Managers are responsible for setting the tone and pace for everyone in the business, which is why it is critical to take efforts to keep your managers engaged and motivated. Understanding and addressing the vast range of motivations affecting them is the first step. As with any employee, what motivates one boss may not motivate another. As a result, motivation in management is often a combination of inner and external elements.
Ways for Shareholders to Motivate Managers
Agency costs are the costs that shareholders incur in attempting to resolve the conflict of interest between themselves and the firm’s managers. Agency costs include both the cost to the shareholders of monitoring the managers’ performance (e.g., via audits) as well as the cost of incentive fees paid to managers.
In order to overcome the principal-agent problem, shareholders often try to control managers and to align the managers’ interests with their own-i.e. to offer incentives for managers to maximize shareholders’ wealth.
Shareholders have several means of controlling the behavior of managers.
Managerial compensation plans tied to stock performance
Managerial compensation plans play a significant role in aligning the interests of managers and shareholders. Performance shares are stock shares awarded to managers to reward good performance. Often, the award is contingent upon continued good performance and service to the firm. Stock options provide an opportunity to buy a specified number of shares of stock at a set price at a point in the future, providing a financial benefit if the market value of the company’s stock rises.
Direct intervention by shareholders
Direct intervention of shareholders is increasingly common on the part of large institutional investors (e.g., pension funds, mutual funds). These large investors often own enough shares to influence the corporation’s managers.
The threat of firing
In some instances, shareholders have elected new members to the board of directors who promised to replace the corporation’s management. In addition, managers compete in a labor market; if they do not perform well, directors may hire new managers.
The threat of takeover by a rival firm
If managers let the firm’s stock price fall too low, the firm may become the target of a takeover bid, which, if successful, could mean that the managers will lose their jobs or become subordinate to the acquiring company’s management team.
Creditors and the Principal-Agent Problem
The principal-agent problem between corporations and creditors is less problematic since the relationship can be self-regulating. Firms that act contrary to creditors’ self-interest will find a higher cost of borrowing in the market. Alternatively, creditors have the protection of bond covenants, which instruct managers and shareholders to behave in specific ways or face the calling in of their debt or legal action. For example, creditors might utilize bond covenants to require that the debtor firm purchase a certain type of insurance or limit dividend payments to ensure adequate funds to pay off its debt.
Recommended for you Principal-Agent Relationship
To test your understanding of the content presented.
1. Agency costs are the costs that shareholders incur in attempting to do which of the following?Choose only one answer below.
a. Pay agents
b. Resolve the conflict of interest between themselves and the board of directors
c. Resolve the conflict of interest between themselves and the firm’s managers
Correct. Agency costs are the costs that shareholders incur in attempting to resolve the conflict of interest between themselves and the firm’s managers.
d. Resolve the conflict of interest between themselves and the stakeholders
2. Which of the following methods do shareholders use to motivate managers?
- Compensation plans
- Threat of firing
- Threaten to take over
- Shareholder intervention
Choose only one answer below.
a. I and II
b. I, II, and III
c. II and IV
d. All of the above
Correct. Shareholders use all of the tactics listed to motivate managers and avoid the principal-agent problem.