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The Agency Concept

Agency theory says that a company is not a single, unified entity . Agency theory

calls into question the claim that all of the stakeholders in the company (shareholders,

managers, and creditors) have a single goal - value creation. Agency theory shows how, on the

contrary, their interests may differ and some decisions related to borrowing for example or how

products stock options come out of attempts to achieve convergence between the interests of

managers and shareholders to protect creditors . Agency theory analyses the consequences of

certain financial decisions in terms of risk , profitability and, more generally, the interests of the

various parties. Agency theory is the intellectual basis of corporate governance (Corporate

Finance by Vernimmen.com). The main driver for corporate governance is based on the agency

concept. Here corporate bodies are overseen by directors who are appointed by the owners, i.e

stakeholders. The directors formulate a corporate strategy to achieve set objectives and meet

market expectations, and in turn, employ managers and staff to implement this strategy (The

essential handbook of internal audit ing by Spencer Pickett). The directors are considered as

the brain of the company and the managers and staff are the body. It is the board of directors

who make strategies for the company to achieve its objectives. They make decisions and form

concepts or strategies for the company s objectives and create a team for implementation. The

managers and staff are authorized employees who perform the established strategy that should

be implemented.

Agency theory is part of the positivist group theories which derives from the financial

economics literature. It postulates that the firm consists of a nexus of contracts between the

owners of economic resources (the principal) and managers (the agents) who are charged with

using and controlling those resources (Managerial auditing journal by Adams, Michaels B.). A

simple agency model suggests that, as a result of information asymmetries and self-interest,

principals lack reasons to trust their agents and will seek to resolve these concerns by putting in

place mechanisms to align the interests of agents with principals and to reduce the scope for

information asymmetries and opportunistic behavior. (Agency theory and the role of audit ICA

England and Wales 2005). It is having an influence to an agent to perform their task as it

should be. To make sure that an agent will accomplish its task given by the principal. To ensure

that all agents are trustworthy because being an agent are usually more knowledgeable than its

principal. In this kind of relationship we cant avoid that sometimes the principal and the agent

has a different interest that will trigger their trust. And having a different interest an agent can be

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