Agency Theory: An Assessment and Review Author(s): Kathleen M. Eisenhardt Source: The Academy of Management Review, Vol. 14, No. 1 (Jan., 1989), pp. 57-74 Published by: Academy of Management Stable URL: http://www.jstor.org/stable/258191 Accessed: 14/10/2010 10:43 Your use of the JSTOR archive indicates your acceptance of JSTOR's Terms and Conditions of Use, available at http://www.jstor.org/page/info/about/policies/terms.jsp. JSTOR's Terms and Conditions of Use provides, in part, that unless you have obtained prior permission, you may not download an entire issue of a journal or multiple copies of articles, and you may use content in the JSTOR archive only for your personal, non-commercial use. Please contact the publisher regarding any further use of this work. Publisher contact information may be obtained at http://www.jstor.org/action/showPublisher?publisherCode=aom. Each copy of any part of a JSTOR transmission must contain the same copyright notice that appears on the screen or printed page of such transmission. JSTOR is a not-for-profit service that helps scholars, researchers, and students discover, use, and build upon a wide range of content in a trusted digital archive. We use information technology and tools to increase productivity and facilitate new forms of scholarship. For more information about JSTOR, please contact email@example.com.
Academy of Management is collaborating with JSTOR to digitize, preserve and extend access to The Academy of Management Review.
? Academy of Management Review, 1989, Vol. 14, No. 1, 57-74.
KATHLEEN EISENHARDT M. Stanford University
Agency theory is an important, yet controversial, theory. This paper reviews agency theory, its contributions to organization theory, and the extant empirical work and develops testable propositions. The conclusions are that agency theory (a) offers unique insight into information systems, outcome uncertainty, incentives, and risk and (b) is an empirically valid perspective, particularly when coupled with complementary perspectives. The principal recommendation is to incorporate an agency perspective in studies of the many problems having a cooperative structure. One day Deng Xiaoping decided to take his grandson to visit Mao. "Call me granduncle," Mao offered warmly. "Oh, I certainly couldn't do that, Chairman Mao," the awe-struck child replied. "Why don't you give him an apple?" suggested Deng. No sooner had Mao done so than the boy happily chirped, "Oh thank you, Granduncle." "You see," said Deng, "what incentives can achieve." ("Capitalism,"1984, p. 62) Agency theory has been used by scholars in accounting (e.g., Demski & Feltham, 1978), economics (e.g., Spence & Zeckhauser, 1971), finance (e.g., Fama, 1980), marketing (e.g., Basu, Lal, Srinivasan, & Staelin, 1985), political science (e.g., Mitnick, 1986), organizational behavior (e.g., Eisenhardt, 1985, 1988; Kosnik, 1987), and sociology (e.g., Eccles, 1985; White, 1985). Yet, it is still surrounded by controversy. Its proponents argue that a revolution is at hand and that "the foundation for a powerful theory of organizations is being put into place" (Jensen, 1983, p. 324). Its detractors call it trivial, dehumanizing, and even "dangerous" (Perrow, 1986, p. 235). Which is it: grand theory or great sham? The 57 purposes of this paper are to describe agency theory and to indicate ways in which organizational researchers can use its insights. The paper is organized around four questions that are germane to organizational research. The first asks the deceptively simple question, What is agency theory? Often, the technical style, mathematics, and tautological reasoning of the agency literature can obscure the theory. Moreover, the agency literature is split into two camps (Jensen, 1983), leading to differences in interpretation. For example, Barney and Ouchi (1986) argued that agency theory emphasizes how...
