FAT week 7 - Objectives of F.R =>F.s are supposed to...

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Objectives of F.R. =>F.s. are supposed to provide decision-useful info of co. value to investors => Can managers influence f.s.? *Can affect net income number directly by manipulating f.s. numbers => Do managers care about f.s.? *If accounting policy X matter, why managers care about acc policy? e.g. Lease accounting – Operating lease X in f.s. (only lease payments in f.s.) - Financial lease in f.s. – Liability - ^ leverage of co. => Some company may exceed debt covenant allowance. Hence diff acc policy has diff implications in ST Managers Problem when introduce => Agency problems => Contracts Incentives to manipulate f.s. Political process Agency problems Capital providers (D,E) – provide capital to managers Managers - utilise the capital Earnings generated – payoffs to capital providers (Managers might manipulate earnings – EM) Capital providers do not run business, managers run business X know whether capital has been utilised in most efficient manner (cannot observe man. actions) How to solve problem? 1. F.s. 2. Other disclosure o Provide more relevant info to capital providers Capital providers act on info Compensation contracts (Make managers work in interest of capital providers, can withdraw inv if managers X work hard) Agency relationship
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= Contract under which principal/s engage agent to perform some service on their behalf (involves delegating some decision-making authority to agent). E.g. of Agency relations => Home owner & real estate firm, AFL Franchise owners & players, S/h & CEO, Existing s/h & prospective s/h Types of agency conflicts in a corporate setting Manager & s/h Manager & lender – X proper use of money when co. heavily indebted o E.g. paying excessive dividends, undertaking very risky projects (esp in financial distress) Current & future s/h o E.g. when current s/h take advantage of market optimism & sell firm to new s/h in IPO (get rid of co. before co. problems come to light, might be overvalued @ IPO) Lender & s/h o E.g. choice of projects that s/h & lender prefer – Lenders prefer less risky since X earn returns > cost of debts (S/h wants managers to undertake risky projects, but if bankrupt, they suffer) Why agency problem? Info asymmetry - Owner & manager strive to max utilities (get most benefits @ lowest cost) - Owner wants agent to work hard => Get most income - Manager wants to get most income w least effort What to know to calculate utilities of owner & manager?
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