Chapter 13, Problem 1DQ

Summary Introduction

To explain: The impact of the risk-averse nature of corporate managers on their risk-taking ability.

Introduction:

Risk-aversion:

Risk-aversion is a behavioural response to uncertainty with the willingness to lower or avoid the risk associated with future decisions. The risk-aversive nature of a manager indicates the preference of stability over volatility.

Answer to Problem 1DQ

The statement that the risk-averse nature of corporate managers implies that they will not take any risk is not completely true. Risk-averse managers will tend to stay away from risk and associate themselves with stability but will also assume risk if such decisions provide higher returns to them.

Explanation of Solution

Risk is a fundamental phenomenon associated with every decision in the business world. No decision can remain risk-free but risk-averse managers tend to lessen it. However, this does not mean that corporate managers are completely reluctant to assume any risk. Corporate managers will take risk provided that the decision results in higher returns. There surely must be some additional benefit or compensation to assume risk to entice risk-averse managers.