ISSUES IN ACCOUNTING EDUCATION

Vol. 21, No. 1

February 2006
pp. 17–30

Rethinking the Influence of Agency

Theory in the Accounting Academy
Jeffrey R. Cohen and Lori L. Holder-Webb
ABSTRACT: The business press is showering criticism on business academics, citing
failure to teach relevant skills to students and a perceived increasing irrelevance of
research streams. This criticism is echoed by some academics who assert the need
for serious consideration of the academy’s direction. In this essay, we examine and
extend this body of criticism and explore its implications for accounting research and
education. We discuss how our discipline has freely borrowed methodology from the
physical sciences and how this importation has led to the adoption of excessively
simplified economic theories. We also consider the self-fulfilling attribute of social sci-
ence theories and how this attribute has led to formulations of behavioral models,
instantiation of those models in the business environment, and eventual conformity of
manager behavior related to the underlying assumptions of these models. We then
examine agency theory in light of this dynamic and explore how the discipline-wide
espousal of this theory may have led our accounting education system to unwittingly
introduce and then normalize narrowly self-interested behavior. Finally, we suggest
ways to improve accounting education that embrace multiple perspectives for prepar-
ing students to act truly in the public interest.

INTRODUCTION

I
n April 2005, the Financial Times ran a full-page article castigating American business
schools for emphasizing and rewarding academic research that is neither grounded in
nor applicable to the business environment and that fails to prepare students for active
roles in that environment (London and Bradshaw 2005). In particular, the article criticized
academics for focusing on the development of overly simplistic models at the expense of
exploring and teaching valuable communication and management skills. The academic fo-
cus on modeling, characterized in the article as ‘‘physics envy,’’ has resulted in an emphasis
on abstract economic and statistical analysis that is effectively divorced from the ‘‘real
world of business’’ (London and Bradshaw 2005, 11). While the developing body of ex-
ternal criticism revolves mainly around a perception of increasing irrelevancy, our critique
is based on what we regard as an ill-considered adoption of inappropriate methodology.
Business and accounting researchers as well as social scientists rely widely on meth-
odological tools that were developed for use in the physical sciences, such as chemistry,
physics, and biology. However, the importation of research tools from the physical sciences
into the social sciences is both inappropriate and damaging to the legitimacy of our work

Jeffrey R. Cohen is an Associate Professor at Boston College and Lori L. Holder-Webb is

an Assistant Professor at the University of Wisconsin–Madison.
We acknowledge the helpful comments of Sue Ravenscroft, Diane Swanson, Theresa Hammond, Gil Manzon, Ella
Mae Matsumura, and the inspiration of Emma Goldman.

17
18 Cohen and Holder-Webb

(Ghoshal 2005). In the attempt to render our social science problems tractable to investi-
gatory approaches in the physical sciences, we have adopted highly simplistic models that
dismiss the issues of social context and social dynamics in our attempts to reduce human
behavior to mathematically tractable models.1 Quantitative models hold a particular appeal
for accountants, who are trained in measurement and analysis. These models have become
disseminated through the classroom, generally without adequate consideration of their lim-
itations. Accounting provides the juncture between economics and management and is
subject to the percolation of ideas from both fields. Thus, concerns about the validity of
economics and general business research are particularly germane to accounting researchers
and educators. The organizational and social context of decision making is ignored in
quantitative models and—by this omission—treated as irrelevant. The omission of contex-
tual considerations creates a false picture of how decisions are actually made and allows
students to avoid dealing with the social or ethical implications of their analyses.
An additional methodological concern, shared by Ferraro et al. (2005) and Ghoshal
(2005), is that social science theories possess a distinctively self-fulfilling nature, in which
the act of theorizing and studying causes the phenomena under consideration to alter and
become more consistent with the theory.2 Physical science methodologies, including the
processes of theory formulation and testing of hypotheses, were developed for use in an
environment where the phenomena exist independent of human actions or observation and
where the environment is sufficiently naturally structured to permit a clean quantification
of phenomena. When applied to the social sciences, where phenomena exist as a function
of human behavior and may be directly or indirectly affected by observation, theories and
models that enjoy widespread use will begin to dictate the behaviors they were developed
to explain.
This phenomenon is approached most closely in the physical sciences through the
Heisenberg Uncertainty Principle (HUP). HUP suggests that, on a quantum level, the move-
ment of particles is disrupted by the attempt to measure them, as the taking of the mea-
surement involves generating a tiny collision with the particle. The most significant differ-
ence between the changes suggested by the HUP and those suggested by the self-fulfilling
dynamic discussed herein is that the movement of particles is not affected by the beliefs
of the research community or by the dissemination of those beliefs. It is affected only by
the physical act of attempting to measure the movement. The self-fulfilling dynamic, how-
ever, exists regardless of whether the theory is ever tested. If it is disseminated and accepted
at some level, then it may change the behavior of the social actors.
By contrast to physical scientists, as we instantiate theories of economic behavior by
designing contracts on the assumption of purely self-interested managers, we create a class
of self-interested actors (Ferraro et al. 2005). For example, Ferraro et al. (2005) illustrate
how a theory stating that employees are motivated by extrinsic rewards influences com-
panies to emphasize these rewards in their control systems. Employees, in turn, adjust their
behavior to achieve the rewards that are emphasized and to downplay behavior that leads

