Understanding Agency Theory

What is a key reason for conflicts in agency relationships?

• Both parties act in their own self-interest.

• There is no information asymmetry.

• Principals have more information than agents.

• Agents always act in the principal's best interest.

In the context of agency theory, what is a common conflict between shareholders and management teams?

• Shareholders prefer high risk, while management prefers low risk.

• Shareholders and management teams always have aligned interests.

• Management teams are risk-averse, unlike shareholders.

• Management teams may take high risks for short-term gains, while shareholders focus on long-term growth.

What was a major factor in the Enron scandal as an example of agency problems?

• Excessive transparency in financial reporting.

• Overvaluation of company assets by shareholders.

• Misrepresentation of financial losses by management.

• Lack of investment in high-risk markets.

How did Bernie Madoff's Ponzi scheme exemplify agency problems?

• It highlighted the importance of aligning incentives and oversight.

• It showed the benefits of traditional banking institutions.

• It proved that Ponzi schemes are always successful.

• It demonstrated the effectiveness of fund management outside banks.

Which strategy involves creating a detailed agreement to align interests in agency relationships?

• Transparency

• Bonuses

• Contracts

• Evaluations

What is the purpose of imposing restrictions in agency relationships?

• To significantly reduce agency loss.

• To eliminate the need for contracts.

• To reduce the principal's confidence.

• To increase the agent's power.

How can evaluations help in reducing agency problems?

• By providing no feedback on agent performance.

• By assessing agents based on their decisions and rewarding compliance.

• By ignoring agent performance entirely.

• By rewarding agents for self-interested actions.

What role do bonuses play in agency relationships?

• They increase the likelihood of conflicts.

• They only benefit the principal.

• They motivate agents to align with the principal's interests.

• They are irrelevant to agency theory.

Why is transparency important in agency relationships?

• It reduces conflict by ensuring clarity and understanding.

• It increases confusion in decision-making.

• It allows agents to hide information from principals.

• It is not necessary for reducing agency problems.

What are the two fundamental assumptions of agency theory?

• Individuals act in self-interest; agents have more information.

• There are no conflicts in agency relationships.

• Agents are always transparent; principals lack information.

• Principals are always altruistic; agents lack decision-making power.