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

Under the agency view of a company, which situation most directly creates the 'agency problem' that corporate governance mechanisms are designed to reduce?

The agency problem arises when owners appoint managers to run the company and those managers may act in their own interests instead of maximising shareholder value. Governance mechanisms such as independent boards, incentive alignment and disclosure exist to reduce this conflict arising from separated ownership and control.

  1. AShareholders appoint managers to run the firm, and managers may pursue their own interests rather than maximise shareholder valueCorrect
  2. BThe company raises debt instead of equity to fund a new plant
  3. CThe company pays corporation tax on its profits
  4. DShareholders elect directors at the annual general meeting
  5. The company publishes audited annual accounts

Explanation

The agency problem arises from the separation of ownership and control. Managers (agents) act for shareholders (principals) but may favour their own interests, such as perks or empire building. Governance tools like boards, incentives and disclosure aim to align interests. The other options are normal corporate activities, not the source of the conflict.

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