{"id":2663,"date":"2019-09-12T17:42:00","date_gmt":"2019-09-12T17:42:00","guid":{"rendered":"https:\/\/analystprep.com\/cfa-level-1-exam\/?p=2663"},"modified":"2025-05-27T05:27:46","modified_gmt":"2025-05-27T05:27:46","slug":"relationships-corporate-governance","status":"publish","type":"post","link":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/","title":{"rendered":"Relationships in Corporate Governance"},"content":{"rendered":"\n<script type=\"application\/ld+json\">\n{\n  \"@context\": \"https:\/\/schema.org\",\n  \"@type\": \"VideoObject\",\n  \"name\": \"Introduction to Corporate Governance and ESG (2021 Level I CFA\u00ae Exam \u2013 Reading 31)\",\n  \"description\": \"This session explores corporate governance fundamentals, stakeholder roles, principal-agent conflicts, board responsibilities, and market vs. non-market governance factors. It also covers ESG considerations in investment analysis, including screening methods and environmental and social impact metrics for evaluating companies and guiding ethical portfolio construction.\",\n  \"uploadDate\": \"2018-10-20T00:00:00+00:00\",\n  \"thumbnailUrl\": \"https:\/\/i.ytimg.com\/vi\/KxjLLIVuAg0\/hqdefault.jpg\",\n  \"contentUrl\": \"https:\/\/www.youtube.com\/watch?v=KxjLLIVuAg0\",\n  \"embedUrl\": \"https:\/\/www.youtube.com\/embed\/KxjLLIVuAg0\",\n  \"duration\": \"PT32M38S\"\n}\n<\/script>\n\n\n\n<p>[vsw id=&#8221;KxjLLIVuAg0&#8243; source=&#8221;youtube&#8221; width=&#8221;611&#8243; height=&#8221;344&#8243; autoplay=&#8221;no&#8221;]<\/p>\n<p>The term \u2018Principal-agent relationship\u2019 or just simply, \u2018Agency relationship\u2019 is used to describe an arrangement where one entity, the principal, legally appoints another entity, the agent, to act on its behalf by providing a service or performing a particular task.<\/p>\n<p>The agent is expected to act in the best interest of the principal. It is however not unusual for principal-agent relationships to lead to conflicts. The most common example of this occurs when managers, acting as agents, do not act in the best interest of the shareholders of the company (the principals).<\/p>\n<h2><strong>Shareholder and Manager or Director Relationships<\/strong><\/h2>\n<p>Directors and managers (agents) are expected to act in the best interests of the shareholders (principal) by maximizing the company\u2019s equity value. These two groups, however, tend to have conflicting interests on issues related to the risks that a company should undertake. Managers and directors tend to act in a more risk-averse manner to better protect their employment status. On their part, shareholders would want directors and managers to accept more risk to maximize equity value.<\/p>\n<p>In addition, managers usually have greater access to information and are more knowledgeable about the company\u2019s affairs than the shareholders.&nbsp; This information asymmetry makes it easier for managers to make strategic decisions that are not necessarily in the best interests of shareholders.<\/p>\n<h2><strong>Controlling and Minority Shareholder Relationships<\/strong><\/h2>\n<p>Minority shareholders usually have limited or no control over the management. Similarly, they have limited or no voice in director appointments or in major transactions that could directly impact shareholder value. As a result, conflicts between minority and controlling shareholders usually occur. Such conflicts arise when the opinions or desires of the minority shareholders are eclipsed by the influence of the controlling shareholders.<\/p>\n<h2><strong>Manager and Board Relationships<\/strong><\/h2>\n<p>Whereas managers are involved in the day-to-day operations of a company, the board of directors, especially the non-executive board members, are not. This leads to information asymmetry and makes it difficult for the board to effectively carry out its functions.<\/p>\n<h2><strong>Creditor Versus Shareholder Interests<\/strong><\/h2>\n<p>Creditors&#8217; interest is to have a company undertake activities that promote stable financial performance and maintain default risk at an acceptable level. This essentially guarantees a safe return of their principal and payment of interest by the company. Shareholders, on the other hand, prefer to have the company venture into riskier activities that have high return potential and are as such more likely to enhance equity value. There is, therefore, a divergence of interest in risk tolerance between these two groups.<\/p>\n<h2><strong>Other Stakeholder Conflicts<\/strong><\/h2>\n<p>Examples of other conflicts between stakeholders include conflicts between customers and shareholders, customers and suppliers, and shareholders and governments or regulators.<\/p>\n<blockquote>\n<h2><strong>Question<\/strong><\/h2>\n<p>Which of the following statements about principal-agency relationships is <em>most likely<\/em> accurate?<\/p>\n<p>A. Shareholders and creditors tend to have similar risk tolerance with respect to the investments that a company should undertake.<\/p>\n<p>B. In a principal-agent relationship one entity, the agent, appoints another entity, the principal, to act on its behalf.<\/p>\n<p>C. Managers typically have greater access to information about the company\u2019s affairs than the shareholders.<\/p>\n<p><strong>Solution<\/strong><\/p>\n<p>The correct answer is C.<\/p>\n<p>Shareholders and creditors tend to have different risk tolerance with respect to the investments that a company should undertake.