was terminated. In addition to that, he’d receive a
$161 million severance payout that he previously negotiated, resulting in a combined
farewell package of $300 million if he was fired.60
Governance Mechanisms: Aligning the Interests
of Owners and Managers
As noted above, a key characteristic of the modern corporation is the separation of ownership
from control. To minimize the potential for managers to act in their own self-interest,
or “opportunistically,” the owners can implement some governance mechanisms.61 First,
there are two primary means of monitoring the behavior of managers. These include (1) a
committed and involved board of directors that acts in the best interests of the shareholders
to create long-term value and (2) shareholder activism, wherein the owners view themselves
as shareowners instead of shareholders and become actively engaged in the governance of
the corporation. Finally, there are managerial incentives, sometimes called “contract-based
outcomes,” which consist of reward and compensation agreements. Here the goal is to carefully
craft managerial incentive packages to align the interests of management with those of
the stockholders.62
agency theory
a theory of the
relationship between
principals and their
agents, with emphasis
on two problems: (1)
the conflicting goals of
principals and agents,
along with the difficulty
of principals to monitor
the agents, and (2) the
different attitudes and
preferences toward risk of
principals and agents.
LO 9-6
The role of corporate
governance mechanisms
in ensuring that the
interests of managers
are aligned with those
of shareholders from
both the United States
and international
perspectives.
CHAPTER 9 :: Strategic Control and Corporate Governance 281
We close this section with a brief discussion of one Company’s ordinary share for P4,500,000.
During 2014, J. Company reported the following in its statement of comprehensive income a
P4,000,000 net income and a P500,000 unrealized gain from its invest-ment in equity at fair
value to other comprehensive income. J. Company paid cash dividends of P3,000,000 on
December 31, 2014. On January 1, 2015, J. Company issued 300,000 shares at P22 per share
but M. Compa-ny did not acquire any of these shares. As a result of the issue of new shares
where M Company was not a party, its investment has been dilut-ed. What is the carrying value
of the investment immediately after the dilution?
A) P4,337,500 B) P4,467,500 C) P4,587,500 D)P4,837,500
Use the following information for the next two items
Princess Company is in the business of deer farming. A herd 50 3-year old deer with a total fair
value less point of sale costs of P400,000 were held as of January 1, 2015. On January 2, 2015,
50 one-year old deer were purchased at a price of P2,000 each. On July 1, 2015, 50 one-year
and 6 month-old deer were purchased at a price of P2,200 each.
The relevant data are as follows:
Fair value of a 1-year old deer at December 31, 2015 P 2,400
Fair value of a 1 ½ -year old deer at December 31, 2015 P 4,000
Fair value of a 2-year old deer at December 31, 2015 P 6,000
Fair value of a 3 -year old deer at December 31, 2015 P 9,000
Fair value of a 4 -year old deer at December 31, 2015 P12,000
34. How much of the increase in the fair value of the biological assets dur-
I
If an investment in an associate becomes an investment in a joint venture, the entity continues
to apply the equity method and does not remeasure the retained interest.
II
If an entity's share of losses of an associate equals or exceeds its interest in the associate, the
entity discontinues recognizing its share of further losses. After the entity's interest is reduced to
zero, additional losses are provided for, and a liability is rec-ognized, only to the extent that the
entity has incurred legal or constructive obligations or made payments on behalf of the
associate.
Page 14
Page 11
12 months ended 6 months ended
Dec. 31, 2014 Dec. 31, 2014
Net income P600,000 P320,000
Dividends declared and paid 360,000 200,000
Shares outstanding 100,000
Market value per share P41.00
In the statement of financial position for the year ended December 31, 2014, at what amount
should the investment be reported?
A) P804,000 B)P814,000 C)P820,000 D)P824,000
Use the following information for the next two items
On January 2, 2014, East Company acquired 40,000 shares representing 15% of the
outstanding voting stock of West Company for P3,000,000. On January 2, 2015, East Company
gain significant influence over the fi-nancial and operating control of West when the latter retired
some shares but did not include the shares held by East Company . The retirement of some
shares increased East Company interest in West Company to 20%. For the years ended
December 31, 2014 and 2015, West Company report-ed the following:
2014 2015
Net income P6,000,000 P8,000,000
Dividends paid 4,000,000 5,000,000
West Company is a listed company and its shares are publicly traded. The market value of West
Company are as follows: P80 on December 31, 2014 and P88 on December 31, 2015.
30. In the statement of financial position dated December 31, 2015, at what amount should the
investment be reported?
A) P3,000,000 B)P3,520,000 C)P3,800,000 D)P3,900,000
31. What is the net effect in the 2015 profit or loss of East Company related to their investment
in West Company?
A) P0 B) P600,000 C) P1,320,000 D) P1,600,000
32. Which of the following is/are incorrect in accordance with PAS 28, In-vestment in Associates
and Joint Ventures?
ble within two years from initial recognition. Shares were originally subscribed on January 2,
2015. Also, it included a P600,000 (which had been past due for 6 months) charged to the
account of customer Seven Seas which at the moment is experiencing financial difficulty but
promised to pay in full with in a period of three years. The deliveryof the most controversial
issues in corporate
governance—duality. Here, the question becomes: Should the CEO also be chairman
of the board of directors? In many Fortune 500 firms, the same individual serves in both
roles. However, in recent years, we have seen a trend toward separating these two positions.
The key issue is what implications CEO duality has for firm governance and performance.
A Committed and Involved Board of Directors The board of directors acts as a fulcrum
between the owners and controllers of a corporation. The