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ACCA Applied Skills · Financial Management · Stakeholders and impact on corporate objectives

Dorval Co's directors receive a fixed salary plus a large share option scheme exercisable in three years. Shareholders are concerned that managers may now pursue high-risk projects with big potential gains while shareholders bear the downside. Which term describes the problem shareholders are concerned about?

This is an agency problem. Managers, as agents, benefit from share option upside but do not bear the downside, so they may take more risk than shareholders, the principals, want. Satisficing would instead mean settling for acceptable results, not seeking excessive risk.

  1. AAgency problem arising from differing attitudes to risk between managers and shareholdersCorrect
  2. BDividend irrelevance
  3. CWindow dressing of the statement of financial position
  4. DSatisficing by managers

Explanation

The separation of ownership and control creates an agency problem when agents' interests differ from principals'. Options give managers upside without downside, encouraging excess risk-taking. Satisficing means aiming for acceptable rather than maximum performance, which does not describe the risk-seeking behaviour here.

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