Chartered Financial Analyst Level 2

Explanation

The principal-agent conflict arises when ownership is dispersed (many shareholders) and voting power is also dispersed, creating a situation where no single shareholder has sufficient influence to monitor management effectively. This leads to agency problems where management may pursue their own interests rather than shareholder value.

Analysis of Options:

• A. Voting caps - These limit the voting power of large shareholders but don't address the core problem of dispersed ownership and voting power. They may actually exacerbate the principal-agent conflict by preventing any shareholder from having meaningful oversight.

• B. Controlling shareholders - This would actually reduce the problem of dispersed ownership and voting power, but the question specifically addresses the conflict "caused by the combination of dispersed ownership and dispersed voting power." Controlling shareholders represent a different ownership structure.

• C. Insiders with large ownership positions - This is the correct answer. When insiders (management, directors) hold significant ownership stakes, their interests become better aligned with other shareholders. They have both the incentive (through their ownership) and the ability (as insiders) to monitor corporate activities effectively, thereby mitigating the principal-agent conflict that arises from dispersed ownership and voting power.

Key Concept: The alignment of interests between insiders and shareholders through significant ownership positions helps resolve agency problems by ensuring that those making decisions have substantial personal financial stakes in the outcomes.