David Ross

An Agency Theory for the Division of Managerial Labor

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Abstract:
Why do some firms have a Chief Operating Officer with distinct responsibilities from those of the Chief Executive Officer? Should responsibility for strategy formulation and day-to-day management be assigned to the same manager? How does the division of labor affect managerial opportunism? This paper uses a formal agency-theoretic model to address these questions and present a new theory for the division of managerial labor. The theory identifies when it is most efficient to assign entrepreneurial services, which relate to strategy formulation, and managerial services, which relate to day-to-day management, to the same multitasking manager and when it is most efficient to assign these services to separate specialists. The analysis reveals the critical role played by the information environment: In a high information environment, multitasking dominates because the provision of managerial services reduces the scope for managerial opportunism associated with entrepreneurial services. Conversely, in a low information environment, specialization dominates, because multitasking allows the potential for opportunism associated with entrepreneurial services to spread to the provision of managerial services. In this case, however, the benefits of multitasking may be restored if the services are sequenced appropriately. The practical implication of such sequencing is that a firm will grow in fits and starts, giving rise to a "Penrose effect" even where labor market frictions do not impede the assimilation of new managers.

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