Agency theory an extended conceptualisation and reformation

Agency Theory: An Extended Conceptualisation and Reformulation Nurcan Temel Candemir School of International Business Principal Supervisor: Dr Mark McGovern Associate Supervisor: Prof Roger Willett Bachelor of Business (International Business/Accountancy/Japanese) Bachelor of Business (Honours) (International Business/Accountancy) Doctor of Philosophy (International Business) 14 November 2005 Acknowledgments Acknowledgments The completion of this Dissertation would not have been possible without the assistance and dedication of special people I wish to express my sincere gratitude firstly to my principal supervisor Dr Mark McGovern, and also my external supervisor Prof Stephen Hill and my associate supervisor Prof Roger Willett for their enthusiasm, dedication and understanding throughout the course Their encouragement, guidance and assistance were greatly appreciated I wish to also thank all the relevant School of International Business Staff who assisted in the adminstrative tasks of writing this Dissertation I wish to also express my sincere gratitude to my husband Dr Oben Candemir for his continual support and assistance throughout the writing of this Dissertation I am indebted to him for his assistance in locating suitable software for the simulation developed Thank-you Oben for your insightful comments, encouragement and emotional support Finally, I would like to sincerely thank my family as a whole My father, mother and brother whose patience and assistance during hectic times have been greatly appreaciated My son Onur, who arrived in my life during the writing of this PhD has been an continuing inspiration in completing this Dissertation Without their encouragement this Dissertation would not of been possible To all of the above people, I acknowledge and thank you sincerely for all the assistance and support that you have given me Without you, this research would not have been possible i Statement of Original Authorship Statement of Original Authorship The work contained in this thesis has not been previously submitted for a degree or diploma at any other higher education institution To the best of my knowledge and belief, the thesis contains no material previously published or written by another person except where due reference is made Signed Date ii Abstract Abstract The theory of Agency, specifically that developed by Jesen and Meckling (1976), will be the subject of examination Agency theory has been the subject of extensive research since its introduction in modern form by Jensen and Meckling (1976) The generality of the theory of Agency appears unquestionable and it has been widely adopted Surprisingly, however, the model correctly predicts particular phenomena under investigation in only the simplest of instances, and even in the simplest of instances there are cases where the simple agency model has limited success Possible reasons for this failure may lie in the assumed universalist foundation and in the common formulation regarding agent behaviour, that all agents are self-interested rationalists seeking to maximise their own utility to the disregard of their principal’s interest While the hypothesis of self-interested rationalism may be apt in some contexts it may be misleading or inadequate in others This is especially so when the narrow interpretations of self-interested rationalism are used Human beings are more complex in their totality than can be represented in any parsimonious model This is particularly a problem when model predictions are not empirically supported Aspects omitted in a model may be a source of the misfit between prediction and observation An extended conceptualisation and reformulation of agent behaviour is presented An approach is developed that addresses the context of agent behaviour, the socioenvironment within which the agent interacts The context particularly refers to the institutional affiliations and interactions that influence