<\/p>\n<p>Option A is incorrect. The interest of creditors is to have a company undertake activities that promote stable financial performance. Shareholders, on their part,&nbsp; prefer to have the company undertake riskier activities that have high return potential.<\/p>\n<p>Option B is incorrect. In a principal-agent relationship one entity, the principal, appoints another entity, the agent, to act on its behalf.<\/p>\n<\/blockquote>\n<p><em>Reading 31 LOS 31c:<\/em><\/p>\n<p><em>Describe principal-agent and other relationships in corporate governance and the conflicts that may arise in these relationships<\/em><\/p>\n<div class=\"notes_inv\">\n<hr>\n<p><em><a href=\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/learning-sessions-curriculum-corporate-finance\/\">Corporate Finance &#8211; Learning Sessions<\/a><\/em><\/p>\n<\/div>","protected":false},"excerpt":{"rendered":"<p>[vsw id=&#8221;KxjLLIVuAg0&#8243; source=&#8221;youtube&#8221; width=&#8221;611&#8243; height=&#8221;344&#8243; autoplay=&#8221;no&#8221;] The term \u2018Principal-agent relationship\u2019 or just simply, \u2018Agency relationship\u2019 is used to describe an arrangement where one entity, the principal, legally appoints another entity, the agent, to act on its behalf by providing a&#8230;<\/p>\n","protected":false},"author":1,"featured_media":0,"comment_status":"closed","ping_status":"closed","sticky":false,"template":"","format":"standard","meta":{"_acf_changed":false,"footnotes":""},"categories":[6],"tags":[],"class_list":["post-2663","post","type-post","status-publish","format-standard","hentry","category-corporate-finance","blog-post","no-post-thumbnail","animate"],"acf":[],"yoast_head":"<!-- This site is optimized with the Yoast SEO plugin v26.9 - https:\/\/yoast.com\/product\/yoast-seo-wordpress\/ -->\n<title>Agency Relationships in Corporate Governance<\/title>\n<meta name=\"description\" content=\"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.\" \/>\n<meta name=\"robots\" content=\"index, follow, max-snippet:-1, max-image-preview:large, max-video-preview:-1\" \/>\n<link rel=\"canonical\" href=\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\" \/>\n<meta property=\"og:locale\" content=\"en_US\" \/>\n<meta property=\"og:type\" content=\"article\" \/>\n<meta property=\"og:title\" content=\"Agency Relationships in Corporate Governance\" \/>\n<meta property=\"og:description\" content=\"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.\" \/>\n<meta property=\"og:url\" content=\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\" \/>\n<meta property=\"og:site_name\" content=\"AnalystPrep | CFA\u00ae Exam Study Notes\" \/>\n<meta property=\"article:published_time\" content=\"2019-09-12T17:42:00+00:00\" \/>\n<meta property=\"article:modified_time\" content=\"2025-05-27T05:27:46+00:00\" \/>\n<meta name=\"author\" content=\"Simon\" \/>\n<meta name=\"twitter:card\" content=\"summary_large_image\" \/>\n<meta name=\"twitter:label1\" content=\"Written by\" \/>\n\t<meta name=\"twitter:data1\" content=\"Simon\" \/>\n\t<meta name=\"twitter:label2\" content=\"Est. reading time\" \/>\n\t<meta name=\"twitter:data2\" content=\"3 minutes\" \/>\n<script type=\"application\/ld+json\" class=\"yoast-schema-graph\">{\"@context\":\"https:\/\/schema.org\",\"@graph\":[{\"@type\":\"Article\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#article\",\"isPartOf\":{\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\"},\"author\":{\"name\":\"Simon\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687\"},\"headline\":\"Relationships in Corporate Governance\",\"datePublished\":\"2019-09-12T17:42:00+00:00\",\"dateModified\":\"2025-05-27T05:27:46+00:00\",\"mainEntityOfPage\":{\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\"},\"wordCount\":631,\"articleSection\":[\"Corporate Finance\"],\"inLanguage\":\"en-US\"},{\"@type\":\"WebPage\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\",\"url\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\",\"name\":\"Agency Relationships in Corporate Governance\",\"isPartOf\":{\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#website\"},\"datePublished\":\"2019-09-12T17:42:00+00:00\",\"dateModified\":\"2025-05-27T05:27:46+00:00\",\"author\":{\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687\"},\"description\":\"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.\",\"breadcrumb\":{\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#breadcrumb\"},\"inLanguage\":\"en-US\",\"potentialAction\":[{\"@type\":\"ReadAction\",\"target\":[\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/\"]}]},{\"@type\":\"BreadcrumbList\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#breadcrumb\",\"itemListElement\":[{\"@type\":\"ListItem\",\"position\":1,\"name\":\"Home\",\"item\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/\"},{\"@type\":\"ListItem\",\"position\":2,\"name\":\"Relationships in Corporate Governance\"}]},{\"@type\":\"WebSite\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#website\",\"url\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/\",\"name\":\"AnalystPrep | CFA\u00ae Exam Study Notes\",\"description\":\"\",\"potentialAction\":[{\"@type\":\"SearchAction\",\"target\":{\"@type\":\"EntryPoint\",\"urlTemplate\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/?s={search_term_string}\"},\"query-input\":{\"@type\":\"PropertyValueSpecification\",\"valueRequired\":true,\"valueName\":\"search_term_string\"}}],\"inLanguage\":\"en-US\"},{\"@type\":\"Person\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687\",\"name\":\"Simon\",\"image\":{\"@type\":\"ImageObject\",\"inLanguage\":\"en-US\",\"@id\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/image\/\",\"url\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-content\/uploads\/2016\/09\/analystprep-150x150.png\",\"contentUrl\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-content\/uploads\/2016\/09\/analystprep-150x150.png\",\"caption\":\"Simon\"},\"url\":\"https:\/\/analystprep.com\/cfa-level-1-exam\/author\/analystprep\/\"}]}<\/script>\n<!