Fin515 – week 6 – problem set
Limited liability is the inherent feature of corporations which creates a need to have a system that checks manager behavior. The owners and managers are only responsible for the money they invested. It allows for them to take decisions without putting their own assets at risk, but it also creates the potential of abuse because shareholders do not have direct control over managerial decisions.
Thus, in order to protect shareholders’ interests and ensure proper corporate governance, there needs to be checks on manager behavior. It usually requires some type of supervision, such as board meeting where outside parties are able to evaluate the performance and review financial statements/business plan etc. This may involve other regulations, such as the Sarbanes-Oxley Act that limits certain activities (e.g. insider trading), and requires disclosure of specific information about an organization (e.g. financial reports).