What is the “Principal-Agent” problem?
you will need to answer these questions

Study Guide for Quiz 2

[1] What is the “Principal-Agent” problem? How does this affect the creation of short- versus
long-term wealth of a company? Why is the principal–agent problem especially worrisome
for multinational corporations?

[2] In the Stock Valuation Assignment, what is the reason for selecting 12% in the One Period
Present Discounted Future Value Price formula? What would be the difference in calculating
“real” versus “nominal” returns? Explain with a relevant financial market example.

[3] In the decision to purchase (invest) in a 5-year or a 10-year bond (maturity term), what is a
“Liquidity Premium?” What is the difference in your decision to pay more for one of these two
groups of $5 million bonds (par value) with the same 4% coupon rates? Which one would you
recommend to purchase and why? Give relevant Financial Markets examples.

[4] Why would a company conduct a “stock split” of 3/1? What is the expected effect on the stock
price? If you owned 1000 shares at $100 per share before the stock split, how many shares would
you have afterwards and what would the price be of the new shares of stock? Please give relevant
business examples that clearly illustrate your answers.

[5] In 2008, Major League Baseball player Alex Rodriquez agreed to a 10-year employment
contract with the NewYork Yankees. Because payments were made at future dates, the time value
of money must be considered. The contract specified a $2 million signing bonus (immediate
payment) with $28 million paid in the first year followed by $33 million in 2009, $33 million in
2010, $32 million in 2011, $30 million in 2012, $32 million in 2013, $25 million in 2014, $21 million
in2015,and$20millionin2016and2017. The total future value of the contract. based on multiple
cash flows is $275 million in nominal dollars.
How would you estimate the Present Value of the contract? What is your estimate of its Present
Value in nominal dollars. Would you prefer a one “lump” sum payment based on an estimate of
its Present Discounted Future Value? Why or Why not?

[6] Some corporations offer annual dividends (financial distributions) while others do not. What
are the main reasons that a corporation offers a dividend during the year? What are the main
reasons that a corporation does not offer a dividend during the year? Which company offers a
higher return on your investment? Explain why with relevant examples.

[7] It is important to accurately measure the volatility of a company’s stock price. What is the
significance of the Beta statistic that you presented in your Valuation assignment? How does it
help the Corporate Finance office in evaluating its decision to purchase or sell specific stocks in its
corporate investment. portfolios? WhatwastheBetaofthecompanyinyourValuationassignment
and how did you interpret its significance in the final decision to Buy, Hold, or Sell?

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