Agency Theory
INTRODUCTION
An agency in general, is the relationship between two parties, where one is a principal and the other is an agent who represents the principal in transaction with a third party. Agency relationship occur when the principal hire the agent to perform a service on the principal behalf. In common, principal will delegate decision making authority to the agent.
Agency Theory is concerned with resolving problems that may exist in agency relationship; that is, between principals (such as shareholders) and agent of the principals (such as company executive). The two common problems that agency theory addresses are:
1) the problem that arise when the goals of the principal and the agent are in conflict.
2) the problem that arise when the principal and agent have different attitudes towards risk.
Because of different risk tolerances, both principal and agent may each be refused to take different action.
Agency problems may arise because of inefficiency and incomplete information. A simple agency model suggest that, as a result of information asymmetries and self-interest principals lack reasons to trust their agent and will seek to resolve these concerns by putting in place mechanism to align the interests of agents with principals as well as to reduce the scope of information asymmetries.
MOTIVES OF AGENTS AND INFORMATION ASYMMETRIES
At times, agent and principal are prone to have different motives. They may be influenced by factors such as financial rewards, labour market opportunities, and relationships with other parties that are not directly relevant to principals. Agents may also be more risk averse than principals. As a result to these differing interests, agents may have an incentive to bias information flows.
Principal’s Problems Since principal has delegated the authority and responsibilities to agent, principal depends on agent’s effort, and possibly other factors to determine his/her profit. Earning maximum profit would be the
An agency in general, is the relationship between two parties, where one is a principal and the other is an agent who represents the principal in transaction with a third party. Agency relationship occur when the principal hire the agent to perform a service on the principal behalf. In common, principal will delegate decision making authority to the agent.
Agency Theory is concerned with resolving problems that may exist in agency relationship; that is, between principals (such as shareholders) and agent of the principals (such as company executive). The two common problems that agency theory addresses are:
1) the problem that arise when the goals of the principal and the agent are in conflict.
2) the problem that arise when the principal and agent have different attitudes towards risk.
Because of different risk tolerances, both principal and agent may each be refused to take different action.
Agency problems may arise because of inefficiency and incomplete information. A simple agency model suggest that, as a result of information asymmetries and self-interest principals lack reasons to trust their agent and will seek to resolve these concerns by putting in place mechanism to align the interests of agents with principals as well as to reduce the scope of information asymmetries.
MOTIVES OF AGENTS AND INFORMATION ASYMMETRIES
At times, agent and principal are prone to have different motives. They may be influenced by factors such as financial rewards, labour market opportunities, and relationships with other parties that are not directly relevant to principals. Agents may also be more risk averse than principals. As a result to these differing interests, agents may have an incentive to bias information flows.
Principal’s Problems Since principal has delegated the authority and responsibilities to agent, principal depends on agent’s effort, and possibly other factors to determine his/her profit. Earning maximum profit would be the