AGENCY PROBLEMS THAT MAY OCCUR IN A BUSINESS FIRM

1. Agency Problems
by Sajna Fathima

2. Agency Problem
• The Principal-Agent Relationship
The Agent is the “person that acts,” whereas
the Principal is the person that receives the
benefits from the actions.
An agency relationship occurs when a principal
hires an agent to perform some duty.

3.  A conflict, known as an "agency problem," arises
when there is a conflict of interest between the
needs of the principal and the needs of the agent.
 The Agency Problem tries to solve the natural conflict of
interest that arises as a result of this principal agent
problem
 The dilemma exists because sometimes the agent is
motivated to act in his own best interests rather than
those of the principal.

4. agency relationships
In finance, there are two primary agency
relationships:
•Managers and stockholders
•Managers and creditors

5. Agency Costs
• These are costs incurred in an attempt to
push agents to act in the principal’s best
interest.
• They consist of three types:
– Direct contracting costs
– Monitoring costs
– Loss of principal’s wealth due to residual,
unresolved agency problems.

6. Agency Problem
• How do you resolve these conflicts?
– Monitoring
• Stockholders
• Bondholders
• Board of Directors
• Outside auditors
– Issues opinion regarding whether reports are consistent
with generally accepted accounting standards
– Qualified or unqualified opinion

7. Motivating Managers to Act in
Shareholders' Best Interests
There are four primary mechanisms for
motivating managers to act in stockholders' best
interests:
•Managerial compensation
•Direct intervention by stockholders
•Threat of firing
•Threat of takeovers