S. Amir Hossein Ghazinoori
Faculty of Management
Advanced Theory in Organization & Management
1Amir H. Ghazinoori, ASB (UN...
Focus on
organizations & competition
has generated a very large &
ever growing literature
which can be divided to
four res...
Reasons to establish a firm (hierarchy)
1. To avoid the transaction costs of the price mechanism
• Discovering relevant pr...
Think about the Patient-Dentist relationship!!!
AGENCY RELATIONSHIP occur whenever once
partner in a transaction (the prin...
The delegation of decision-making authority from
principal to agent is problematic:
• Interest of principal and agent may ...
Two Essential Sources of Agency
Problem:
1. Moral Hazard:
Equates to hidden actions
2. Adverse Selection:
Equates to hidde...
• Agency theory argues that in the modern corporation, in which share
ownership is widely held, managerial actions depart ...
• Agency theory specifies mechanisms which reduce agency loss
(Eisenhardt 1989).
• Through the agency theory; the solution...
• Agency Theory seems to adapt an unrealistic view of humans & organization
(Hirsch et al. 1990)
• There is a necessity of...
• Agency theory rejects the idea that effective structures vary
between mechanistic and organic upon the task-uncertainty
...
“Although agency theory addresses
manager-principle interest divergence,
additional theory is needed to explain
what, if a...
• Stewardship theory defines situations in which managers are
not motivated by individual goals, but rather are stewards
w...
• So, why isn’t there always a steward relationship, rather than an
agency relationship?
• The answer lies in the risks th...
14
• There are a number of dimensions on which agency theory
assumptions differ from assumption of stewardship theory:
 P...
15
Agency Theory Stewardship Theory
Model of Man
Behaviour
Economic Man
Self-serving
Self-actualizing Man
Collective Servi...
Minimize Potential
Costs
Mutual Agency
Relationship
Agent Acts
Opportunistically
Principle is Angry
Principle is Betrayed
...
Arrow, K. J. (1985). Informational structure of the firm. The American Economic Review, 75(2), 303-307.
Barney, J., & Hest...
18Amir H. Ghazinoori, ASB (UNSW)
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Agency & stewardship, A. Ghazinoori, Lecture 4, Advanced Theory in Organization Management

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Agency & stewardship, A. Ghazinoori, Lecture 4, Advanced Theory in Organization Management

  1. 1. S. Amir Hossein Ghazinoori Faculty of Management Advanced Theory in Organization & Management 1Amir H. Ghazinoori, ASB (UNSW)
  2. 2. Focus on organizations & competition has generated a very large & ever growing literature which can be divided to four research streams Why Do Firms Exist? (Transaction Cost Economics / Neo-classical Economics) Do those associated with a firm agree about how it should be managed? (Agency Theory) (Stewardship Theory) Why do some organizations outperforms others? (Strategic Management Theory) How can organizations Cooperate? (Cooperative organizational economics) 2Amir H. Ghazinoori, ASB (UNSW)
  3. 3. Reasons to establish a firm (hierarchy) 1. To avoid the transaction costs of the price mechanism • Discovering relevant prices • Costs of negotiating deals • Costs of writing/rewriting contracts 2. Haggling over division of surplus Size determinants 1. The number and costs of transactions • Upper limit: When the costs rise to the point where internalising a transaction equals the cost of making the transaction in the market. • Lower limit: If the firms costs of transactions exceed the markets costs it does not come into existence. Ronald Coase 3Amir H. Ghazinoori, ASB (UNSW)
  4. 4. Think about the Patient-Dentist relationship!!! AGENCY RELATIONSHIP occur whenever once partner in a transaction (the principal) delegates authority to another (the agent) and the welfare of the principal is affected by the choices of the agent (Arrow, 1985) What is the Agency Problem? 4Amir H. Ghazinoori, ASB (UNSW)