agent behaviour through their belief structure (i.e., their Belief-Desire-Intention, BDI, model of rational action) Through the use of an institutional framework contextual analysis is incorporated into the theory of agency and ultimately agent behaviour This agent is termed a socioenvironmental rationalist agent (SERA) which is contrasted with the self-interested rationalist (SIR) agent in the existing agency literature iii Abstract This research utilises an object-oriented approach to develop a simulation of the extended conceptualisation and reformulation of agent behaviour Simulations investigate agent behaviours and outcomes at the micro (specifically through individualised SERA and SIR formulations) and macro (specifically through a multiagent SERA community formulation in the context of the EU financial accounting harmonisation process) levels Netlogo is the simulation tool through which this is attained The simulation demonstrates how alternative formulations of rationality lead to different outcomes and these differences are evident at both levels Importantly the extended model has outputs that are more in tune with current empirical evidence The analysis thus demonstrates the plausibility of the extended conceptualisation and reformulation and the need to incorporate the context of behaviour more fully within the analysis of the principal-agent relationship Through this extended examination of agent behaviour further theoretical and practical insights regarding the understanding of agent behaviour, the principal-agent problem and relationship, multi-agent communities, and of business and society in general may be attained This dissertation provides one step in advancing our fundamental understanding of the principal-agent problem The scope and power of agency analysis can be substantially extended using the approach and methods outlined, particularly beyond that present in existing Agency research iv Table of Contents Table of Contents ACKNOWLEDGEMENTS…………………………………………………… ……… I STATEMENT OF ORIGINAL AUTHORSHIP………………………………… … …… II ABSTRACT……………………………………………………………….………….III LIST OF FIGURES……… ……………………………………………………….… X LIST OF TABLES.………………………………………………………………… XIII INTRODUCTION 1.1 1.2 1.3 1.4 1.5 1.6 BACKGROUND TO THE AGENT RELATIONSHIPS AND AGENCY THEORY RESEARCH PROBLEM AND JUSTIFICATION FOR THE RESEARCH RESEARCH APPROACH AND QUESTION METHODOLOGY OUTLINE OF DISSERTATION 10 CONCLUSION 13 LITERATURE REVIEW – A REVIEW OF AGENCY THEORY 15 2.1 THE THEORY OF THE FIRM: WHY THEY EXIST 15 2.1.1 2.1.2 2.1.3 2.2 The Firm: The Theoretical Approaches 17 Decision Rights, Alienability and the Conflict of Interest 19 Theory of Agency and Transaction Cost Theory (TCT) 22 AGENCY THEORY: A DESCRIPTION 24 2.2.1 A Description of Principal Agent Problems and Agency 24 2.2.2 Specific Formulations of the Principal Agent Model 26 2.2.3 An Example of a Specific Formulation of Agency 31 2.2.4 Characteristics of the Specification 35 2.2.4.1 Information Asymmetry and Conflicting Interests 35 2.2.4.2 Agency Problems 37 2.2.5 Summary 38 2.3 EXISTING RESEARCH IN THE THEORY OF AGENCY 39 2.3.1 2.3.2 2.3.3 2.3.4 2.3.5 2.4 2.5 2.6 The Theoretical Approaches to Agency 40 Extension and Application of the Simple Principal-Agent Model 41 Self Interest: The Underlying Proposition of Agency 45 Self-Interest and Management Compensation 47 Critique of Self-Interest & the Use of Management Compensation 49 PROBLEMS TO BE ADDRESSED 51 Initial Formulation: the Interplay of Institutions 52 CONCLUSION 60 v Table of Contents AN EXTENDED CONCEPTUALISATION OF AGENT BEHAVIOUR 65 3.1 3.2 THE DEVELOPMENT OF THEORY 66 THE NOTIONS OF RATIONALITY 69 3.2.1 TYPES AND USES OF RATIONALITY 69 3.2.2 Research Examining the Notions of Rationality .71 3.3 RATIONAL MODELS WITHIN AGENCY 74 3.3.1 RATIONAL MODELS WITHIN AGENCY 74 3.3.2 Lash’s (1999) States of Modernity 75 3.3.3 Constructivism and Rationality .77 3.3.4 Influential Factors 79 3.4 SOCIO-ENVIRONMENTAL RATIONALITY: THE ROLE OF INSTITUTIONS 80 