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IAI Actuarial Core Principles · Business Finance · Corporate governance and the regulation of companies

In a listed company, the owners hire managers to run the business on their behalf. Which situation best describes the classic agency problem between shareholders and managers?

The classic agency problem occurs when managers, who control the company, pursue their own interests such as perquisites or empire building rather than maximising shareholder wealth. This arises from the separation of ownership and control, and the other options do not describe such a conflict.

  1. AManagers pursue personal goals such as larger empires or perquisites at the expense of shareholder wealthCorrect
  2. BShareholders sell their shares to new investors at a higher price
  3. CThe company pays corporate tax on its profits at the statutory rate
  4. DLenders insist on a fixed rate of interest on their loans
  5. Auditors issue a qualified opinion on the accounts

Explanation

The agency problem arises from the separation of ownership and control. Managers (agents) may act in their own interest rather than maximising shareholder (principal) wealth. The other options describe trading, taxation, debt terms or audit reporting, not a conflict of interest between principal and agent.

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