-- \/ Yoast SEO plugin. -->","yoast_head_json":{"title":"Agency Relationships in Corporate Governance","description":"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.","robots":{"index":"index","follow":"follow","max-snippet":"max-snippet:-1","max-image-preview":"max-image-preview:large","max-video-preview":"max-video-preview:-1"},"canonical":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/","og_locale":"en_US","og_type":"article","og_title":"Agency Relationships in Corporate Governance","og_description":"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.","og_url":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/","og_site_name":"AnalystPrep | CFA\u00ae Exam Study Notes","article_published_time":"2019-09-12T17:42:00+00:00","article_modified_time":"2025-05-27T05:27:46+00:00","author":"Simon","twitter_card":"summary_large_image","twitter_misc":{"Written by":"Simon","Est. reading time":"3 minutes"},"schema":{"@context":"https:\/\/schema.org","@graph":[{"@type":"Article","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#article","isPartOf":{"@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/"},"author":{"name":"Simon","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687"},"headline":"Relationships in Corporate Governance","datePublished":"2019-09-12T17:42:00+00:00","dateModified":"2025-05-27T05:27:46+00:00","mainEntityOfPage":{"@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/"},"wordCount":631,"articleSection":["Corporate Finance"],"inLanguage":"en-US"},{"@type":"WebPage","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/","url":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/","name":"Agency Relationships in Corporate Governance","isPartOf":{"@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#website"},"datePublished":"2019-09-12T17:42:00+00:00","dateModified":"2025-05-27T05:27:46+00:00","author":{"@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687"},"description":"Learn how agency relationships shape corporate governance and the roles of principals and agents in decision-making and accountability structures.","breadcrumb":{"@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#breadcrumb"},"inLanguage":"en-US","potentialAction":[{"@type":"ReadAction","target":["https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/"]}]},{"@type":"BreadcrumbList","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/corporate-finance\/relationships-corporate-governance\/#breadcrumb","itemListElement":[{"@type":"ListItem","position":1,"name":"Home","item":"https:\/\/analystprep.com\/cfa-level-1-exam\/"},{"@type":"ListItem","position":2,"name":"Relationships in Corporate Governance"}]},{"@type":"WebSite","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#website","url":"https:\/\/analystprep.com\/cfa-level-1-exam\/","name":"AnalystPrep | CFA\u00ae Exam Study Notes","description":"","potentialAction":[{"@type":"SearchAction","target":{"@type":"EntryPoint","urlTemplate":"https:\/\/analystprep.com\/cfa-level-1-exam\/?s={search_term_string}"},"query-input":{"@type":"PropertyValueSpecification","valueRequired":true,"valueName":"search_term_string"}}],"inLanguage":"en-US"},{"@type":"Person","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/8d6352b658ba58a707920fba950b3687","name":"Simon","image":{"@type":"ImageObject","inLanguage":"en-US","@id":"https:\/\/analystprep.com\/cfa-level-1-exam\/#\/schema\/person\/image\/","url":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-content\/uploads\/2016\/09\/analystprep-150x150.png","contentUrl":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-content\/uploads\/2016\/09\/analystprep-150x150.png","caption":"Simon"},"url":"https:\/\/analystprep.com\/cfa-level-1-exam\/author\/analystprep\/"}]}},"_links":{"self":[{"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/posts\/2663","targetHints":{"allow":["GET"]}}],"collection":[{"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/posts"}],"about":[{"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/types\/post"}],"author":[{"embeddable":true,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/users\/1"}],"replies":[{"embeddable":true,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/comments?post=2663"}],"version-history":[{"count":40,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/posts\/2663\/revisions"}],"predecessor-version":[{"id":56238,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/posts\/2663\/revisions\/56238"}],"wp:attachment":[{"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/media?parent=2663"}],"wp:term":[{"taxonomy":"category","embeddable":true,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/categories?post=2663"},{"taxonomy":"post_tag","embeddable":true,"href":"https:\/\/analystprep.com\/cfa-level-1-exam\/wp-json\/wp\/v2\/tags?post=2663"}],"curies":[{"name":"wp","href":"https:\/\/api.w.org\/{rel}","templated":true}]}}