In equilibrium, a stock’s price should equal its “true” or intrinsic value: present value of future cash flows
Intrinsic value is a long-run concept
To the extent that investor perceptions are incorrect, a stock’s price in the short run may deviate from its intrinsic value
Ideally, managers should avoid actions that reduce intrinsic value, even if those decisions increase the stock price in the short run
Cont
Stockholder-manager conflicts
Managers are naturally inclined to act in their own best interests (which are not always the same as the interests of stockholders)
The following factors affect managerial behavior:
Managerial compensation packages
Direct intervention by shareholders
The threat of firing
The threat of takeover
Stockholder-debtholder conflicts
Stockholders are more likely to prefer riskier projects because they receive more of the upside if the project succeeds.
Bondholders receive fixed payments and are more interested in limiting risk
Bondholders are particularly concerned about the use of additional debt
Bondholders attempt to protect themselves by including covenants in bond agreements that limit the use of additional debt and constrain managers’ actions
Balancing shareholder interests and society interests
