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KembaraXtra- Financial Terms- agency relationship refers to a relationship where a principal appoints an agent to perform services or make decisions on the principal’s behalf.
The arrangement involves delegating authority, which creates the possibility that the agent may not always act entirely in the principal’s best interests.
To reduce this risk, principals often incur monitoring costs to supervise and control the agent’s behavior, while agents may incur bonding costs to assure principals of their reliability.
Even with monitoring, agents may still make decisions that do not fully maximize the principal’s welfare, creating what is known as residual loss. Together, monitoring costs, bonding costs, and residual loss form agency costs.
Agency theory became especially important after major corporate scandals such as Enron and WorldCom in 2002, which highlighted problems caused by conflicting interests and asymmetric information between managers and shareholders.
The arrangement involves delegating authority, which creates the possibility that the agent may not always act entirely in the principal’s best interests.
To reduce this risk, principals often incur monitoring costs to supervise and control the agent’s behavior, while agents may incur bonding costs to assure principals of their reliability.
Even with monitoring, agents may still make decisions that do not fully maximize the principal’s welfare, creating what is known as residual loss. Together, monitoring costs, bonding costs, and residual loss form agency costs.
Agency theory became especially important after major corporate scandals such as Enron and WorldCom in 2002, which highlighted problems caused by conflicting interests and asymmetric information between managers and shareholders.
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