3.5 Institutional Analysis of Behavioural Influence 83 3.6 Comparative Agent Framework and Properties .87 3.7 CONCLUSION 90 THE EUROPEAN UNION (EU) – A CASE OF FINANCIAL ACCOUNTING HARMONISATION 91 4.1 THE EUROPEAN UNION (EU) AND FINANCIAL ACCOUNTING 91 4.1.1 4.2 4.3 4.4 THE EUROPEAN UNION (EU) A CONTEXT FOR AGENCY 94 FINANCIAL ACCOUNTING HARMONISATION IN THE EU 98 NATIONAL RESPONSES TOWARDS EU FINANCIAL ACCOUNTING HARMONISATION 101 4.4.1 4.4.2 4.5 Perceptions of the ‘True and Fair View’ .102 Directive Diversity .106 NATIONAL INSTITUTIONAL ANALYSIS 108 4.5.1 4.5.2 4.5.3 4.5.4 4.5.5 4.6 History of EU Financial Accounting Regulation and Harmonisation .92 Institutional Analysis and the United Kingdom .110 Institutional Analysis and the Netherlands 113 Institutional Analysis and Germany 115 Institutional Analysis and France 118 Findings from the Institutional Analysis 121 CONCLUSION 123 RESEARCH METHODOLOGY AND THE OBJECT ORIENTATED (OO) APPROACH 125 5.1 DESIGN OF THE RESEARCH 125 5.1.1 5.1.2 5.2 OBJECT-ORIENTED (OO) METHODOLOGY/APPROACH 130 5.2.1 5.2.2 5.3 Components of a OO Methodology 130 Model Construction 132 SIMULATION 135 5.3.1 5.3.2 5.4 Organisation of the Research .126 Methodology and Requirements 129 Simulation of Agency 135 Artificial Intelligence (AI) .138 METHOD OF ANALYSIS: QUALITATIVE CASE RESEARCH 141 5.4.1 5.4.2 5.4.3 Case Methods 141 Validity of Simulation and Case Research 143 The Case Research Process .146 vi Table of Contents 5.4.4 5.5 5.6 Case Selection 148 LIMITATIONS OF METHODOLOGY 149 CONCLUSION 152 FORMULATING THE AGENT 153 6.1 6.2 AGENT DESIGN 153 A BELIEF-DESIRE-INTENTION (BDI) MODEL OF RATIONAL ACTION 156 6.2.1 6.2.2 6.2.3 6.2.4 6.2.5 6.2.6 6.3 6.4 APPLYING BDI TO A SOCIO-ENVIRONMENTAL RATIONALIST AGENT (SERA) FRAMEWORK 169 CASES APPLYING THE SERA FRAMEWORK 171 6.4.1 6.4.2 6.5 Mutual Interests and Multi-Agent Communities 179 Multi-Agents & the SERA Framework 179 FORMULATING AN EXAMPLE OF A SOCIO-ENVIRONMENTAL RATIONAL MULTIAGENT COMMUNITY (SERC) 183 6.6.1 6.6.2 6.7 Four Cases Describing the SERA Framework 173 Conclusions to Case Formulations 177 SERA AND COLLECTIVE MENTAL STATES 178 6.5.1 6.5.2 6.6 The Theory of Practical Reasoning 156 Practical Reasoning, Statism and Environmental Dynamism 159 Environmental Reconsideration 162 Consideration of Time 164 BDI Components and Application to Current Research 166 Summary 168 Describing the EU Case: An Example of a SERC 184 Summary 190 DEVELOPING THE WORKINGS OF THE FRAMEWORK AND CASES 192 6.7.1 From Abstract Specification to Concrete Model 192 6.7.2 REFINEMENT AND SPECIFICATION OF THE SERA COMPUTATIONAL MODEL (SIMULATION ONE) 194 6.7.3 REFINEMENT AND SPECIFICATION OF THE SERC (SIMULATION TWO) 198 6.8 INFORMATION REQUIREMENTS AND SIMULATION 201 6.8.1 6.8.2 6.8.3 6.9 Information Requirements and Simulation for SERA 201 Simulating SERA and SIR 204 SERC Information Requirements and Simulation 206 CONCLUSION 211 vii Table of Contents SOCIO-ENVIRONMENTAL RATIONALIST AGENT: ANALYSIS AND SIMULATION 213 7.1 MODELLING AGENTS AND SIMULATION USING NETLOGO 213 7.1.1 7.1.2 7.2 7.3 DEMONSTRATION OF SIMULATION ONE 219 ANALYSIS OF RESULTS FOR SIMULATION ONE 227 7.3.1 7.3.2 7.4 Simulations in NetLogo 213 Requirements and Attributes of NetLogo .215 SIMULATION AND OUTPUT .227 VISUAL ANALYSIS: THE PROCESS 227 VISUAL ANALYSIS: THE RESULTS 228 7.4.1 SERA OUTPUTS AND PRESENTATION 228 7.4.2 Visual Analysis of the Socio-Environmental Rationalist Agent Contour 232 7.5.1.1 First Division Analysis: ‘Atomistic Society’ 233 7.5.1.2 Second Division Analysis: ‘Controlled Society’ 234 7.5.1.3 Third Division Analysis: ‘Upheaval in Society’ 235 7.5.1.4 Fourth Division Analysis: ‘Reforming Society’ 236 7.5.1.5 Summary of the Visual Analysis 237 7.4.3 Visual Analysis of the Self-Interested Rationalist Agent Contour .238 7.4.4 Visual Analysis of the Socio-Environmental Rationalist Agent and Self-Interested Rationalist Agent Contours 240 7.5 STATISTICAL ANALYSIS: THE PROCESS AND RESULTS 242 7.5.1 7.5.2 7.6 7.7 