agency cost

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Agency Costs

Costs that arise from the inefficiency of a relationship between an agent and a principal. In a publicly-traded company, agency costs may arise because the company's executives (the agents) may act in their own interest in a way that is detrimental to shareholders (the principals). For example, they may raise their own salaries to an unrealistic level. Agency costs are best reduced by providing appropriate incentives to align the interests of both agents and principals.
Farlex Financial Dictionary. © 2012 Farlex, Inc. All Rights Reserved

agency cost

a form of failure in the contractual relationship between a PRINCIPAL (the owner of a firm or other assets) and an AGENT (the person contacted by the principal to manage the firm or other assets). This failure arises because the principal cannot fully monitor the activities of the agent. Thus there is a possibility that an agent may not act in the interests of his principal, unless the principal can design an appropriate reward structure for the agent that aligns the agent's interests with those of the principal.

Agency relations can exist between firms, for example, licensing and franchising arrangements between the owner of a branded product (the principal) and licensees who wish to make and sell that product (agents). However, agency relations can also exist within firms, particularly in the relationship between the shareholders who own a public JOINT-STOCK COMPANY (the principals) and salaried professional managers who run the company (the agents). Agency costs can arise from slack effort by employees and the cost of monitoring and supervision designed to deter slack effort. See PRINCIPAL-AGENT THEORY, CONTRACT, TRANSACTION, DIVORCE OF OWNERSHIP FROM CONTROL, MANAGERIAL THEORIES OF THE FIRM, TEAM PRODUCTION.

Collins Dictionary of Economics, 4th ed. © C. Pass, B. Lowes, L. Davies 2005
References in periodicals archive ?
'Major cultural changes going forward - rationalise nursing shift patterns to reduce agency cost - better care but cheaper - hold our nerve'.
This study investigates the endogenous determination of firm efficiency and leverage while testing the competing hypotheses of agency cost, efficiency-risk and franchise-value, in a sample of 136 non-financial firms listed on the Pakistan Stock Exchange (PSX), over the period 2002 to 2012.
With the occurrence of agency problems, a company tries to minimize it by providing agency costs. Higher agency cost reflects higher complexity of agency problem in the company.
The key importance of this research is that it addresses corporate governance and agency cost relation, by the consideration of the code of corporate governance as an agency control mechanism for firms listed on the Pakistan Stock Exchange (PSX).
The regression was estimated and it was found that most of the firms in the industry have consistent dividend history so fewer chances of agency cost. On the basis of the result, it is confirmed that positive relationship exists in dividend policy and agency problem.
According to this interpretation, dividend is not a messenger about expected profitability, but is used to mitigate an agency cost. More recently, studies seem to conclude that dividends are substitutes or outcomes of corporate governance quality.
Jensen, Agency Cost of Free Cash Flow, Corporate Finance, and Takeovers, 76 Am.
Within the framework of the Agency theory, the reasons for the agency cost for the ownership can be known to one or more of the following management behaviors:
"The Trust is also incurring additional agency costs due to the well-publicised issues related to the NHS Pension Scheme, where senior clinical staff are incurring significant unplanned tax liabilities.
And NHS chief executive Jeff Ace highlighted the problem to Holyrood's health committee saying: "The biggest cost improvement that we can make is addressing our recruitment challenges because we're paying a considerable premium at the moment for locum medical staff and nurse agency costs."
He said: "This is a significant overrun by any standard and shows the failure to control agency costs has become endemic."
Recruiting permanent staff "helps reduce agency costs and provides greater continuity of care for patients", she added.

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