7. 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 firms executives or managers (in the form of money and perquisites or power and prestige) at the expense of the companys 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 firms management.

Consider the following scenario and determine whether an agency conflict exists:

Daniel owns Daniels Tantalizing Tees, a T-shirt shop in a small college town in Kansas. With a staff of three part-time employees, Daniel operates the business in accordance with his personal goals, dreams, and capabilities.

Does Daniel have an agency conflict to deal with?

No; by having part-time, as opposed to full-time, employees, Daniel is prevented from experiencing an agency conflict.

Yes; as both the owner and operator of Daniels Tantalizing Tees, Daniel has created the necessary agency relationship through which an agency conflict can exist.

Yes; there is always an inherent conflict of interest between owners and operators (managers).

No; as both the owner and operator of Daniels Tantalizing Tees, Daniel has not created the necessary agency relationship through which an agency conflict can exist.

Consulting firms and human resource departments have spent innumerable hours attempting to develop executive compensation programs that will align the goals of a firms managers with those of the firms shareholders. Which of the following compensation packages is most likely to accomplish this task?

An annual salary of $500,000 and a stock option bonus package that provides 100,000 shares after one year

An annual salary of $800,000

An annual salary of $250,000 and a stock option bonus package that provides 250,000 shares after five years

An annual salary of $500,000 and a stock option bonus package for a total of 250,000 shares, with 50,000 shares vesting at the end of each of the next five years

In addition to well-designed executive compensation packages, two other motivational forces can align the interests of managers with those of their shareholders. Which of the following actions could be used to reduce the potential for these agency conflicts and ensure that the firms managers will pursue the long-term wealth interests of their shareholders?

Let the manager know that a takeover is possible if he or she doesnt perform well.

Let the manager know that he or she will be fired if the companys stock does not reach a certain target by the end of the year.