An Agency Theoretic Formulation of Organizational Control Theory

Abstract

We propose an analytical model that integrates two parallel independent streams of the literature, agency theory and organizational control theory. In doing so, we provide new insights into agency theory by introducing the concept of a congruent agent, and new insights into organizational control theory by using contracting tools to model behavior and outcome forms of controls. We study outcome-based control, i.e. contracting on the outcome; behavior-based control, i.e. contracting on a signal of effort; and clan control. To interpret clan control in the context of agency theory, we draw from experimental evidence in behavioral economics by distinguishing between two types of agents: a self-interested agent, who behaves in the traditional fashion; and a congruent agent, who cares about the principal’s payoff, which can be viewed as a form of “social” preferences in behavioral economics and a form of clan control resulting from “socialization” in organization theory. Corresponding to Ouchi’s (1979) view of organizational control, we derive analytical conditions under which outcome-based control with a self-interested agent, behavior-based control with a self-interested agent, and clan control with a congruent agent are optimal. We make the following contributions. First, we introduce to agency theory a new form of organizational control based on shared values and goals. Second, we provide new insights to organization theory by modeling the structure of the optimal compensation contracts corresponding to each form of control and the properties of the conditions under which each form of control is optimal as they relate to the characteristics of the agency relationship.