  5. 5. The delegation of decision-making authority from principal to agent is problematic: • Interest of principal and agent may not be the same • The Principal cannot perfectly & costlessly monitor the actions of the agent • Principal cannot perfectly and costlessly monitor and acquire the information available to or possesses by the agent (Asymmetric Information) 5Amir H. Ghazinoori, ASB (UNSW)
  6. 6. Two Essential Sources of Agency Problem: 1. Moral Hazard: Equates to hidden actions 2. Adverse Selection: Equates to hidden info • Information Advantage • Information Disadvantage 6Amir H. Ghazinoori, ASB (UNSW)
  7. 7. • Agency theory argues that in the modern corporation, in which share ownership is widely held, managerial actions depart from those required to maximise shareholder returns (Berle & Means 1932; Pratt & Zeckhauser 1985). • The owners are principals and the managers are agents and there is an agency loss which is the extent to which returns to the residual claimants, the owners, fall below what they would be if the principals, the owners, exercised direct control of the corporation (Jensen and Meckling 1976). • Agency Theory considers that delegation should be minimized as it leads to abuse (Donaldson, 1995). 7Amir H. Ghazinoori, ASB (UNSW)
  8. 8. • Agency theory specifies mechanisms which reduce agency loss (Eisenhardt 1989). • Through the agency theory; the solution to agency problems is to control them (shirking managers) more through closer monitoring, stronger incentive system and bonds, or to integrate vertically with suppliers or customers so that price negotiation across organization boundaries is replaced by hierarchical authority. (Jensen & Meckling, 1976; Aoki, 1990) • Executive compensation schemes and Governance structures (which refers to the high level authority system of an organization, including particularly the structure for the control of executive management, the board of directors) can to a degree protect the interests of shareholders & minimize the agency costs. 8Amir H. Ghazinoori, ASB (UNSW)
  9. 9. • Agency Theory seems to adapt an unrealistic view of humans & organization (Hirsch et al. 1990) • There is a necessity of recognizing a broader range of human motives than those drawn upon in conventional agency theory (Arrow, 1985). • Are we always talking about Mr Economic? Some human behaviour is emotional and not rational: (Herzberg, 1996; Parsons, 1951) • Compulsive Behaviour • Normatively Governed Behaviour • Intrinsic Motivation • Altruism • Perrow (1986) & Others (Hirsch et al. 1990) argue that agency theory has an inherent investor focus. (this criticism may not be inherent in theory) • Agency theory assumes that firms are essentially homogeneous in their transactions and agency governance structures. Consequently , it also cannot argue about why some firms might outperform the others 9Amir H. Ghazinoori, ASB (UNSW)
  10. 10. • Agency theory rejects the idea that effective structures vary between mechanistic and organic upon the task-uncertainty contingency and instead holds that mechanistic structures are appropriate. (Donaldson, 1995) • Agency Theory fails to find consistency that more controls on managers produce superior results calls into question the whole assumption of agency theory that managers are lazy or devious defrauders of shareholder wealth. • The evidence rather more shows that managers perform better under self-regulation, which is consistent with the more benign view of managers. 10Amir H. Ghazinoori, ASB (UNSW)
  11. 11. “Although agency theory addresses manager-principle interest divergence, additional theory is needed to explain what, if anything, causes interests to be aligned” and to explain other types of human behaviour …. 11Amir H. Ghazinoori, ASB (UNSW)
  12. 12. • Stewardship theory defines situations in which managers are not motivated by individual goals, but rather are stewards whose motives are aligned with objectives of their principals. • Given a choice between self-serving behaviour and pro- organizational behaviour, a steward’s behaviour will not depart from the interest of his/her organizations. • Because the steward perceives greater utility in cooperative behaviour and behaves accordingly, his or her behaviour can be considered rational. • If the executive’s motivations fit the model of man underlying stewardship theory, empowering governance structures are appropriate. “He or she can be trusted”. 12Amir H. Ghazinoori, ASB (UNSW)
