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Agency Problem and Solutions Company

The document discusses two problems arising from agency problems: 1) Enron's directors failed to protect investors and allowed criminal conduct due to misaligned incentives, and 2) Bernie Madoff's Ponzi scheme preyed on investor distrust in banks despite protections banks provide. Solutions to agency problems include: 1) tying agent pay to performance to align interests, 2) designing contracts to address information asymmetry and control agents, and 3) restricting an agent's capabilities to reduce opportunities for bad decisions.

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Arvinah Anne Kimjus
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103 views3 pages

Agency Problem and Solutions Company

The document discusses two problems arising from agency problems: 1) Enron's directors failed to protect investors and allowed criminal conduct due to misaligned incentives, and 2) Bernie Madoff's Ponzi scheme preyed on investor distrust in banks despite protections banks provide. Solutions to agency problems include: 1) tying agent pay to performance to align interests, 2) designing contracts to address information asymmetry and control agents, and 3) restricting an agent's capabilities to reduce opportunities for bad decisions.

Uploaded by

Arvinah Anne Kimjus
Copyright
© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as DOCX, PDF, TXT or read online on Scribd
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Problem

 Based on these two cases, we can see there are two problem that arise about agency
problem. Firstly, on the Enron scandal. Enron's directors were required by statute to
protect and support investor interests, but they had few other motivations to do so.
However, several critics conclude that the company's board of directors refused to
perform its regulatory position and rejected its enforcement obligations, allowing the
company to participate in criminal conduct. Basically, Enron's leadership fooled
regulators with fake holdings and off-the-books accounting practices.
 Second, case is on Bernie Madoff. Where by, Ponzi schemes simply prey on investor
mistrust and distrust of the banking industry, despite the fact that existing financial
institutions mitigate risk by providing supervision and implementing legal practices. This
investment establish an atmosphere in which the buyer cannot be certain that the agent
is behaving in the best interests of the principal. Therefore, many investors fall into Ponzi
schemes thinking that taking fund management outside a traditional banking institution
reduces fees and saves money.

Solution
1. Performance evaluation and compensation
The main way of aligning the needs of all sides is by the agent's payout. To solve the
principal-agent dilemma, pay must be related to the agent's output. Subjective appraisal
is commonly used to evaluate the agent's output because it is a more versatile and
balanced measurement tool for complex workers. Stock options, profit-sharing, and
contingent pay are all common forms of agent compensation. Integrating the agent's fee
for the incentives received by the principal aids in the elimination of conflicts of interest.

2.  Contract design
The primary goal of contract design is to provide a contract structure between the
principal and the agent in order to solve problems of knowledge asymmetry, stimulate
the agent's desires to behave in the best interests of the principal, and provide
mechanisms for controlling agents.

3. Restrictions on the Agent’s Capabilities


To empower the agent to behave on your behalf will open the door to further obstacles
and will maybe cause the Financial Consultant to make bad decisions. Many efficient
regimes use checks and balances because it reduces the control of any one person or
agency, thus reducing corruption. You may follow the same rules in your company by
restricting the agent's control.

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