Corporate Governance: Agency Theory, Stakeholder Theory and Identification of Issues

This article discusses the agency theory, stakeholder theory, and identification of issues in corporate governance using the Volkswagen scandal as an example. It also highlights the importance of effective communication and two-way approach in management.

Running head: CORPORATE GOVERNANCE
Corporate governance
Name of the student
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Author note

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In the modern day scenario, the legal codes form a very important part of the company
and the ethics of the company. However, the most important part of this ethics is that the laws
must be similar for all. The workers, CEO, Board of Directors and all the other employees of the
organization must be sticking to all the aspects of the legal codes. One such incident happened in
the Volkswagen Company. There was a scandal when the company installed the defeat devices
into the cars that were sold mainly to the customers of the US. The CEO of this company along
with the Board of Directors was responsible for this (Hotten 2015). The CEO along with the
board of directors were found guilty of being dishonest and taking the undue advantage of the
emotions and the faith of the customers. So this assignment will be talking about the agency
theory that talks about the separation between the management t and the control, of the company.
The Agency theory separates the control and the management. This is because there is a
line of difference between the owner of the company and also the ones who are in the control of
the company. This is because the CEO often is busy in several other works and he gives all the
power in the hands of the board of directors (Mitnick 2015). It is for this reason that often the
Board of directors make different kinds of decisions that are not really conveyed to the CEO in
the proper time and the proper way. The same was the case in the Volkswagen Company. It was
found in the year 2015 September that all the units which the company had sold in the year 2005
and 2015 in the United Nations. It was found that there was this device called the defeat device
installed in the engines of these cars. This was totally unknown to the customers who bought the
car. These devices were responsible for emitting a huge amount of fumes into the atmosphere.
There was a huge emission of the harmful gases like the carbon dioxide, and the other such
harmful gases as well. As a result of this then there was a huge allegation on the company that it
has destroyed the trust of the customers which they had invested in the company for several

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years. It was however for the supervisory board to look into the matter that the operation of the
work is being carried on properly. It was two engineers who designed his plan and invented this
device called the defeat device and installed them in the engineers of these cars. On being caught
the CEO resigned saying that this was really a huge mistake on the part of the company and they
have actually broken the trust of their customers. He was deeply apologetic saying that the
company has really broken the trust of the customers. He realized and also acknowledged top
this fact that the rules of the company are for all and even the board of directors and the
supervisors must have adhered to it. However it was really the fault of the supervisors that they
allowed such dishonesty and disloyalty and had broken the trust of the customers for so many
years. However the board of directors did not resign and this is really very bad on their parts.
This is because it was their duty to make sufficient efforts for apologizing to the customers. The
person who became the new CEO of Volkswagen was also of the opinion that the first and
foremost duty will be to restore back the trust of their customers that they have ruined.
Determination of the stakeholders
In the current time, contemporary business organizations are having different and diverse
set of stakeholders who all are having different level of interest and power. Thus, it is important
for the business organizations to effectively determine the opinions of all the stakeholders in
place. According to the stakeholder theory, it is important for the board of directors to consider
the opinions and feedback of all the involved stakeholders. In addition, this theory also stated
that every stakeholder should have equal representation in the board of directors and decision
making process (Harrison ad Wicks 2013). However, it is also to be noted that contemporary
business organizations should determine the difference between the stakeholders and