References: Anderson, E. (1985) The salesperson as outside agent of employee: A transaction cost analysis. Marketing Science, 4, 234-254. Amihud, Y., & Lev, B. (1981) Risk reduction as a managerial motive for conglomerate mergers. Bell Journal of Economics, 12, 605-616. Argawal, A., & Mandelker, G. (1987) Managerial incentives and corporate investment and financing decisions. Journal of Finance, 42, 823-837. Arrow, K. (1971) Essays in the theory of risk bearing. Chicago: Markham. Barnard, C. (1938) The functions of the executive. Cambridge, MA: Harvard University Press. Barney, J. (1988) Agency theory, employee stock ownership and a firm 's cost of equity capital. Unpublished working paper, Texas A&M University, College Station. Barney, J., & Ouchi, W. (Eds.) (1986) Organizational economics. San Francisco: Jossey-Bass. Basu, A., Lal, R., Srinivasan, V., & Staelin, R. (1985) Salesforce compensation plans: An agency theoretic perspective. Marketing Science, 4, 267-291. Berle, A., & Means, G. (1932) The modern corporation and private property. New York: Macmillan. Bolton, M. (1988) Organizational miming: When do late adopters of organizational innovations outperform pioneers? Paper presented at the meeting of the Academy of Management, Anaheim, CA. Burt, R. (1979) A structural theory of interlocking corporate directorates. Social Networks, 1, 415-435. Capitalism in the making. (1984, April 30) Time, p. 62. Chandler, A. (1962) Strategy and structure. New York: Doubleday. Conlon, E., & Parks, J. (1988) The effects of monitoring and tradition on compensation arrangements: An experiment on principal/agent dyads. In F. Hoy (Ed.), Best papers pro-
ceedings (pp. 191-195). Anaheim, CA: Academy of Management. Cyert, R., & March, J. (1963) A behavioral theory of the firm. Englewood Cliffs, NJ: Prentice-Hall. Dejong, D., Forsythe, R., & Uecker, W. (1985) Ripoffs, lemons and reputation formation in agency relationships: A laboratory market study. Journal of Finance, 50, 809-820. Demski, J. (1980) A simple case of indeterminate financial reporting. Working paper, Stanford University. Demski, J., & Feltham, G. (1978) Economic incentives in budgetary control systems. Accounting Review, 53, 336-359. Dornbusch, S., & Scott, W. R. (1974) Evaluation and the exercise of authority. San Francisco: Jossey-Bass. Eccles, R. (1985) Transfer pricing as a problem of agency. In J. Pratt & R. Zeckhauser (Eds.), Principals and agents: The structure of business (pp. 151-186). Boston: Harvard Business School Press. Eisenhardt, K. (1985) Control: Organizational and economic approaches. Management Science, 31, 134- 149. Eisenhardt, K. (1988) Agency and institutional explanations of compensation in retail sales. Academy of Management Journal, 31, 488-511. Fama, E. (1980) Agency problems and the theory of the firm. Journal of Political Economy, 88, 288-307. Fama, E., & Jensen, M. (1983) Separation of ownership and control. Journal of Law and Economics, 26, 301-325. Galbraith, J. (1973) Designing complex organizations. Reading, MA: Addison-Wesley. Gardner, W., & Martinko, M. (1988) Impression management: An observational study linking audience characteristics with verbal self-presentations. Academy of Management Journal, 31, 42-65. Gausch, J., & Weiss, A. (1981) Self-selection in the labor market. American Economic Review, 71, 275-284. Harris, M., & Raviv, A. (1978) Some results on incentive contracts with application to education and employment, health insurance, and law enforcement. American Economic Review, 68, 20-30. Harris, M., & Raviv, A. (1979) Optimal incentive contracts with imperfect information. Journal of Economic Theory, 20, 231-259. Hirsch, P., & Friedman, R. (1986) Collaboration or paradigm shift? Economic vs. behavioral thinking about policy? In J. Pearce & R. Robinson (Eds.), Best papers proceedings (pp. 31-35). Chicago: Academy of Management. Hirsch, P., Michaels, S., & Friedman, R. (1987) "Dirty hands" versus "clean models": Is sociology in danger of being seduced by economics? Theory and Society, 317-336.
