Jensen和Meckling (1976, p. 308)提出，代理关系被视为一种合同，其中委托人/s委托代理人代表其工作并提供服务，其中涉及将与决策相关的权力委托给代理人。问题在于股东和管理者之间的利益冲突，在这种情况下，组织背后负责运营的管理者更倾向于实现个人目标，而不是股东的目标(Brunermeier, 2008)。因此，它导致使用多余的现金流，而这些现金流可以被管理者自由地用于实现个人利益，而不是最大化股东的回报(Frank et al.， 2004)。股东面临的主要问题是，阻止经理们通过投资于净现值为负的项目来使用现金流，以及通过向股东派发股息来收回现金流。管理者监控成本为确保利益相同被称为代理成本，代理成本随着管理者监控需求的增加而增加。
It is suggested by Jensen and Meckling (1976, p. 308) that an agency relationship is considered as a contract wherein the principal/s involve the agent to work on their behalf and deliver service which involves delegation of authority related to making decision to agent. The problem lies within the conflict of interest between the shareholders and managers, in such cases, manager responsible behind operation of the organization tend to focus of achieving goals that are personal instead of the goals of shareholders (Brunermeier, 2008). Hence, it results in use of excess cash flow which is free to be used by the managers for the fulfilment of interests that are personal rather than maximizing the shareholders’ returns (Frank et al., 2004). The primary issue that shareholders face is to refraining managers from using the cash flow by investment into projects that have negative net present value (NPV) and retrieval of the cash flow by dividend payouts to the shareholders. Cost of managers’ monitoring to ensure same interests is known as Agency Costs, the agency cost increases with the need to monitoring managers.
It was found by Pinegar and Wilbricht (1989) that problem of principal-agent can be resolved to an extent with the use of capital structure through increment in debt level without any increase in cost of agency. Likewise, it was argued by Lubatkin and Chatterjee (1992) that increase in the ratio of debt to the equity ratio will result in managers operating the organization appropriately (Fosberg, 2012).This will ensure that managers will meet the organizations’ debt obligations of repayment and accordingly return the cash flow which is in excess. This will enable the alignment of interest with the shareholders.