3. Agency conflicts between managers and shareholders Remember, an agency relationship can degenerate into an agency conflict when an agent acts in a manner that is not in the best interest of his or her principal. In large corporations, these conflicts most frequently involve the enrichment of the firm's executives or managers (in the form of money and perquisites or power and prestige) at the expense of the company's shareholders. This usurping and reallocation of shareholder wealth is most likely to occur when shareholders do not have sufficient information about the decisions and actions being made by the firm's management. Consider the following scenario and determine whether an agency conflict exists: Jacob and Kayla equally own and manage A New Beginning (ANB), a store that sells preowned clothing and furniture. Jacob is responsible for ANB's back-office activities, and Kayla staffs the store and makes deliveries to customers. Both have equal decisionmaking authority and, under the terms of their partnership agreement, both are prohibited from making personal purchases using company funds without prior approval of the other partner. Jacob, without Kayla's knowledge, used the company's bank account recently to purchase a new sports car. Jacob has acknowledged that the car will not be used to support the business. Is this a potential agency confict between Jacob and Kayla? Yes; Jacob is misappropriating some of Kayla's wealth by unilaterally purchasing a nonbusiness asset using ANB's funds. No; Jacob and Kayla co-own and co-manage ANB and have a partnership agreement that makes them equal, so an agency conflict cannot exist. No; Jacob and Kayla are both authorized to spend ANB's money, so no conflict of interest can occur. Yes; it should have been Kayla who purchased the car. Consider the following scenario and determine whether an agency conflict exists: Five years ago, Hasan created a plant-care business that grew, stocked, and maintained fresh plants in office buildings throughout Oklahoma City. Over time, The Green Zone Inc. (TGZ) has grown from a proprietorship into a corporation, now reaching far beyond Oklahoma City. To finance and support this growth, TGZ issued shares that were sold to TGZ employees, Hasan's family members, and selected outsiders. Hasan is TGZ's chairman of the board of directors and CEO, but he is no longer the largest shareholder. At the latest annual meeting, two mutually exclusive proposals were placed on the ballot for discussion and vote. The first was put forth by Hasan and TGZ's management team, and the second was proposed by a small group of other shareholders. Both groups are adamantly opposed to the other group's proposal, even though both proposals would likely have the same effect on TGZ's value and riskiness: Does an agency conflict exist between TGZ's management and the small group of opposing shareholders? No; although an agency relationship exists between TGZ's management-including Hasan as TGZ's chairman and CEO and the firm's shareholders - there is no agency conflict, because no expropriation or wasting of the shareholders' wealth has occurred. No; Hasan was the original owner of TGz, so he would always be sensitive to the concerns of the firm's current owners (shareholders) and would not engage in an agency conflict. Yes; an agency relationship exists, and an agency relationship always gives rise to agency conflicts, regardless of the actual behavior of the participants. Yes; any conflict or disagreement between the firm's managers and its shareholders constitutes an agency conflict. No; Hasan was the original owner of TGZ, so he would always be sensitive to the concerns of the firm's current owners (shareholders) and would not engage in an agency conflict. Yes; an agency relationship exists, and an agency relationship always gives rise to agency conflicts, regardless of the actual behavior of the participants. Yes; any conflict or disagreement between the firm's managers and its shareholders constitutes an agency conflict. Which of the following actions will help ease agency conflicts and better align managers' objectives with the firm's shareholder wealth? Pay the manager a large base salary with a huge stock option package that matures on a single date. Pay the manager a combination of salary and stock options (phased in over several years) that reward him or her for consistently increasing shareholder wealth. True or False: A small number of institutional investors are often able and motivated to bring direct shareholder pressure on a firm's management in an effort to reduce potential agency conflicts. False True In the late 1980 s and early 1990 s, Congress passed legislation making it more difficult for outside investors to stage hostile takeovers. This legislation likely conflicts between managers and stockholders