p1 Acca Lesson2

Session Objectives
Topic 2
Agency Relationships and Theories
Describe Agency relationships Define and explain agency theory Explain and analyse transaction cost theory Explain and analyse stakeholder theory
accountingclassroom.com 2008
Student Notes for ACCA P1-Professional Accountant
Principal-Agent Relationships
Agency
Agency implies acting on behalf of another (principal) in dealing with others. Agency involves agency costs or money and resources expended by principal in monitoring agent.
Agents Responsibilities
Accountability Fiduciary duty Personal performance Obedience Skill No conflict of interest Confidentiality Handing over benefits
accountingclassroom.com 2008 Student Notes for ACCA P1-Professional Accountant
Main Theories of Agency Relationships

Agency theory Transaction cost theory Stakeholder theory
Agency Theory
It is a group of concepts describing the nature of the agency relationship deriving from separation between ownership and control. The theory:
Provides a foundation for understanding the governance issue in greater depth Provides a link between an historical perspective and its application in modern governance issues
Key Concepts of Agency Theory

Agent Agency Agency costs Accountable Fiduciary responsibility Stakeholders
Cost of Agency Relationships

Residual loss: Directors furnishing themselves with expensive cars, planes etc. This is loss to shareholders Agency cost: Cost of monitoring the agent
Remuneration packages and incentive schemes Costs of meeting with financial analysts and principal shareholders Costs of accepting higher risks than what shareholders would like
Agent Accountability
Accountability relates to:
The need to act in shareholders interests The need to provide good information such as audited accounts and annual reports The need to operate within a well defined legal system
Maintaining Agent Accountability

Market mechanism Shareholder Activities Regulation
Code of Conduct and Recommendations

Compliance is voluntary Issued by government and stock exchanges Examples:
ACCA Code OECD Code of ethics Combined code of corporate governance adopted by FSA
Examples of Agent Accountability

Directors Shareholders Managers Directors Employees Managers Management Creditors Auditors Shareholders
Transaction Cost Theory

When a company tries to determine whether to outsource or to produce goods or services on its own, market prices aren't the sole factor.
There are also significant transaction costs, search costs, contracting costs and coordination costs.
Transaction Costs the Deciding Factor

Search and information costs to find a supplier Bargaining and decision costs Policing and enforcement costs
Difficulties Analysing Transaction Costs

Bounded rationality or limited capacity to understand business situations Opportunism or actions taken in the individuals best interests
Primary Drivers: Variables Dictating the Decision

Frequency of use of service Uncertainty
The higher the uncertainty, the greater the need to coordinate
Stakeholder Theory
Business is permitted and encouraged by the law because it is of service to the community rather than because it is a source of profits to its owners.
- E. Merrick Dodd
Asset specificity
Amount the manager will personally gain
What are Stakeholders?

Any organisation or person that can affect or be affected by the policies or activities of an entity. - Freeman
Stakeholders
Owners / Shareholders Employees Customers Suppliers Community
Mendelows Stakeholder Power Mapping

The two axes of Mendelows window are power held and likelihood of showing an interest in the organisations activities.
Power is the stakeholders ability to influence objectives Interest is the stakeholders willingness
Influence = Power x Interest
Stakeholder Theory vs. Agency Theory

Stakeholder theory may be a necessary outcome of agency theory Agency theory is a narrow form of stakeholder theory Both theories involve explicit as well as implicit contract with the basic objective to align divergent interests Must uphold an implicit moral minimum that included fundamental rights / principles / assumptions.
Classification of Stakeholders
Proximity to organisation
Internal such as employees / management Connected such as shareholders, customers, suppliers, lenders, competitors, trade unions External such as government, local government, public, pressure groups
Narrow and wide stakeholders
Narrow: Most affected by organisations strategy such as shareholders, suppliers Wide: Less affected by organisations strategy such as government, community
Primary and secondary stakeholders
Primary: Need participation to continue as going concern such as customers, suppliers Secondary: Their ceasing to participate will not affect continued existence such as government
Active and passive stakeholders
Active: Seek to participate in organisations activities such as managers, shareholders, regulators etc Passive: Do not seek to participate in policymaking such as shareholders etc.

p1 Acca Lesson2

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Session Objectives

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Main Theories of Agency Relationships

Student Notes for ACCA P1-Professional Accountant

Key Concepts of Agency Theory

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Cost of Agency Relationships

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Maintaining Agent Accountability

Code of Conduct and Recommendations

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Examples of Agent Accountability

Transaction Cost Theory

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Transaction Costs the Deciding Factor

Difficulties Analysing Transaction Costs

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Primary Drivers: Variables Dictating the Decision

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

What are Stakeholders?

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Mendelows Stakeholder Power Mapping

Mendelows Stakeholder Power Mapping

Influence = Power x Interest

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Mendelows Stakeholder Power Mapping

Stakeholder Theory vs. Agency Theory

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

Student Notes for ACCA P1-Professional Accountant

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