1
This practice additionally renders invisible what should arguably provide a major focus for researchers examining
organizations and the use and production of information within them. When social dynamics such as politics
and values are regarded as a ‘‘black box,’’ it is impossible to shed significant light on decision-making processes.
In a recent article, Kulik (2005) opens this ‘‘black box’’ with respect to shedding light on the dysfunctional, yet
theoretically sound, decision-making environment at Enron.
2
The self-fulfilling attribute is occasionally referred to as the ‘‘performativity of economics’’ (Callon 1998). Callon
suggests that the study of economics acts to bring the economy into being. Further, economic actors are created
by the economy, and are not external forces that are simply and fully described by economic theories.

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Rethinking the Influence of Agency Theory in the Accounting Academy 19

to more intrinsic rewards. This self-fulfilling process, combined with the trend toward sim-
plistic modeling, is potentially changing the business environment in undesirable ways.
The problems presented by this dynamic also affect research. As the self-fulfilling
attribute is realized, researchers experience more difficulty in teasing out causal effects or
making useful predictions. In addition, the fixation on simplified, mathematically tractable
theories creates a serious long-term problem for the organic development of the research
field itself. According to Kuhn (1962), the development of fresh paradigms is essential to
the continued advancement of the frontiers of knowledge, and one of the primary stimuli
for the development of new paradigms is the accumulation of anomalies and inconsistencies.
When the realm of possibilities for anomaly accrual is consigned to the sphere of ‘‘non-
tractability,’’ researchers experience fewer opportunities to observe anomalies and, ulti-
mately, do not find what they are not looking for.
The second criticism from within the management field revolves around the obfuscation
of the value-structure underlying the theories. Ghoshal (2005) echoes the harsh criticism
of London and Bradshaw (2005), suggesting that ‘‘by propagating ideologically inspired
amoral theories, business schools have actively freed their students from any sense of moral
responsibility’’ (Ghoshal 2005, 76).3 When the self-fulfilling nature of social science the-
ories is combined with the simplifying assumptions required to render the theories quan-
titatively tractable, the possibility exists for reducing complex and nuanced human behavior
to a set of crude and broadly applied generalizations. When these generalizations either
instigate or reinforce undesirable characteristics, the theory, modeling, and research process
gain the ability to bring about equally undesirable shifts in the theater of behavior.
While recent critics have focused on business education in general and M.B.A. pro-
grams in particular (e.g. Bennis and O’Toole 2005), the issues that have catalyzed this
movement have generally involved accounting.4 The popular and business press emphasized
greed throughout its coverage of recent accounting scandals. However, if one searches
beneath the surface of these events, there appears to be a common theme that permeates
almost all of the egregious scandals: inventive and occasionally desperate attempts to meet
earnings forecasts and keep the numbers up at all costs (Knapp 2004). It is easy to bemoan
the loss of ethics, but we as accounting educators must ask ourselves how much respon-
sibility we collectively bear for this apparent decay. Have we unwittingly produced a lost
generation of professionals who are mesmerized by the need to meet the expectations of
financial analysts? Have we contributed to the dissolution of morals in the business envi-
ronment through our teaching and our research? Have we provided our students with tech-
nical skills, while neglecting the tools necessary for them to navigate a complex and morally
ambiguous environment?
In the following section, we expand upon the criticisms of importation of tools from
the physical sciences, and we consider the implications of these criticisms for accounting
research. Then we examine the criticism of modeling in light of the self-fulfilling nature
of social science theories, evaluating the particular case of the agency model—a popular
basis for organizational theory, contract design, and empirical investigation in accounting
research. Finally, we consider the role of educators and propose ways they can modify
specific courses to train accountants and managers to go beyond bright-line thinking and

3
Ghoshal (2005) provides a thorough yet succinct presentation of the problems; however, he is by no means the
only proponent of these views. See Gioia (2002), Adler (2002), Rynes et al. (2003), for example.
4
This is not to suggest that they are driven by accounting, or that they are limited to accounting. It is merely to
point out that the accounting is where the problems surface in the public awareness. To members of a profession
that relies upon ethical conduct, this focus must be of particular concern.