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shareholders. This is due to the reason that in the case of diesel gates scandal for Volkswagen,
the main issue raised due to the conflict between their stakeholders and shareholders.
Stakeholders for them include the environment activists who are protesting against the
unethical business practices regarding the emission. On the other hand, shareholders of
Volkswagen are the investors and they are pushing for more profitability, which is further
leading to the initiation of the unethical business practices. According to the stakeholder theory,
all the involved stakeholders should be effectively determined in terms of their interest. Thus, the
interest of environment activists is limited to the protection of the environment and regulation of
the unethical business practices of Volkswagen. On the other hand, investors of Volkswagen are
more concerned with the economical aspects and profitability of the business (Bridoux and
Stoelhorst 2014). It is also been noted that Volkswagen’s board of directors were more
influenced by the opinions of the investors and thus they initiated the unethical business practices
in order to enhance their profitability.
Thus according to the stakeholder theory, board of directors is having the responsibility
of determining the opinion of the stakeholders such as environment activists also. In this case,
they should have the corporate government mechanism where external stakeholders such as
activists and the customers will also be involved in decision making process (Bushee, Carter and
Gerakos 2013). On the other hand, it is also the major responsibility of the investors to track the
opinion of the external stakeholders. This will enable them to identify the potential risks in terms
of their business operation. The more effective will be the determination of the opinion of the
external stakeholder; the lower will be the probability of emergence of the risk.

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Identification of the corporate governance issues
One of the major corporate governance issues being identified is the one way
communication and top down approach of the management. In the given case study, it is
identified that the decision of initiating the cheating device in the diesel cars is being taken by
the upper level management. In this case, the feedback from other internal and external
stakeholders is not being considered. This led to the lack of determination of the potential risk
from the external stakeholders that further contributed in the scandal (Filatotchev and Nakajima
2014).
Another major issue in terms of the corporate governance of Volkswagen is ineffective
business communication mechanism. This is due to the reason that after the revelation of the
scandal, Volkswagen had not being able to effectively communicate the issue to their external
stakeholders (Pearson 2017). This is due to the reason that in the case study it is stated that
Volkswagen at first denied the allegations against them and again they tried to pass off the
allegations to some of their employees. This caused further amplification of the issue for them in
among the external stakeholders.
It can be concluded that if Volkswagen had two ways approaches in their internal
management then they would have being able to determine the opinion of their external
stakeholders. Thus, if the employees and the external stakeholders can get involved in the
decision making process then issues and challenges of all of them can be effectively determined.
This will help to reduce the probability of emergence of this type of issue for Volkswagen in
future. It can also be concluded that if Volkswagen can accept the allegations against them in the
first place and initiated rectifying measures accordingly, then it would become more effective for

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them to resolve the issues. This is due to the reason that if Volkswagen accepted their fault in the
first place, then the major external stakeholders would not get to have negative impression about
them. In addition, the lawsuits faced by them would be less and also the issue would have been
less amplified.
So, it can be concluded that there has to be a proper connection between the owners of
the company and the supervisors. This is because the agency theory says that there is a gap
between the ownership and the control of the company. However, the ethical and legal rules
must be equal for all and each and every one must be following those rules. Even if there are
some scandals taking place in the company as happened in the case of Volkswagen then it is the
duty of both the CEO and the board of Directors to resign and to apologize from the people
whom they have cheated for so many years.

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Reference
Bridoux, F. and Stoelhorst, J.W., 2014. Microfoundations for stakeholder theory: Managing
stakeholders with heterogeneous motives. Strategic Management Journal, 35(1), pp.107-125.
Bushee, B.J., Carter, M.E. and Gerakos, J., 2013. Institutional investor preferences for corporate
governance mechanisms. Journal of Management Accounting Research, 26(2), pp.123-149.
Filatotchev, I. and Nakajima, C., 2014. Corporate governance, responsible managerial behavior,
and corporate social responsibility: Organizational efficiency versus organizational
legitimacy?. The Academy of Management Perspectives, 28(3), pp.289-306.
Harrison, J.S. and Wicks, A.C., 2013. Stakeholder theory, value, and firm performance. Business
ethics quarterly, 23(1), pp.97-124.
Hotten, R., 2015. Volkswagen: The scandal explained-BBC News. BBCNews.
Mitnick, B.M., 2015. Agency theory. Wiley Encyclopedia of Management.
Pearson, R., 2017. Business ethics as communication ethics: Public relations practice and the
idea of dialogue. In Public relations theory (pp. 111-131). Routledge.