Most organisations firms are simply legal fictions which serve as a nexus for a set of contracting relationships among individuals. - Michael Jensen

We define agency costs as the sum of:

This paper integrates elements from the theory of agency, the theory of property rights and the theory of finance to develop a theory of the ownership structure of the firm. We define the concept of agency costs, show its relationship to the 'separation and control' issue, investigate the nature of the agency costs generated by the existence of debt and outside equity, demonstrate who bears the costs and why, and investigate the Pareto optimality of their existence. We also provide a new definition of the firm, and show how our analysis of the factors influencing the creation and issuance of debt and equity claims is a special case of the supply side of the completeness of markets problem.

The corporation as an organizational form is an enormously productive social invention. Partly because of its success it is under increasing attack from various quarters, often under the guise of “protecting” investors from self-interested managers. Some of these attacks are successful simply because the corporation is a poorly understood entity. This paper discusses what the corporation is, what it is not, and how certain misconceptions about the corporate form are fostered by its critics as part of their attack.