Agency theory is a principle used to explain and resolve issues in the relationship between business principals and their agents. In corporate governance, the principal is typically a shareholder, while the agent is a company executive. The principal-agent problem occurs when the interests of the principal and agent come into conflict. Corporate governance can be used to change the rules under which the agent operates and restore the principals interests. To determine whether or not an agent acts in their principals best interest, the standard of "agency loss" has emerged as a commonly used metric.
Key features of agency theory in corporate governance include:
- Relationships: Agency theory is used to understand the relationships between agents and principals.
- Principal-Agent Problem: This occurs when the interests of a principal and agent come into conflict.
- Incentives: Agents must have incentives encouraging them to act in unison with the principals interests.
- Corporate Policy: Companies should seek to minimize situations where the interests of the principal and agent come into conflict through solid corporate policy.
- Corporate Governance: Corporate governance rules seek to align the incentives of officers and directors with those of shareholders.
Overall, agency theory is a popular theoretical framework in corporate governance that highlights areas where corporate interest groups are in conflict.
