Flexibility Theory as a Corporate Governance Mechanism
11 Pages Posted: 30 Aug 2014
Date Written: August 1, 2014
The basis of the modern corporation, as we know it, is the result of a naïve process. Shareholders purchase stock, becoming principals and residual claimants. Professional managers (agents) are contracted to provide decision making with the hope of maximizing shareholder wealth. Furthermore, principals reduce the risk of losing money by holding a diversified portfolio of stocks. This process inherently leads to an inefficient specialization of tasks, i.e., risk bearing by shareholders and risk taking by professional managers. Unfortunately, as the principal-agent problem postulates, there is a possibility of managerial opportunism, which can be defined as the seeking of self-interest by professional managers. As expected, managerial opportunism prevents maximizing shareholder wealth. In response, principals have established governance and control mechanisms to minimize the impact of managers acting opportunistically in their own interest.
This naïve process fails to address the fact that professional managers actually are hired to take on risks, deal with uncertainties, and find solutions among various possibilities. Hence, shareholders take the implicit and ever-dangerous view that because they are holding diversified portfolios, intelligent risk taking on the part of professional managers is unnecessary. Furthermore, empirical research on corporate governance mechanisms reveals that shareholders do not include risk-taking capabilities of professional managers as part of effective corporate governance. This paper reiterates the importance of changing the corporate organizational structure by following Ogunc (2010), which introduces a new C-level executive — the chief flexibility officer or CFLO — that endogenously accomplishes the task of increased governance and provides a path for sustainable growth.
Keywords: Flexibility Theory, Corporate Governance, Risk Management
JEL Classification: G10, G30
Suggested Citation: Suggested Citation