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20 Cohen and Holder-Webb

to operate according to the second principle of the Code of Professional Conduct (AICPA
2005), which is to act in the public interest. As the Supreme Court noted, ‘‘Public faith in
the reliability of a corporation’s financial statements depends upon the public perception of
the outside auditor as an independent professional ... If investors were to view the auditor
as an advocate for the corporate client, the value of the audit function itself might well be
lost’’ (United States vs. Arthur Young & Co. 1984).

IMPORTATION OF PHYSICAL SCIENCE RESEARCH MODELS

Ghoshal (2005) argues that the unquestioning adoption of tools and methods developed
for investigation in physical science fields by the economics-based disciplines is essentially
flawed. In the context of no reciprocal effects between researcher and subject, models can
be formulated and objectively tested with no chance that the research process will affect
the object that is being measured. For example, studying and observing the movement of
stars does not change the actual movement of stars any more than studying the life-cycle
of paramecia influences the development of that life-cycle. When the physical science
approach is imported to social sciences such as accounting, we make the assumption that
we can explain a manager’s behavior without considering whether managers may adapt
their behavior to conform to expectations of a theory.
Although the physical sciences methodology based on causality is preeminent in the
economic-based disciplines, much of the behavior studied in disciplines such as business
and accounting is more grounded in intentionality (Ghoshal 2005). Human intentionality
creates the likelihood that social theories will be self-fulfilling. The behavior of human
beings is not limited to systematic impersonal responses to random stimuli; rather it is a
function of the complex personal makeup of an individual’s psyche, a result of develop-
mental contexts, and the individual’s personal philosophy. Unlike the development of nat-
ural phenomena, human behavior is driven by the individual’s consciousness, which is in
turn informed by the individual’s context.5
While management theories such as agency theory are based on causality, where the
behavior of the action is primarily a function of the external environment, intentionality is
a function of the individual’s internal environment. Intentionality is not tractable in the
development of mathematical models and is often dismissed or ignored as a consequence.
Business academics ‘‘have professed that business is reducible to a kind of physics in which
even if individual managers do play a role, it can safely be taken as determined by the
economic, social, and psychological laws that inevitably shape people’s actions’’ (Ghoshal
2005, 77). This assertion effectively dismisses the prospect that choices and actions of
individual managers determine corporate behavior.
Just as the demand for increased scientific rigor in business research has led to the
adoption of the physical science methodologies, the use of these tools has driven the cre-
ation of quantitatively tractable models of organizational behavior. Critics have challenged
the legitimacy and relevance of business research that revolves around the wholesale adop-
tion of seemingly rigorous models based on simplifying assumptions (Ferraro et al. 2005).
Thus, messy and ambiguous questions such as which products to add or remove, plants to
close, or companies to acquire or spin off are looked at almost exclusively from the quan-
titative perspective of break-even analysis without considering qualitative and ethical con-
cerns. Of course, when evaluating products, researchers recognize the indispensability of
quantitative analysis, with its models based on break-even analysis. However, the effect,

5
It is possible that causality and intentionality are linked; however, the exploration of these linkages is largely
the provenance of cosmologists, theologians, and quantum physicists (see, for example, Ellis 2005).

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Rethinking the Influence of Agency Theory in the Accounting Academy 21

for example, of dropping product lines on the motivation of employees who remain while
colleagues are dismissed is often neglected or dismissed as being irrelevant since the effect
cannot be ‘‘objectively’’ measured (Brockner et al. 1994).

