Question

In a large company, ownership is often spread over a large number of shareholders who may effectively have little control over management. Management may therefore make decisions that benefit its own interests rather than those of the shareholders.” (Parrino et el2016). This separation of ownership and control creates conflicts. These conflicts may also result in corporate misconduct and concerns over corporate governance practices of corporations.Based on the above,write an essay on the topics of agency conflicts that are a result of the separation of ownership and control,and the role of corporate governance in modern corporations.Your essay must incorporate academic and professional research to support your arguments.

Answer 1

When the ownership is dispersed, then there arises a conflict termed as Principal-Agent (PP Agency) Agency Conflict or type I agency conflict. This conflict arises when managers who is the executor of operations of a firm favors the owners of the business and takes suboptimal decisions that may not be in favor of small investors (Ratnawati et al., 2016).

This Agency model was first proposed by Jensen & Meckling (1976) who found that managers may take actions that maximize his own profit rather than maximizing the benefit of minority shareholders who have very small investments in the firm.

Fama & Jensen (1983) concluded that corporate governance may assist in alignment of interest between management and shareholders. Corporate governance practices in modern corporations ensures transparency to safeguard the interest of minority as well as majority investors. Good corporate governance help in establishing set of rules to align interest of investors, directors and management to control operational aspects in a firm to provide benefit to all stakeholders. The four areas being affected by corporate governance are termed as 4 P's that are People, Purpose, Process and Performance. These 4 are guiding philosophies behind corporate governance.

In sum, the sole purpose of corporate governance is to maximize shareholder's value and protecting the interest of small investors through improvement in the performance of a firm and its accountability.The tools being used for the same are efficient utilization of assets, enhancement of customer satisfaction by providing quality products, developing ethical work standards etc. All these tools help in maximizing value of firm that leads to maximization of shareholders wealth.

References

Fama, E. F & Jensen, M. C. 1983. Separation of Ownership and Control. Journal of Law and Economics. 26 (2): 301-325.

Jensen, M. C & Meckling, W. H. 1976. Theory of The Firm: Managerial Behavior, Agency Costs and Ownership Structure. Journal of Financial Economics. 3 (4): 305-360.

Ratnawati, V., Abdul-Hamid, M. A., & Popoola, O. M. J. (2016). The influence of agency conflict types I and II on earnings management. International Journal of Economics and Financial Issues, 6(4), 126-132.