Agency theory

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Agency theory



Alternate name(s)

Principal-Agent Problem

Main dependent construct(s)/factor(s)

Efficiency, alignment of interests, risk sharing, successful contracting

Main independent construct(s)/factor(s)

Information asymmetry, contract, moral hazard, trust

Concise description of theory

In economics, the principal-agent problem treats the difficulties that arise under conditions of incomplete and asymmetric information when a principal hires an agent. Various mechanisms may be used to try to align the interests of the agent with those of the principal, such as piece rates/commissions, profit sharing, efficiency wages, the agent posting a bond, or fear of firing. The principal-agent problem is found in most employer/employee relationships, for example, when stockholders hire top executives of corporations.

Source: []

Agency theory is directed at the ubiquitous agency relationship, in which one party (the principal) delegates work to another (the agent), who performs that work. Agency theory is concerned with resolving two problems that can occur in agency relationships. The first is the agency problem that arises when (a) the desires or goals of the principal and agent conflict and (b) it is difficult or expensive for the principal to verify what the agent is actually doing. The problem here is that the principal cannot verify that the agent has behaved appropriately. The second is the problem of risk sharing that arises when the principal and agent have different attitudes towards risk. The problem here is that the principal and the agent may prefer different actions because of the different risk preferences.

Source: Eisenhardt, M, K. (1989). Agency theory: An assessment and review. Academy of Management Review, 14(1), 57).

Diagram/schematic of theory

Theory element Description
Key idea Principal-agent relationships should reflect efficient organization of information and risk-bearing costs
Unit of analysis Contract between principal and agent
Human assumptions Self interest, Bounded rationality, Risk aversion
Organizational assumptions Partial goal conflict among participants, Efficiency as the effectiveness criterion, Information asymmetry between principal and agent
Information Assumption Information as a purchasable commodity
Contracting problem Agency (moral hazard and adverse selection),Risk sharing
Problem domain Relationships in which the principal and agent have partly differing goals and risk preferences (e.g. compensation, regulation, leadership, impression management, whistle blowing, vertical integration, transfer pricing)

Source: Eisenhardt, M, K. (1989). Agency theory: An assessment and review. Academy of Management.the Academy of Management Review, 14(1), 57.

Originating author(s)

Alchian and Demsetz (1972), Eisenhardt (1985, 1989), Jensen and Mekling (1976)

Seminal articles

Alchian, A., and Demsetz, H. 1972. Production, information costs, and economic organization. American Economic Review, 62(5): 777-795.

Eisenhardt, K. M. (1985). Control: Organizational and economic approaches. Management Science (Pre-1986), 31(2), 134.

Eisenhardt, M, K. (1989). Agency theory: An assessment and review. Academy of Management Review, 14(1), 57.

Jensen, M., and Meckling, W. 1976. Theory of the firm: Managerial behavior, agency costs, and ownership structure. Journal of Financial Economics, 3: 305-360.== Originating area == Economics

Level of analysis

Individual, group

IS articles that use the theory

Austin, R. D. (2001). The effects of time pressure on quality in software development: An agency model. Information Systems Research, 12(2), 195.

Bahli, B., & Rivard, S. (2003). The information technology outsourcing risk: A transaction cost and agency theory-based perspective. Journal of Information Technology, 18(3), 211.

Chen, A. N. K., & Edgington, T. M. (2005). Assessing value in organizational knowledge creation: Considerations for knowledge Workers1. MIS Quarterly, 29(2), 279.

Choudhury, V., & Sabherwal, R. (2003). Portfolios of control in outsourced software development projects. Information Systems Research, 14(3), 291.

Choudhury, V., & Sampler, J. L. (1997). Information specificity and environmental scanning: An economic perspective. MIS Quarterly, 21(1), 25.

Francalanci, C., & Galal, H. (1998). Information technology and worker composition: Determinants of productivity in the life insurance industry. MIS Quarterly, 22(2), 227.

Gurbaxani, Vijay, Whang, & Seungjin. (1991). The impact of information systems on organizations and markets. Association for Computing Machinery.Communications of the ACM, 34(1), 59.

Hann, Jim, Weber, Ron. (1996). Information systems planning: A model and empirical tests. Management Science, 42(7), 1043.

Henderson, C, J., Lee, Soonchul. (1992). Managing I/S design teams: A control theories perspective. Management Science, 38(6), 757.

Ho, V. T., Ang, S., & Straub, D. (2003). When subordinates become IT contractors: Persistent managerial expectations in IT outsourcing. Information Systems Research, 14(1), 66.

Jasperson, J. (., Carter, P. E., & Zmud, R. W. (2005). A comprehensive conceptualization of post-adoptive behaviors associated with information technology enabled work Systems1. MIS Quarterly, 29(3), 525.

Karake, A, Z. (1992). Chief information officers: Organizational control and company characteristics. Logistics Information Management, 5(4), 27.

Keil, M., Smith, H. J., Pawlowski, S., & Jin, L. (2004). 'Why didn't somebody tell me?': Climate, information asymmetry, and bad news about troubled projects. Database for Advances in Information Systems, 35(2), 65.

Keil, Mark. (1995). Escalation of commitment in information systems development: A comparison of three theories. Academy of Management Journal, , 348.

Kim, Ku, S., Suh, S, Y. (1992). Conditional monitoring policy under moral hazard. Management Science, 38(8), 1106.

Kohli, R., & Kettinger, W. J. (2004). Informating the clan: Controlling physicians' costs and Outcomes1,2. MIS Quarterly, 28(3), 363.

Mahaney, R. C., Lederer, A. L. (2003). Information systems project management: An agency theory interpretation. The Journal of Systems and Software, 68(1), 1.

Melville, N., Kraemer, K., & Gurbaxani, V. (2004). Review: Information technology and organizational performance: An integrative model of it business Value1. MIS Quarterly, 28(2), 283.

Mirchandani, D. A., & Lederer, A. L. (2004). IS planning autonomy in US subsidiaries of multinational firms. Information & Management, 41(8), 1021.

Olson, D. L. (2001). Rationality in information systems support to decision making. Information Systems Frontiers, 3(2), 239.

Raghu, T. S., Jayaraman, B., & Rao, H. R. (2004). Toward an integration of agent- and activity-centric approaches in organizational process modeling: Incorporating incentive mechanisms. Information Systems Research, 15(4), 316.

Sikora, R., & Shaw, M. J. (1998). A multi-agent framework for the coordination and integration of information systems. Management Science, 44(11), S65.

Tuttle, B., Harrell, A., & Harrison, P. (1997). Moral hazard, ethical considerations, and the decision to implement an information system. Journal of Management Information Systems, 13(4), 7.

Wickramasinghe, N., & Ginzberg, M. J. (2001). Integrating knowledge workers and the organization: The role of IT. International Journal of Health Care Quality Assurance, 14(6/7), 245.

Links from this theory to other theories

Transaction cost economics, Contingency theory

External links, Wikipedia entry, Agency theory summary paper

Original Contributor(s)

Hossam Ali-Hassan

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