An agency theory is relationship as “a contract under which one or more persons (the principals) engage another person (the agent) to perform some service on their behalf which involves delegating some decision making authority to the agent”. The theory models the relationship between the principal and the agent. In the context of the firm, the agent (manager) acts on behalf of the principal (shareholder)
A major issue with respect to the firm is the information irregularity between managers and shareholders. In this agency relationship, insiders (managers) have an information advantage because owners cannot accurately evaluate and determine the value of decisions making. So mitigate these agent-shareholder conflicts, formal contracts are thus negotiated. In short way, Agency theory indicates reduces the conflict between the shareholder (principals) and management (agent) (Rouf & Harun, 2011).