By Eddie McLaney

Enterprise Financehas a real-world flavour, exploring the theories surrounding monetary selection making and concerning those theories to what occurs within the genuine global.

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Extra resources for Business finance : theory and practice

Sample text

If the share price goes up, they exercise their option and can immediately sell the shares at the higher price. If the price does not go up, the directors are not required to take up the shares. We can probably summarise the evidence provided by looking at what individual businesses say and do, as follows. Many businesses state their objective to be shareholder wealth maximisation, though not all do so. Nearly all larger UK businesses pay sizeable bonuses to their directors. These bonuses are almost always linked closely to returns to shareholders.

Clearly, some of these assumptions are unrealistic, particularly the first two. Whether this seriously weakens the separation theorem and its implications is probably impossible to assess directly. Even if the theorem does not strictly hold true in practice, it does give some insights about the relationship between shareholders and managers in the context of investment productive assets, as well as into how those investments might be financed. The theorem certainly provides a foundation for several major financial theories that we shall encounter later in this book.

Many businesses state their objective to be shareholder wealth maximisation, though not all do so. Nearly all larger UK businesses pay sizeable bonuses to their directors. These bonuses are almost always linked closely to returns to shareholders. On top of this, most larger businesses grant substantial share options to directors. In this way directors have a strong incentive to benefit the shareholders. Bonuses and share option benefits can easily exceed basic salaries of many directors. So, while some businesses do not state shareholder wealth maximisation as their goal, their actions, including the incentives given to senior managers, strongly imply that the economic welfare of shareholders is a major issue.

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