Governance

Question 1

What is an agent?

Answer 1

Directors, the board, the chair

Question 2

What is a principal?

Answer 2

Shareholders

Question 3

What is an agency cost?

Answer 3

The need of principals (shareholders) to monitor activities of the agents (board/directors).

They need to find out what the agents are doing which can be difficult and costly.

Question 4

Advantages of a rules based approach

Answer 4

Clarity - follow rules
Standardisation
Penalties if non compliance therefore encourages
Easier compliance with the rules

Question 5

Disadvantages of a rules based approach

Answer 5

Lack of flexibility
Not suitable to all situations
Expensive

Question 6

Advantages of a principles based approach

Answer 6

Flexible, as long as evidence is given and investors can decide if compliance
Allows companies to go beyond the minimum required

Question 7

Disadvantages of a principles based approach

Answer 7

Broad principles

Not easier compliance as with the rules, as they are ambiguous, and can not be evidenced