Answer to Question #180150 in Economics of Enterprise for sharjeel

Question

The shareholder of Al-Karam wants to maximize his profits by selling his goods in the larger quantities. In order to achieve his target (s) he hired a manager to look after his business. However, the manager instead of maximizing business profits started maximizing his own interest by selling the designs in black to the competitor’s designers.

a.      Analyze the above situation and explain the possible problem that might occur for Al-Karam.

b.     If the wealth of the stockholder is decreasing ever since he hired the new manager, using EVA rule of thumb explain what would be the value of EVA and what is its economic interpretation. 

Answer 1

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A]

When the manager sells goods in black market , this will lead to loss in sales as all profit will be earned by manager.

since the manager is selling the concept to Al -Karam's rivals, the company's economic benefit could be jeopardized.

There would be decrease in company productivity too.

There will be loss of trust by shareholders to the management.

B]

 If the Economic Value Added(EVA ) is positive, shareholder value has increased. Therefore, increasing the company’s future EVA is key to creating shareholder value.

but since in this case the stockholders wealth is decreasing due to the effects of the managerial decisions of the new manager the company's value of EVA is negative hence the business is deemed unprofitable/ can be economically deemed as unprofitable.