Relying on prior research and using financial data from 2010 to 2015, we analyzed 7,750 observations from 1,815 publicly-traded companies in 341 industries representing the bulk of the American economy. We sought to test our hypothesis that stock options and other interventions only help a firms performance when its managers might otherwise misuse firm resources activities known as opportunism. Such opportunism is defined as self-interest seeking with guile and involves managers deploying firm resources for their own benefit, rather than to help shareholders achieve a higher return on investment. If such a risk exists, then stock options should reduce the misallocation of funds. If such a risk does not exist, then stock options are an expensive waste of money.

1. Explain the central theory upon which PAT is based.

2. Briefly outline the research approach adopted in the above study.

3. Explain how issuing stock options to managers may reduce their opportunistic behavior and increase returns to shareholders.

4. Predict the behavior of managers and lenders as a firms leverage increases.

5. Using the political cost hypothesis, predict how any TWO groups would react to the high levels of compensation paid out to managers.