How is agency theory relevant today?

Expert Answers info

Alfred Thiel eNotes educator | Certified Educator

calendarEducator since 2018

write314 answers

starTop subjects are Business, Literature, and History

Agency theory can be used to explain current corporate governance strategies. The agency theory is used to understand the relationship between managers and shareholders. The managers are known as the agents while the shareholders or stakeholders are the principals. Agency theory states that the agent has to work in the best interests of the principal. The shareholders of any company want the value of the company to go up so that the value of their shares can also rise. They prefer strategies that are less risky and result in steady growth. Last year, there were huge mergers and acquisitions partly driven by the desire of most blue-chip firms to remain on top. In such cases, the agents or management chose the path that would lead to maximum shareholder value and return.

check Approved by eNotes Editorial

jraineharrison eNotes educator | Certified Educator

briefcaseCollege Professor, Professional Writer


calendarEducator since 2013

write138 answers

starTop subjects are Business, History, and Social Sciences

Agency theory developed in the 1960s and 1970s. The idea asserted that a principal (organization, leader) delegated authority to an agent (manager). The agent was then expected to act in the best interest of the principal, but there was no assurance that an agent would always act in the best interests of the principal or that the agent's behavior would be appropriate.

Today, the principal and agent relationship continues to exist. Managers are often considered agents of organizations, which are the principals. Principals often delegate work to the agent, expecting the agent to carry out that work in the best interest of the organization and the organization's stakeholders.  Unfortunately, the agent does not always act in the best interest of the principal. The agent may act in his or her own best interest or the best interest of that agent's particular division. This creates a dichotomy in the agent and principal relationship. Furthermore, when an agent does not act in the best interest of the principal, the agent places the principal at financial risk and possibly legal risk as well.



dickiej | Student

Agency theory is used to evaluate the connections that exist between the leaders and other representatives in an organisation. This theory is used in solving the issues that prevail in agency rapports. The problems may arise in case there lack common business goals or due to various risks that may occur at different levels. For instance, the connection between shareholders and organisational leaders is an example of an agency relationship.

Agency theory is relevant in the modern world as it is considered in corporate governance. The approach plays a significant role in changing the rules that monitor an agent’s actions as it seeks to maintain the chief executive’s interests. Additionally, the agents need incentives as a form of encouragement to align their goals with those of the principals. Therefore, the agency theory is considered while designing the spurs and it evaluates the conditions that match the agent’s interests. Agency theory also helps individuals in corporate governance comprehend the mechanism that engineer problems that contribute to business performance through the development of an appropriate corporate strategy.