The board of directors of a firm is a collection of individuals that are elected to act as representatives of the shareholders of the firm and to establish corporate management strategies and policies and to make decisions on majority of the affairs of the firm. Every public company must have a board that governs it. Board of directors also called board of governors, board of trustees, board of regents etc. are elected by the shareholders at an annual general meeting (AGM) to administer the firm and protect the interests of the shareholders. Some of the major duties of shareholders are; to set policies and strategies of the company, naming of members that will serve on committees, they hire, monitor, evaluate and fire managing directors and senior executives, determining and paying of dividends and also issuing of shares.
Although not all members on the board are engaged in the day to day running of the organization, they will be held liable for the case of the firm’s policies, actions and failures to act. The configuration of the board is determined by the by laws of the organization which can include the board size, that is the number of directors on the board, the board composition which deals with the diversity of the board, dealing with outside and inside directors, independent directors etc. and also the board leadership. Where the chairman of the board is also the CEO of the organization (CEO duality) or whether the CEO of the firm and the chairman of the board are two different people (split leadership).the number of a board can range in various different sizes. Some boards have 31 directors, others have 3 directors but the ideal number of directors on a board should be 7 directors.
The board consist of inside and outside directors. An inside director is one who has the major interest of the shareholders in mind and his expertise and experience in the business adds value to the board. These directors re not compensated whereas outside directors are not involved in the day to day running of the business but brings outside experience from working on other boards. Unlike the inside directors, the outside directors are compensated for serving on the board.
No matter how the board is structured or configured, agency conflict is bound to arise because of the human beings and selfish tendencies.
Agency conflicts occur when the management also known as agents become self-interested or pursues activities that satisfy the interests of the shareholders also known as principals. This theory is based on the assumption that man is self-interested and thus takes care of his personal interests first before any other person’s interest. Shareholders make their interests clear through the board of directors. These goals or objectives are then relayed onto management to ensure their (management) actions and activities are geared towards or fall in line with pursuing the goals of the shareholders. Unfortunately, this only happens in theory since in practice management seek to maximize their interests rather than that of the shareholders. Some factors that lead to agency conflicts are discussed as follows.
Divergence of ownership and control is one major factor contributing to agency conflict. With this, the owners of the business are not the ones who manage the business. They appoint people to administer the business on their behalf and when this happens, the managers tend to administer the business in their favor. Shareholders would want to maximize long term wealth whereas management want to satisfy their short term interests. When this happens the conflict tend to arise.
Furthermore, another factor of agency problem is the famous moral hazard that occurs as a result of information asymmetry or imbalance of information. Moral hazard occurs when an individual or organization insulated from risk may behave differently from what it would it if were fully exposed to the risk. In this case, moral hazard arises because managers and shareholders have opposing objectives. For example, an organization is considering a new investment that is risky, but can contribute to increasing shareholder wealth. The investment is in the interest of shareholders but not to managers who may lose their jobs if the outcome of the investment does not go as planned. Particularly because of the existence of the opposing objectives, managers may decide not to implement this kind of investment even though it would bring harm to the owners of the company.
Situations where agency arise is when the managers make a decision according to and to their own interest. For example, the managers can be against the decision of merging of their company with another one although that would be (or is) in the best of interest of the stockholders. This behavior of the top managers might be a result of the possible and very probable change of the leading managerial positions after any merge.
CONCLUSION
From the above argument, it is quite clear that the agency conflict irrespective of the configuration of the board can never be eliminated. The board, no matter the size, composition and leadership style can never eliminate the agency conflict because of the self-pursuing interests and nature of the management. Therefore, some measures that can be put in place to minimize the problem are the executive share option for management, better conditions of services and perks, good corporate governance/management, internal and external audits etc.