Principal Becomes an Agent
Principal Becomes an Agent
This Demonstration shows the effects of the selling of shares to outside shareholders through an owner-manager (principal and agent at the same time, e.g. an entrepreneur) on firm value, according to agency theory (simplified from [1]). Firm value (vertical axis) is at maximum (100%) if the agent does not consume any nonpecuniary benefits (e.g. a company jet for his personal use), which reduces firm value along the green line (45°, budget restriction). The agent's preference of firm value versus nonpecuniary benefits is represented with the red curved lines (indifference curves, which you can change with the "preference" slider). The agent chooses the point of tangency between indifference curve and budget restriction (red point) for his/her level of consumption and firm value. The loss of firm value shown here is part of so-called "agency costs", which appear whenever ownership and control (management) of a firm is separated.