Beyond Agency Theory, a Post‐crisis View of Corporate Law
| Author | Blanche Segrestin,Armand Hatchuel |
| DOI | http://doi.org/10.1111/j.1467-8551.2011.00763.x |
| Date | 01 September 2011 |
| Published date | 01 September 2011 |
Beyond Agency Theory, a Post-crisis View
of Corporate Law
Blanche Segrestin and Armand Hatchuel
MINES ParisTech, 60 Boulevard Saint-Michel, 75272 Paris Cedex 06, France
Corresponding author email: Blanche.Segrestin@ensmp.fr
For decades, managers’ powers and their freedom to make strategic decisions were
taken for granted in the field of corporate governance. The present crisis has revealed
that their managerial latitude is in reality much weaker than thought. The growing
influence of shareholders has undermined the historical and professional legitimacy of
managers, who are now viewed as ‘agents’ controlled by ‘principals’. This paper makes
two contributions. First, we hold that the crisis is not a purely economic or financial
crisis but a fundamental crisis of management, with its function of regulating the
relationship between the firm and society. Second, we show that this crisis is rooted in
law, since corporate law does not actually protect the autonomy of management. Until
now, management theory has underestimated the role of law in the evolutions of
corporate governance; we argue that management research needs to open its boundaries
and specifically to re-examine corporate law. We suggest new governance rules to
ensure managers have the latitude to organize collective creation processes in a way that
is both efficient and legitimate. And we discuss some avenues for reflecting on a post-
crisis business law.
Introduction: does corporate law protect
managerial latitude?
For decades, it was generally assumed that
managers were vested with great powers and
had considerable leeway. Since Berle and Means,
it was accepted that managers’ latitude had
increased with the development of public cor-
porations: the dilution of firms’ shareholdings
increased the economic power wielded by man-
agers. ‘The economic power in the hands of the
few persons who control a giant corporation is a
tremendous force which can harm or benefit a
multitude of individuals, affect whole districts,
shift the currents of trade, bring ruin to one
community and prosperity to another’ (Berle and
Means, 1932, p. 46). Managers are thought to
have a high degree of autonomy regarding
corporate strategic issues. Such autonomy varies
according to a variety of political, economic,
organizational and social contexts but is gener-
ally considered extensive or even excessive.
Corporate governance has focused on means of
governing managers’ powers. Nevertheless, their
latitude of action has been seen by management
theory as a factor that is critical to firms’
development and to value creation processes.
For the ‘corporate effect’ (Adner and Helfat,
2003) to come into play, the literature has shown
that qualities such as authority, inventive capa-
city and leadership are required. For manage-
ment scholars, managerial latitude was not only
efficient but also the large powers given to
managers enabled them to act for the joint
welfare of all the constituencies of the firm
(Freeman and Evan, 1990; Post, Preston and
Sachs, 2002a).
Although the notion of managerial latitude has
been taken for granted for so long, recent crises
and extreme events in the organizational world
should force a rethink. Managers quite obviously
do not always have the freedom to choose
between a shareholder and a stakeholder
approach. The need for their autonomous business
British Journal of Management, Vol. 22, 484–499 (2011)
DOI: 10.1111/j.1467-8551.2011.00763.x
r2011 The Author(s)
British Journal of Management r2011 British Academy of Management. Published by Blackwell Publishing Ltd,
9600 Garsington Road, Oxford OX4 2DQ, UK and 350 Main Street, Malden, MA, 02148, USA.
judgement has been replaced by the managers’
duty to act on behalf of shareholders and in the
latters’ interests (Shleifer and Vishny, 1997).
Despite increasingly harsh criticism, agency
theory has continuously gained ground and
managers are viewed more and more as the
shareholders’ ‘agents’. The literature has shown
how agency theory can lead to inefficient strategic
choices (Lipton and Rowe, 2007) and even
catastrophic investment decisions for a firm’s
long-term potential (Krafft and Ravix, 2005;
Lazonick, 2009). Many believe that this theory
is both unacceptable and illegitimate (Fairfax,
2006; Margolis and Walsh, 2003). There have
been repeated calls to take into account all the
firm’s different interests (Harrison, Bosse and
Phillips, 2010) and to use more varied perfor-
mance indicators (Charreaux and Desbrie
`res,
2001). There have also been important advances
to make corporate decisions more socially
responsible and to promote new educational
standards so that managers can better balance
the claims of the firm’s stakeholders (Khurana
and Nohria, 2008). However, the crisis has shown
that managers are often incapable of resisting
pressure from shareholders. In their management
decisions, the short-term market value counts
more than the long-term health of the firm (Jordi,
2010). Agency theory has gradually imposed a
‘shareholder primacy norm’.
In this paper, our objective is twofold. First, we
would like to show that the recentcrisis is not only
an ‘economic’ or a ‘financial’ crisis but is above all
a fundamental, structural crisis of management, as
managers are deprived of their freedom to decide
on their actions. The prevailing assumption that
managers enjoy great latitude of action is un-
realistic both in theory andpractice. It has become
impossible for managers to freely manage their
firms and this considerably reduces managerial
capabilities, with their function of regulating the
relationship between the firm and society.
Second, we argue that this crisis of manage-
ment has become possible because of the law. The
law does not protect management’s latitude and
consequently its neutrality towards the share-
holders’ interests. There is a deep legal issue here,
which has been neglected by management theory.
In this respect, the crisis has revealed the self-
contained nature of management. In the field of
corporate governance, it underlines the need to
open the boundaries of management research and
to re-examine the role of other cognate disciplines
and, in this case, the contribution of law. We
claim that renewed corporate law could help
develop new, more efficient and fairer corporate
management practices.
The paper is divided into three sections. We
begin by showing that managerial latitude has
heavily decreased, since agency theory has gained
ground in the debate on corporate governance.
Management theory has attempted to develop
alternative theories, such as the ‘team production
theory’, to contest the idea that managers are the
shareholders’ ‘agents’. These theories are based
on a new interpretation of the law, which is
interesting from a theoretical standpoint but
which has not been followed up in practice.
In the second part, we show that the evolution
of corporate governance in past decades has
resulted in a management crisis. Management
theory is founded on concepts such as managerial
authority, creative competences and leadership.
But these concepts have no empirical reality,
since the law neither enforces nor protects them.
In practice, the law does not prevent managers
from being viewed as the shareholders’ agents
and from being obliged to behave as such. The
law authorizes practices that can impede manage-
ment authority, management latitude and conse-
quently the capacity to create collective value.
In the third and final part, we discuss the
implications for management research. To make
business law and management theory more
consistent with each other, we propose three
legal principles. First, the parties who recognize
the authority and accept that their potential is
managed for the success of the collective project
should be distinguished from the other stake-
holders. Second, they should be entitled to
appoint and dismiss managers, but not to give
incentives that can distract managers’ attention
from the collective welfare. Third, they should
contribute jointly to the effects of managerial
decisions, whether negative or positive. We
conclude with new avenues for legal and manage-
ment research.
Corporate governance: the paradoxical
and damaging success of agency theory
Management freedom has been more and more
deeply contested by agency theory. For some
A Post-crisis View of Corporate Law 485
r2011 The Author(s)
British Journal of Management r2011 British Academy of Management.
To continue reading
Request your trial