Understanding Agency Costs in Finance
Added on 2020-05-16
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Running Head: Financial ManagementPart B: Essay
Financial Management2Agency costs are actually the type of cost which occur internally, these arise and to be paid by the agent on behalf of the principal. The major cause of these types of cost is core problems like conflict of interest between management and shareholders. As the shareholdersperspective is to run the company in such a way that would maximise the interest of shareholders and to maximise their wealth (Petty, Titman, Keown, Martin, Martin and Burrow, 2015). On the other side management want to run the company in such a way that will help in growth of the company and in such a way that will maximise the powers of the management. Both the management and shareholders want to enhance their interest areas in the company that will lead to conflict of interest between management and shareholders. For example: Agency costs in a company occurred because of the conflicts between manager’s and shareholders of the company (Posner, 2014). Shareholders want to maximise their wealthand the company to run in such a way that will maximise their wealth on the other hand manager’s want that the company’s profits will maximise that will positively affect their salaries and increase the level of their bonus. Both manger’s and shareholders views are conflicting this will tend to increase the happening of agency costs. In public companies, agency cost take place when the agent say company’s management keeps their own or say personal interest above the interest of shareholders say principle. We can say that agency cost can be either of the two:a)The cost incurred if the agent uses the company’s asset for his own use or for personalbenefit orb)The techniques used by the principals to mitigate the interest of shareholders or to restrict them from prioritising their interest, the cost involved for these techniques is agency cost (LaRiviere, McMahon and Neilson, 2017).Agency costs are the costs which are borne by the shareholders to prevent the agency problems and to maximise their wealth. Shareholders offer some financial incentives to the agents to keep their interest on top priority. This means that shareholders will offer incentivesto management when the share prices increases. These incentives in monetary terms which are paid by the shareholders are an example of the agency cost. Shareholders need to incur four types of costs these are:Cost of MonitoringBonding CostOpportunity costStructuring Cost
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