Why do we not expect firms to try to maximize bond price as a partial goal...

Why do we not expect firms to try to maximize bond price as a partial goal of the firm?

Expert Solution

Firms have have two sources of capital - common equity and debt.

Common equity represents owner's funds. Debt represents borrowed funds.

Borrowed funds are repaid to the lenders, and lenders do not have any ownership in the company. Their only expected return is the interest on the debt, and repayment of principal.

Owner's funds are invested with the expectation of dividends, and capital appreciation by increase in share price.

Maximization of share price is a goal of the firm because it maximizes shareholder wealth, and is expected by the shareholders for the risk capital invested by them. However, maximization of bond price is not a goal because it does not maximize shareholder wealth.

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