THE NATURE OF SELF-FULFILLING THEORIES

Recent papers (e.g., Ferarro et al. 2005; Ghoshal 2005; Bennis and O’Toole 2005)
argue for an understanding of the nature of social science research that has been largely
missing from recent economics-based business research. This understanding includes an
awareness that social science theories possess a uniquely self-fulfilling attribute, which in
the case of economics leads to formulations of behavioral models, instantiation of those
models in the business environment, and eventual conformity of behavior with the under-
lying assumptions of the models. Ferraro et al. (2005) focus on the self-fulfilling nature of
social science theories and cite Merton (1948), who defines a self-fulfilling prophecy as ‘‘a
false definition of a situation evoking a behavior which makes the originally false concep-
tion come true’’ (Merton 1948, 195) (emphasis in original). They expand on this concept,
stating that ‘‘actors see the world through the lenses of social theories, and social theories
are built borrowing actors’ categories and meaning’’ (Ferraro et al. 2005, 8). Thus, a theory
is built to explain behavior, which then changes to conform more closely to the theory.
Because the validity of social science theories is largely judged by how accurately the
theories describe or explain behavior, an inaccurate theory can, over time, become invested
with the weight of verity as people who are aware of the theory change their behavior to
conform to it.
Ferraro et al. (2005) describe three means by which social science theories become
self-fulfilling: through institutional design, through social norms, and through language.
The first two are of primary interest for accounting. Social science theories self-fulfill
through institutional design when they become embedded in the structure and practices of
an organization. When contracts, incentive systems, and measurement practices reflect the
theories of their designers, the theories become part of the system and thus induce the
behavior that they attempt to explain.
MacKenzie and Millo (2003), who examined the implementation of the Black-Scholes-
Merton option-pricing model in the Chicago Board Options Exchange (CBOE), provide
one example of this phenomenon in the financial economic world. Black and Scholes (1972)
acknowledged that their model had a poor fit in the tails, and traders were able to capture
significant excess returns at the time that the CBOE opened by exploiting the areas of poor
fit (MacKenzie and Millo 2003). However, Rubinstein (1985) found that by 1978, the
model’s fit had improved to the point where deviations along the spectrum of put and call
prices were negligible. MacKenzie and Millo (2003) attribute the dramatically improved fit
to two influences: ‘‘first, markets gradually altered so that many of the model’s assumptions,
wildly unrealistic when published in 1973, became more accurate’’ and second, the model
became increasingly used in pricing options. MacKenzie and Millo (2003), who are soci-
ologists, believe that this was more complex than a simple self-fulfilling prophecy effect,
and that numerous sociological factors and shifts also came into play. These factors, how-
ever, largely pertain not to the implied causal relationship but to shifts that made it more
desirable to use pricing models at all. They further suggest that one of the reasons the
Black-Scholes model gained over competing models was because of its tendency to un-
derprice. Thus, a model’s acceptability can be a function of the potential outcomes that can
occur as a result of using the model.
The lag between the adoption of the option-pricing model and the improvement of its
predictions is highly suggestive of a causal relationship: the theory was developed, the

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22 Cohen and Holder-Webb

model was formulated, the package of both was disseminated through the academic press,
and then made its way into the business world, where it was adopted and became normative.
The Black-Scholes model does not describe the exogenous pricing of stock options, as
originally intended; instead, it is now the tool that is used to generate those prices. The
pre-existing exogenous option-pricing behavior has been supplanted by the models that
proposed only to explain the behavior, not to determine it.
The second means of self-fulfillment of interest to accountants and accounting academ-
ics is fulfillment through social norms. If a theory becomes popular enough to be accepted
as a norm, then it will eventually prove true as people become increasingly unwilling to
act or speak in ways that violate the perceived norm. Ratner and Miller (2001, 6) describe
the norm of self-interest as one of particular strength, noting that it is ‘‘both descriptive
and prescriptive.’’ It is descriptive in the sense that people believe that others are highly
motivated by self-interest; it is prescriptive in the sense that individuals will attempt to
justify and normalize their own behavior and attitudes through explanations appealing to
the self-interest inherent in the behavior. When self-interest is perceived as the norm, people
will behave in a self-interested manner and expect others to do the same. For example,
students trained in economics exhibited more self-interested behavior and less interest in
the public good than students trained in other disciplines (Ferraro et al. 2005). These results
are consistent with those of Frank et al. (1993), who demonstrate that students enrolled in
beginning economics courses were less honest and cooperative at the end of the course
than at the beginning.6
Further, self-interested behavior can inadvertently be promoted through the use of lan-
guage. For example, one illustrative example that is discussed in the Ferraro et al. (2005)
paper involves how changing the language of the prisoner’s dilemma game actually affects
behavior. When the prisoner’s dilemma game was labeled the ‘‘community’’ game, subjects
were more likely to engage in cooperative behavior; when the game was labeled the ‘‘Wall
Street’’ game, subjects acted in a self-interested manner. Thus, the simple framing of lan-
guage in our accounting courses may unwittingly lead our students to act on information
in a self-interested manner. The concept that people act strictly in their own self-interest is
a fundamental premise of the predominant economic and accounting theories that guide
research. A collection of strictly self-interested actors implies conflicts of interest that must
be resolved through incentives, monitoring, or regulatory action. If social science theories
are self-fulfilling, then given the widespread acceptance of the primacy of self-interest,
people who otherwise would not evince self-interested behavior will begin to do so. Ferraro
et al. (2005) apply the notion of the self-fulfilling business economic theory to the issue of
transaction cost economics and related organizational institutions.
Williamson (1985) appears to acknowledge the potentially self-fulfilling nature of the
assumption of self-interest. He states that opportunism is a ‘‘behavioral assumption that
human agents are given to’’ (Williamson 1985, 64), but acknowledged in an earlier text
that it is also a behavioral outcome that is instigated through governance modes (Williamson
1975). Despite this evident awareness that it is both a description and an outcome deter-
mined by social context, Williamson does not include that possibility in his formal devel-
opment of the transactions cost economic theories and, effectively, dismisses the issue
through simple omission, rather than resolving it or incorporating it as an explicit short-
coming of the model.

