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Perceived managerial discretion and market competition (Principal-agent problem)
Finance & Accounting
Pages 15 (3765 words)
The principal-agent problem arises from the conflict of interest between the principal as represented by the shareholders and the agent as represented by the officers. The shareholders represent the owners of the organization and they want to maximize the wealth of the organization by investing in high-risk projects…
According to the agency theory, the principal-agent problem arises from conditions of incomplete or asymmetric information when one party tries to motivate another party to act on its behalf. These conditions can be observed in any employer/employee relationship. This is because the employer, the shareholders, wants the employees, the managers, to invest in those projects which offer higher returns. However the projects which offer higher returns also have higher uncertainty. Therefore the managers may not want to take the risk. As a result there is a conflict of interest which affects organizational objectives. This is the principal-agent problem which is addressed in the agency theory. In order to maximize organizational performance, the owners of the organization have to introduce incentives which will motivate the managers/employees to act in the best interests of the shareholders. Therefore the motivations of the principal and its agent are aligned strategically.
In the current business environment, change is the only constant. Therefore the organizational structure has to be flexible so that the organization can remain competitive in spite of the changes that are taking place in the external environment. A flexible organizational structure enables the principal and the agent to mobilize resources fast so that fast responses to market changes become possible. However if there is a conflict of interest between the two parties, then this objective cannot be attainable. ...
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