SHAREHOLDER WEALTH

Do public insurance companies have a conflict of interest between maximizing shareholder wealth and protecting the insured?



Executive Summary

Insurance and reinsurance transfer risk from an individual policyholder or primary insurance provider to a larger risk-sharing community. The insurance company facilitates this transfer of risk among insured individuals in a way that attempts to be equitable and cost-effective for customers while maintaining solvency and shareholder value for the company. Premiums are set to represent an insured's contribution to the overall shared risk; therefore, to be equitable, those with greater risk should pay higher premiums than those who contribute less to the overall risk. The insurance industry studies risk in actuarial terms, meaning that the mathematical and statistical traits of each risk are carefully monitored. The risk absorbed by the insurance industry is reduced by basing the terms and conditions of insurance policies on actuarially derived premiums and deductibles or by limiting coverage based on risk. Furthermore, private insurance companies are not required by law to write in high-risk areas and will cease to offer coverage in an area deemed high risk.

Good corporate governance may also lower the costs of agency conflicts and influence dividend policy by reducing shareholders' monitoring and auditing costs. In this framework, corporate governance serves as a bonding mechanism. Researchers link two corporate governance mechanisms to dividend policy, percentage of stock held by insiders (insider ownership) and dispersion of ownership among outside stockholders (ownership concentration). He provides evidence that higher dividend payout ratios are found among firms with lower levels of insider ownership and/or higher levels of ownership concentration.

Table of Contents

Introduction4

Statement of the problems4

Literature review5

Structural Framework and Methodology11

Data description and collection12

Description of statistical technique(s)12

Emphasis on Validity13

Analysis of findings14

Summary and Conclusions15

Bibliography17

Appendix19

Do public insurance companies have a conflict of interest between maximizing shareholder wealth and protecting the insured?

Chapter 1: INTRODUCTION

Agency conflicts resulting from the separation of ownership and control between shareholders and managers can influence expected cash flows to investors and are therefore important to shareholder wealth. The payment of dividends is one mechanism often used to mediate or reduce agency. Optimal dividend payout in which dividend policy can be at least partially explained by an agency cost-transaction cost trade-off model is provided by. He suggests that the payment of dividends forces the firm more frequently to the external capital markets and the subsequent external scrutiny serves as a bonding or monitoring function, thus reducing agency costs. However, the firm incurs transactions costs in going to the external markets. The optimal dividend policy therefore would minimize the sum of agency costs and transaction costs. Smith extend Rozeff's (1982) model and examine the relationship between a firm's dividend policy and corporate governance. Overall, their findings indicate that firms with stronger corporate governance pay lower dividends. However, their study excluded highly regulated firms, like insurance organizations, that already have an external monitoring source. The purpose of this study is to examine the relationship between corporate governance and dividend policy in the highly regulated insurance ...