Agency Problems In Business

1850 Words8 Pages
In today’s business world, where big companies deal with millions or possibly billions of dollars, several things could go wrong even if the best precautions are taken. For instance, issues may arise between those who manage the company (managers) and those who provide capital to the business by buying shares of stock (shareholders). Agency problems can be defined as the inseparable and natural risk of conflict of interest in the case where one party is expected to perform to the best interests of another party. As such is the case of the relationship between company managers and shareholders, where the managers (acting as agents for the shareholders, or principals) are required to work towards maximising the benefits and wealth of the shareholders…show more content…
This can mainly be attributed to the high level of conflict of interest (the two parties having different interests) existing in such a relationship, and also due to the presence of asymmetric information between the two parties. Additionally, the structure of the corporate governance of a company is often cited as a contributory factor to agency problem incidents. First, differences in the priorities or interests between the corporate managers and the stockholders have for long been identified and accepted in the business world, as per Jerzemowska, M (2006), such differences could arise due to several factor which will be discussed hereafter. To begin with, conflict of interest could occur when the managers misuse the company’s financials in an attempt to benefit themselves rather than the owners, an example is when a manager uses company-owned money to pay personal obligations. Another theory related to the conflict of interest between the two parties assumes that managers are risk averse due to the nature of their job, which is often filled with continuous pressure and specific demands, and as a consequence, managers would not focus on investments which might put their position at risk. Furthermore, not only do managers prefer to “play it safe”, but they also lean towards lower financial leverage, meaning that they tend to…show more content…
di Stefano (2005) states that WorldCom assets were exaggerated by as much as 11 billion US dollars in total. WorldCom CEO Bernard Embers committed various financial crimes but the one that is particularly related to agency problem is “executive compensation” which was the result of conflict of interest as the CEO followed his own interests and damaged the shareholders’ interests. Embers used the company’s assets to underwrite $400 million worth of personal loans at a discounted rate of 2.15%, so the company was taking on debts to award its executives with a higher pay (Hanks, G. 2008). As a consequence, there were 30,000 job lay offs and a shocking 180 billion US dollars in losses for the investors. Also, Embers was sentenced to 25 years in prison (di Stefano, 2005). As huge as it is, this issue was avoidable if proper restrictions and procedures were in place. For instance, better monitoring could have been implemented by the shareholders to ensure that company financials are not used for the personal benefits of company executives, this could be done through a devoted and independent board of directors, in addition to the appointment of independent auditors. Although it might be a bit costly (monitoring costs) for shareholders to constantly monitor the company, it would be better than making extremely huge
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