Agency Costs in Corporate Governance
The information asymmetry that exists between shareholders and the Chief Executive Officer is generally considered to be a classic example of a principal–agent problem. The agent (the manager) is working on behalf of the principal (the shareholders), who does not observe the actions, or many of the actions, or is not aware of the repercussions of many of the actions of the agent. Most importantly, even if there was no asymmetric information, the design of the manager's contract would be crucial in order to maintain the relationship between their actions and the interests of shareholders.
Information asymmetry contributes to moral hazard and adverse selection problems.
Agency costs mainly arise due to contracting costs and the divergence of control, separation of ownership and control and the different objectives (rather than shareholder maximization) the managers.
Professor Michael Jensen of the Harvard Business School and the late Professor William Meckling of the Simon School of Business, University of Rochester wrote an influential paper in 1976 titled "Theory of the Firm: Managerial Behavior, Agency Costs and Ownership Structure". Professor Jensen also wrote an important paper with Eugene Fama of University of Chicago titled "Agency Problems and Residual Claims".
There are various actors in the field and various objectives that can incur costly correctional behaviour. The various actors are mentioned and their objectives are given below.
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