What is agency theory in hr?

Answer 1

The agency theory focuses on the divergent interests and goals of the organisation's stakeholders and the way that employee remuneration can be used to align these interests and goals.

Employers and employees are the two stakeholders of a business unit, the former assuming the role of principals and the latter the role of agents.

The remuneration payable to employees is the agency cost. It is natural that the employees expect high agency costs while the employers seek to minimise it.

The agency theory says that the principal must choose a contracting scheme that helps align the interest of the agents with the principal's own interests.

These contracts can be classified as either behaviour-oriented (e.g. merit pay) or outcome-oriented (e.g. stock option schemes, profit sharing and commissions). In fact, outcome-oriented contracts seem to be the obvious solution, because as the profits go up, rewards also increase, and similarly, remuneration falls when profits go down.

Answer 2

A theory explaining the relationship between principals, such as a shareholders, and agents, such as a company's executives. In this relationship the principal delegates or hires an agent to perform work. The theory attempts to deal with two specific problems:first, that the goals of the principal and agent are not in conflict (agency problem), and second, that the principal and agent reconcile different tolerances for risk.