  13. 13. • So, why isn’t there always a steward relationship, rather than an agency relationship? • The answer lies in the risks that principles are willing to assume. Within the governance contract, owners must decide how much risk they are willing to assume with their wealth. • Implementing stewardship governance mechanisms for an agent would be analogous to turning the hen house over to the fox. 13Amir H. Ghazinoori, ASB (UNSW)
  14. 14. 14 • There are a number of dimensions on which agency theory assumptions differ from assumption of stewardship theory:  Psychological Factors Motivation Identification Use of Power  Situational Factors Management Philosophy Culture Power Distance Amir H. Ghazinoori, ASB (UNSW)
  15. 15. 15 Agency Theory Stewardship Theory Model of Man Behaviour Economic Man Self-serving Self-actualizing Man Collective Serving Psychological Mechanisms Motivation Lower order / economic needs Extrinsic Higher order needs (growth, achievement,…) Intrinsic Social Comparison Identification Power Power Other Managers Low value commitment Institutional (legitimate, coercive, legal) Principal High value commitment Personal (expert, referent) Situational Mechanism Management Philosophy Risk Orientation Time Frame Objective Cultural Differences Control Oriented Control Mechanisms Short Term Cost Control Individualism / High Power distance Involvement Oriented Trust Long Term Performance Enhancement Collectivism / Low Power distance Source: Davis, Schoorman, and Donaldson (1997: 39) Amir H. Ghazinoori, ASB (UNSW)
  16. 16. Minimize Potential Costs Mutual Agency Relationship Agent Acts Opportunistically Principle is Angry Principle is Betrayed Principal Acts Opportunistically Manager is Frustrated Manager is Betrayed Maximize Potential Performance Mutual Stewardship Relationship Agent Steward AgentSteward Principal’s Choice Manager’sChoice 1 43 2 16 Source: Davis, Schoorman, and Donaldson (1997: 39) Amir H. Ghazinoori, ASB (UNSW)
  17. 17. Arrow, K. J. (1985). Informational structure of the firm. The American Economic Review, 75(2), 303-307. Barney, J., & Hesterly, Organizational Economics: Understanding the Relationship between Organizations and Economic Activity. Chapter 4 in Clegg, Stewart R., Stewart Clegg, and Cynthia Hardy, eds. Studying organization: theory and method. Sage, 1999, London, 109-141. Berle, A. A., & Means, G. G. C. (1932). The modern corporation and private property. Transaction Books. Coase, R. H. (1937). The nature of the firm. economica, 4(16), 386-405. Davis, J. H., Schoorman, F. D., & Donaldson, L. (1997). Toward a stewardship theory of management. Academy of Management review, 22(1), 20-47. Donaldson, L., & Davis, J. H. (1991). Stewardship theory or agency theory: CEO governance and shareholder returns. Australian journal of management, 16(1), 49-64. Donaldson, L. (1985). In defence of organization theory: A reply to the critics (Vol. 9). CUP Archive. Donaldson, L. (1995). American anti-management theories of organization: A critique of paradigm proliferation (Vol. 25). Cambridge University Press. Eisenhardt, K. M. (1989). Making fast strategic decisions in high-velocity environments. Academy of Management journal, 32(3), 543-576. Hirsch, P. M., Friedman, R., & Koza, M. P. (1990). Collaboration or paradigm shift?: Caveat emptor and the risk of romance with economic models for strategy and policy research. Organization Science, 1(1), 87-97. Jensen, M. C., & Meckling, W. H. (1976). Theory of the firm: Managerial behavior, agency costs and ownership structure. Journal of financial economics, 3(4), 305-360. Perrow, C., Reiss, A. J., & Wilensky, H. L. (1986). Complex organizations: A critical essay (Vol. 3). New York: McGraw-Hill. Pratt, J. W., & Zeckhauser, R. J. (1985). Principals and agents: an overview. Principals and agents: The structure of business, 1, 12-15. 17Amir H. Ghazinoori, ASB (UNSW)
  18. 18. 18Amir H. Ghazinoori, ASB (UNSW)

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