Abstract
This study examines the roles of agency cost (monitoring and bonding cost) on compensation of managers with a view from the managerial-power approach to agency cost. We modelled managers’ compensation and agency cost of banks to emphasise the potential influence of agency cost on managers’ compensation. A Panel Generalised Least Square model was estimated on four largely-controlled commercial banks in South Africa over the period 2010-2015. The result shows that shareholders’ fund, management share option, monitoring and bonding cost were strongly significant in explaining the managers’ compensation in the banks. Therefore, in the South African banking sector, compensation of managers should be based on their managerial power and not only on the principle of optimal-contracting. It is recommended, among others, that monitoring and bonding costs in the South African banks should be re-emphasised and strictly committed to. This should be so because there are direct effects of these costs on managers’ compensation which might be the reason for the persistent agency problem in the banks.
Highlights
Financial intermediaries are unique institutions in all economies that are operating a free-market system
The banking sector as a major financial intermediary is not excluded from this type of relationship as all its activities are run in view of the agency relationship in which the parties involved are the owners and the managers
Agency problems emanate in the banking sector from the conflicting interests between the shareholders and the agents due to, for example, information asymmetries and uncertainties, failure to allow managers to accept projects that will yield positive net present value, discrepancies in the perquisites either financial or nonfinancial paid to the managers, responsibility allocation, management and collective production (Kantarelis, 2007)
Summary
Financial intermediaries are unique institutions in all economies that are operating a free-market system. According to Masulis and Trueman (1988), severe conflict of interests between managers and owners always exists despite the full right of shareholders to participate in, and exercise voting rights during annual general meetings and in the appointing and dismissing of managers, appointing auditors, and accepting or rejecting annual reports and accounts These conflicts arise due to the following major reasons and cause agency costs for firms. There are some executive directors earning huge compensation despite the fact that the banks are not growing at the pace of their asset base Managers find it interesting to incur bonding costs on behalf of the bank, because reducing agency costs will increase the bank value and this will cause a net increment in their wealth, which they consider more valuable than the perquisites they would have received. Investigating the effect of agency monitoring and bonding costs on executive compensation in the banking context is ground-breaking in so far as the banking literature on the agency problem and costs is concerned
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