Two Specific Organizational Forms of Business and the Possible Implications of the Principal-Agent Problem - Assignment Example

Discussion 2 Week 8 Principal - Agenta) Briefly describe the principal-agent problem and the main causes of this problem in organizations. According to McGuigan, Moyer and Harris (2014), the principal agent problem exists “when the observability of management’s creative ingenuity and performance uncertainty occur simultaneously” (p. 563). For one, the causes, performance uncertainty could stem from inability to accurately predict unexpected external factors that could impinge of the operations of the organization.

Likewise, management’s creative ingenuity could be extremely diverse and inconsistent with expected roles and responsibilities in the organization. As emphasized, the occurrence of performance uncertainty was noted to have been spurred by risk-allocation concerns which impact on intentions to maximize profits.b) Identify two specific organizational forms of business and discuss the possible implications of the principal-agent problem for each of these organizational forms.Two specific organizational forms are the product-based organizational form and the functional form.

The functional form is structured according to different functional departments in the organization, such as the finance, sales, marketing, product development, accounting, and human resources. On the other hand, a product based organizational form is structured according to the organization’s product lines: electronics, appliances, consumer products, and others. A principal agent relationship is defined as a relationship which “occurs whenever one person acts in the interests of another” (Garger, 2010, p. 1). As emphasized by McGuigan, Moyer and Harris (2014), the principal-agent model ensues when “owner-principals hire manager-agents to stand in and conduct their business affairs” (p. 559). Accordingly, “in functional organization, the firm is divided into functional divisions, and a division manager has responsibility for a single function’s activities on behalf of all products.

In a product-based organization, the firm is organized into product divisions, and a division manager has responsibility for all functional activities in behalf of a single product” (Besanko, Regibeau, & Rockett, 2005, p. 461).The possible implications of a principal agent relationship in a functional organization versus product-based organizations are summed as follows: (1) measuring profitability in a product-based organization is easier due to the ease of offering incentives according to products; (2) when functions are deemed more significant in a functional organization, the latter is allegedly favored due to the ability to offer and apply incentive sensitivity principle; (3) in the presence of cross-product externalities within functional departments, findings revealed preference for favoring functional organizations due to the ability of function managers to imbibe externalities in their decision-making processes; and (4) “diseconomies of span generally favor the functional organization when one product is significantly more important to firm profitability than the other and favors the product organization when one function is significantly more important than the other” (Besanko, Regibeau, & Rockett, 2005, p. 461).(c) Evaluate the ability of each of the organizational forms which you have chosen on maximizing profits.

Provide the necessary economic rationale for your response. The ability of the functional organization form in maximizing profit is therefore deemed favoring the principal-agent relationship since the contribution of each department’s efforts to the organization’s bottom-line could be considered fairly equitable. In a product-based form, the organization determines which particular product contributes more to the profitability of the organization. As such, rewards could be given more to the manager handling a particular profitable product – and could be deemed unfair by other managers in less successful product, or for managers in other departments.

Likewise, managers in product-based organizations are constrained by factors influencing the particular product that are under their jurisdiction.References