Unethical Status (Ageincy Problem) - Case Study Example

Unethical Status (Ageincy Problem) Agency relationship occurs when shareholders (principals) hire another person or persons (agents) to undertake certain duties on behalf of them (principals). Agency theory portrays the firm as a nexus of contracts between the holders of resources. This paper explores the type of conflict in the case, effect on stakeholders, type of costs involved and how to minimize the conflict. Shareholder-Management Conflict: The case involves agency conflict between shareholders and the management.

When managers hide some information from shareholders, an agency problem arises. A conflict ensues between shareholders and the managers of the organisation. Managers will most often try to pursue self-interest gains at the expense of shareholders in an imperfect market. According to agency theory, agency problem arises when managers put their self-interest goals before those of shareholders.The asymmetric flow of information in an imperfect market makes it possible for managers to pursue their self-interests rather than that of the organisation (Bhabatosh, 2008).

For example, managers are usually in a better opposition to know the ability of the organisation to meet shareholders expectations than the shareholders. Because of uncertainties in the market, managers can always influence the outcome of the performance of the organisation. They can manipulate the results to be positive or negative in pursuit of self-interests. The conflict between shareholders arises when managers seek for deals that reduce the profit of the firm. For example, when managers seek for perquisites and pay rise, there may be a conflict between shareholders and the managers because this would most likely reduce the shareholder value.

Another example is when managers try to avoid optimal risks contrary to the expectations of shareholders (Bhabatosh, 2008). Effect of the Conflict on Stakeholders When managers avoid certain risky investment opportunities for which shareholders would most likely prefer to venture in because of high gains involved, there is likely to be a clash between the management and shareholders of the company. When outside investors realise that the decision of the company is contradicting their own expectations and, thus not in their best interest, the result is discounting the prices that they can willingly pay for the shares of the company.

Agency Costs Unethical behaviour where managers take make unobserved actions courtesy of the inability of the shareholders to monitor all managerial actions leads to a morality crisis that demands shareholders to incur certain agency costs in order to keep managers on check (Kapil, 2011). Agency costs are those that are borne by shareholders in attempts to motivate managers to act in the best interest of the organisation rather than pursuing their individual interests. There are usually three main agency costs incurred by shareholders.

First, shareholders are faced with the cost of monitoring the actions of the management (Kapil, 2011; Jensen & Meckling, 1976). Monitoring cost include audit cost to check on possible unethical behaviour of the management over a given financial period. Second, shareholders will have to incur structuring costs in a bid to establish organisational structure that will diminish the possibility of unethical behaviour among the management of the company (Kapil, 2011). These costs may include the appointment of independent persons outside the company to the board of directors or reducing organisational hierarchy.

Lastly, shareholders also incur the agents’