Question

Discuss the reasons behind the conflict of interest between corporate stockholders and bondholders?

Answer 1

Bondholder refer to the creditors of the organization and the stock holders refers to the investors(owners of stock) in the corporation.Conflict of interest arises between the stockholders of a corporation and the bondholders of a corporation because the stockholders of a corporation and bondholders of a corporations have different financial priorities.The stockholders of a firm will encourage the management to take on projects that maximize the value of the firm as they benefit from it,this might translate to shareholders persuading the management to take on riskier projects.The bondholders on the other hand will have an approach contradictory to this as they are focused on recouping their investment and the firm taking on riskier projects might adversely impact their interests.Bondholders may also place restrictions associated with the amount they lend that might curtail the firms ability to spend on projects especially the ones with high risk profiles ,this might conflict with the interest of the shareholders.Another reason for conflict maybe the fact that bondholders have a definite term after which the bonds can be redeemed and the shareholders can hold on to their shares indefinitely .Share holders have voting rights which bond holders do not enjoy.Shareholders might prefer if the firm paid out more dividend since they gain from it ,but in the case of bond holders the payments to them are mandatory in nature and not dependent on profits.