Descriptives and Variance Analysis .242 Correlation Analysis .245 SUMMARY OF FINDINGS IN RELATION TO THE RESEARCH QUESTIONS 247 CONCLUSION 251 EUROPEAN UNION (EU) CASE SIMULATION & ANALYSIS 253 8.1 8.2 DEMONSTRATION OF SIMULATION TWO 253 ANALYSIS OF RESULTS FOR SIMULATION TWO 262 8.2.1 8.2.2 8.2.3 8.2.4 8.2.5 8.2.6 8.3 STATISTICAL ANALYSIS: THE RESULTS 286 8.3.1 8.3.2 8.4 8.5 Visual Analysis: The Results 263 Visualisation and Analysis of the Anglo-Saxon Agent Group .266 Visualisation and Analysis of the Germanic Agent Group 270 Visualisation and Analysis of the Latin Agent Group 275 Visualisation and Analysis of the Nordic Agent Group 279 Visualisation Summary .284 Descriptives and Variance Analysis .287 Correlation Analysis .296 SUMMARY OF FINDINGS IN RELATION TO THE RESEARCH OBJECTIVES AND QUESTIONS 299 CONCLUSION 302 viii Table of Contents CONCLUSIONS 303 9.1 THE STUDY IN REVIEW 303 9.2 RESEARCH IMPLICATIONS 306 9.2.1 IMPLICATIONS FOR AGENCY THEORY 307 9.2.2 9.2.3 9.2.4 9.3 AREAS OF ADVANCEMENT AND RESEARCH QUESTIONS 322 9.3.1 9.3.2 9.3.3 9.3.4 9.3.5 9.4 9.5 9.6 Agency Theory, its Limitations and Research Question 323 Agent Behaviour, its Context and Research Questions and 324 Agency Theory, its Application and Research Question 325 Alternative Methods of Agency Research and Research Question 326 Implications of Applying the Socio-Environmental Rationalist Agent (SERA) and Research Question 327 LIMITATIONS 329 CONTRIBUTIONS OF THE RESEARCH 330 FUTURE RESEARCH POSSIBILITIES 333 9.6.1 9.6.2 9.7 Implications for Harmonisation in EU Financial Accounting 312 Implications, for the Wider Business Community and Society 317 Summary 322 Research in Relation to the Theory of Agency 333 Research in Relation to the Implications of the Extended Conceptualisation and Reformulation of Agent Behaviour 334 CONCLUSION 336 APPENDIX 337 APPENDIX 343 APPENDIX 357 APPENDIX 381 REFERENCES 399 ix References Newman, M E J (2003) ‘The structure and function of complex 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(1988) Institutional patterns and organizations, Cambridge, MA: Ballinger 440 Graduation Citation Agency Theory: An Extended Conceptualisation and Reformulation Candidate: Nurcan Temel-Candemir Principal Supervisor: Dr Mark McGovern Associate Supervisor: Prof Roger Willett Doctor of Philosophy Graduation Citation Agency theory relates the actions of interdependent parties, such as a company board and a CEO, or the nations and Union of Europe Traditionally, agents have been considered as limited, introspective decision makers In her dissertation Nurcan redeveloped this Agents are more comprehensively formulated The influences of external institutions are explicitly incorporated This broader view of agent behaviour is captured by her Socio-Environmental Rationalist Agent (SERA) and its workings demonstrated through computer simulations of agents, and situations in the European Union (EU) In the words of one highly respected examiner, this is “an outstanding contribution” and “a most challenging, ambitious and interesting thesis” developed with “an extremely thorough and strongly analytical approach throughout” Nurcan’s work has significant policy implications not just for governments but also for corporations Her research provides an important step in advancing our fundamental understanding of agent behaviour beyond that present in existing Agency and international business research i ... Financial Accounting Regulation and Harmonisation .92 Institutional Analysis and the United Kingdom .110 Institutional Analysis and the Netherlands 113 Institutional Analysis and Germany... Philips and Formed and Linked Pugh 2000) Focus (after Ticehurst and Veal 2000) Pure Research (more abstract and conceptual) Explanation and critique of existing and proposed concepts and assumptions... Visual Analysis: The Results 263 Visualisation and Analysis of the Anglo-Saxon Agent Group .266 Visualisation and Analysis of the Germanic Agent Group 270 Visualisation and Analysis