Holmstrom, B. (1979) Moral hazard and observability. Bell Journal of Economics, 10, 74-91. Jensen, M. (1983) Organization theory and methodology. Accounting Review, 56, 319-338. Jensen, M. (1984) Takeovers: Folklore and science. Harvard Business Review, 62(6), 109-121. Jensen, M., & Meckling, W. (1976) Theory of the firm: Managerial behavior, agency costs, and ownership structure. Journal of Financial Economics, 3, 305-360. Jensen, M., & Roeback, R. (1983) The market for corporate control: Empirical evidence. Journal of Financial Economics, 11, 5-50. Kahneman, D., & Tversky, A. (1979) Prospect theory: An analysis of decisions under risk. Econometrica, 47, 263291. Kosnik, R. (1987) Greenmail: A study in board performance in corporate governance. Administrative Science Quarterly, 32, 163-185. Lambert, R. (1983) Long-term contracts and moral hazard. Bell Journal of Economics, 14, 441-452. Lawrence, P., & Lorsch, J. (1967) Organization and environment. Boston: Division of Research, Harvard Business School. Leatherwood, M., & Conlon, E. (1987) Diffusibility of blame: Effects on persistence in a project. Academy of Management Journal, 30, 836-848. MacCrimmon, K., & Wehrung, D. (1986) Taking risks: The management of uncertainty. New York: Free Press. March, J. (1962) The business firm as a political coalition. Journal of Politics, 24, 662-678. March, J., & Shapira, Z. (1987) Managerial perspectives on risk and risk taking. Management Science, 33, 1404-1418. March, J., & Simon, H. (1958) Organizations. Wiley. New York:
McGrath, J., Martin, J., & Kukla, R. (1982) Judgment calls in research. Beverly Hills, CA: Sage. Meet Mike Jensen, the professor of merger mania. (1988, February 8) Business Week, pp. 66-67. Mitnick, B. (1986) The theory of agency and organizational analysis. Unpublished working paper, University of Pittsburgh. Ouchi, W. (1979) A conceptual framework for the design of organizational control mechanisms. Management Science, 25, 833-848. Pearce, J., Stevenson, W., & Perry, J. (1985) Managerial compensation based on organizational performance: A time series analysis of the effects of merit pay. Academy of Management journal, 28, 261-278.
Perrow, C. (1986) Complex organizations. New York: Random House. Pettigrew, A. (1973) The politics of organizational decision making. London: Tavistock. Pfeffer, J. (1981) Power in organizations. Marshfield, MA: Pittman. Pfeffer, J., & Salancik, G. (1974) Organizational decision making as a political process: The case of a university budget. Administrative Science Quarterly, 19, 135-151. Ross, S. (1973) The economic theory of agency: The principal 's problem. American Economic Review, 63, 134-139. Shavell, S. (1979) Risk sharing and incentives in the principal and agent relationship. Bell Journal of Economics, 10, 5373. Singh, H., & Harianto, F. (in press) Management-board relationships, takeover risk and the adoption of golden parachutes: An empirical investigation. Academy of Management Journal. Sitkin, S. (1987) Secrecy in organizations: The limits of legitimate information control. Working paper, University of Texas, Austin. Spence, A. M. (1975) The economics of internal organization: An introduction. Bell Journal of Economics, 6, 163-172. Spence, A. M., & Zeckhauser, R. (1971) Insurance, information, and individual action. American Economic Review, 61, 380-387. Thompson, J. (1967) Organizations in action. New York: McGraw-Hill.
Ungson, G., & Steers, R. (1984) Motivation and politics in executive compensation. Academy of Management Review, 9, 313-323. Walker, G., & Weber, D. (1984) A transaction cost approach to make-or-buy decisions. Administrative Science Quarterly, 29, 373-391. Walking, R., & Long, M. (1984) Agency theory, managerial welfare, and takeover bid resistance. The Rand Journal of Economics, 15, 54-68. White, H. (1985) Agency as control. In J. Pratt & R. Zeckhauser (Eds.), Principals and agents: The structure of business (pp. 187-214). Boston: Harvard Business School Press. Williamson, 0. (1975) Markets and hierarchies: Analysis and antitrust implications. New York: Free Press. Wilson, R. (1968) On the theory of syndicates. Econometrica, 36, 119-132. Wolfson, M. (1985) Empirical evidence of incentive problems and their mitigation in oil and gas shelter programs. In J. Pratt & R. Zeckhauser (Eds.), Principals and agents: The structure of business (pp. 101- 126). Boston: Harvard Business School Press. Zenger, T. (1988)Agency sorting, agent solutions and diseconomies of scale: An empirical investigation of employment contracts in high technology R&D. Paper presented at the meeting of the Academy of Management, Anaheim, CA.
Kathleen M. Eisenhardt (Ph.D., Stanford University) is Assistant Professor at Stanford University. Correspondence can be sent to her at the Department of Industrial Engineering and Engineering Management, 346 Terman Building, Stanford University, Stanford, CA 94305. The author thanks Paul Adler, Michele Bolton, Philip Bromiley, Jim Hodder, William Ouchi, Gerald Salancik, Kaye Schoonhoven, and Robert Sutton for their comments and suggestions.
Please join StudyMode to read the full document