Agency Cost and Corporate Governance Mechanisms in Finance

This essay provides an analysis of agency costs arising from the separation of ownership and control in organizations, as described by Jensen and Meckling (1976). It explores different scenarios that illustrate varying levels and types of agency costs, including costs associated with opportunistic behavior, monitoring, and bonding. The essay also examines the role of corporate governance mechanisms, such as external and internal audits, in mitigating these costs. Specific attention is given to scenarios involving external investment, debt financing, and potential conflicts between different types of shareholders, referencing the work of Coffee et al. (2018). The analysis offers insights for investors to understand and manage risks associated with agency problems by implementing appropriate governance strategies.

Running head: ADVANCE FINANCIAL ACCOUNTING
Advance Financial Accounting
Name of the Student:
Name of the University:
Authors Note:

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Table of Contents
Introduction:...............................................................................................................................2
1. Detecting the level of agency cost associated with different scenarios:................................2
2. Detecting the different kind of agency cost that is associated with scenarios:......................2
3. Detecting the corporate governance mechanism needed for each situation and agency cost:
....................................................................................................................................................3
Conclusion:................................................................................................................................4
References:.................................................................................................................................5

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Introduction:
The significance and different level of agency cost is depicted in the assessment,
which can help investors understand the current risk in investment. In addition, the different
type of corporate governance measures that is needed under different agency situations are
adequately depicted, which allows the investor to mitigate the risk from investment.
1. Detecting the level of agency cost associated with different scenarios:
Scenarios Level of Agency Cost
Scenario 1 1. The scenario is high agency cost, as Birim Equity is not allowed in the
management
2. The scenario has medium agency cost, as Birim Equity is allowed in the
management
Scenario 2 The scenario indicates that there is high level of agency cost, as Michael
Bloomberg intends to invest in listed company.
Scenario 3 The scenario indicates that a high level of agency cost, where the organisation
that is been chosen for investment has high debt (Coffee et al. 2018).
2. Detecting the different kind of agency cost that is associated with scenarios:
Scenarios Kind of Agency Cost
Scenario 1 1. The scenario indicates that Birim Equity has not been allowed in the
management, which initiates costs of opportunistic behaviour by the
agent agency cost, as the management is placing his own self-interest over
that of the principal (Kim and Sorensen 1986).
2. The alteration in the scenario, where Birim equity is allowed in the
management, then costs to the principal of monitoring the agent,

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initiated.
Scenario 2 The scenario depicts the listing company is taken into consideration for
investment, which relevantly increases the agency cost concern, where costs
to the principal of monitoring the agent is initiated.
Scenario 3 The last scenario indicates that investment in an organisation with high debt is
conducted, where bonding cost under the agency cost is initiated (Jensen and
Meckling 1976).
3. Detecting the corporate governance mechanism needed for each situation and agency
cost:
Scenarios Corporate governance mechanism used for Agency Cost
Scenario 1 1. The agency cost identified under the situation relevantly poses different
threats, where the presence of External Audit Corporate Governance
Mechanism can help in reducing the implications of the agency cost.
2. The situation indicates a relevant agency cost, where the investors is
present within the organisation, which directly initiates the Internal Audit
Corporate Governance Mechanism.
Scenario 2 The investment is conducted in a listed company, where agency cost occurs
and needs to be contained by initiating Independent Audit Corporate
Governance Mechanism.
Scenario 3 The investment is conducted in a company with high debt, where the agency
cost is relevantly at high level, which directly initiates the Independent Audit
Corporate Governance Mechanism (Bosse and Phillips 2016).

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Conclusion:
The assessment directly evaluates different level of agency cost and corporate
governance mechanism, which are used for reducing the implication of such costs. The
scenarios have posed three different agency cost measures, which can be contained
adequately. Therefore, investors with the above identified measures and evaluation could
understand the different level of agency cost, which can hinder their investment scope.
Hence, the identified corporate governance can be used under different similar situations for
reducing the implications of agency cost.
.

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References:
Bosse, D.A. and Phillips, R.A., 2016. Agency theory and bounded self-interest. Academy of
Management Review, 41(2), pp.276-297.
Coffee, J. C., Jackson, R. J., Mitts, J., and Bishop, R. 2018. Activist Directors and Agency
Costs: What Happens When an Activist Director Goes on the Board?
Jensen, M. C., and Meckling, W. H. 1976. Theory of the firm: Managerial behavior, agency
costs and ownership structure. Journal of financial economics, 3(4), 305-360.
Kim, W. S., and Sorensen, E. H. 1986. Evidence on the impact of the agency costs of debt on
corporate debt policy. Journal of Financial and quantitative analysis, 21(2), 131-144.