1.Agency costs

a)What does "managerial entrenchment" mean? Give an example.

b)What is the implication of managerial entrenchment: should company favor debt or equity? Why?

c)In the conflicts between equity holders and bond holders,

i.Why would equity investors want to forego good project with positive NPV ("debt overhang") and rather take risky projects with negative NPV? ("risk shifting")

ii.What is an example of "asset stripping" from equity holders in case of high financial distress?

d)Given asymmetric information between investors and managers,

i.How would investors interpret firm's decision to finance through debt?

ii.How would investors interpret firm's decision to finance through equity?

iii.How would investors interpret firm's decision to buy back its equity?

iv.Given the signaling theory above, what is the implication on firm's financing preference (hint: pecking order hypothesis)?

Answer rating: 100% (QA)

The detailed answer for the above question is provided below a Managerial entrenchment means that managers use their power and influence to protect their own interests and avoid being replaced or disc... View the full answer