6
These findings were challenged by Yezer et al. (1996) but corroborated by the original authors through a set of
triangulated experiments (Frank et al. 1996).

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Rethinking the Influence of Agency Theory in the Accounting Academy 23

The transactions cost and agency theories, while positively explaining different phe-
nomena, both contain the assumption of self-interested opportunistic behavior as the norm.
They lead to similar normative prescriptions in the organizational contracting environment
and possess similar potential for inducing an undesirable effect in economic actors. There-
fore, we will discuss them jointly in the following section.

AGENCY THEORY AND TRANSACTIONS COST ECONOMICS

Within the context of the development and dissemination of social science theories, the
agency model presents a particular problem. The model is arguably the most popular one
used by accounting researchers today (Almer et al. 2005; Harrell and Harrison 1993;
Harrison and Harrell 1993; Baiman 1990; Eisenhardt 1989). Its basic propositions are easy
to understand, intuitively appealing, and empirically tractable. Its popularity rests upon these
features that, in turn, rest upon the set of simplifying assumptions that underlie the model.7
The model assumes a separation of ownership and control, information asymmetry arising
from that separation, the availability of incentives and rewards, and, most significantly,
narrowly self-interested behavior on the part of the contracting parties (Noreen 1988). It is
the uncritical acceptance of the last condition that creates a problem with respect to this
model (Rutledge and Karim 1999).8
The assumption of self-interested behavior is the driving force behind the agency prob-
lem (Noreen 1988) and is the element that the theory says is ideally resolved through careful
and considered contracting. The assumption of self-interest is therefore a critical underpin-
ning of the agency model and of the contracting strategies that arise from acceptance of
the model. Agency theory, which is based on utility theory, posits rationality as a key
assumption of economic agents. As Noreen (1988) notes, however, rationality has become
conflated with narrowly defined self-interest and is now seen as promoting an agenda that
emphasizes economic payoffs at the expense of all other outcomes. Hence, the theoretical
inclusion of ‘‘self interest’’ in agency theory as a vehicle that narrowly advances the interest
of the individual is, at best, debatable and, at worst, dubious.
But the primacy of self-interest is also an empirical claim. If this assumption is not
true, then the external validity of the agency model is threatened. Testing this assumption
would seem, therefore, to be a primary consideration of researchers who are interested in
using the model. Direct testing of this assumption is notably absent in our literature, even
though existing literature in accounting and elsewhere indirectly raises significant questions
about the validity of the assumption of strictly self-interested behavior (Almer at al. 2005;
Stevens 2002; Evans et al. 2001). For example, Rutledge and Karim (1999) find that ethical
considerations reduce the predilection for engaging in narrow self-interested behavior in
project escalation and budgeting decisions. They conclude that the ‘‘contention from agency
theory that individuals make economic decisions based solely on their self-interest is not

7
One can argue that ethical concerns could be subsumed in agency theory under the rubric of nonpecuniary
benefits. However, given the way agency theory is often presented in accounting texts (e.g., Zimmerman 2003),
students are led to emphasize the items that can be quantified, thereby paying less attention to ethical concerns.
Further, Almer et al. (2005) argue agency theory models focus too heavily on pecuniary benefits and neglect
the professional responsibility public accountants have to serve the public good, a responsibility that is an
important motivator for at least some public accountants.
8
We recognize that there could be a difference between self-interested behavior and opportunistic behavior. For
example, Ghoshal and Moran (1996, 19) argue, ‘‘Self-interested behavior ... is presumed to be constrained by
obedience and faithfulness to promises. Opportunism is not.’’ Thus, individuals who are guided by self-interest
will be constrained by rules and mutual promises, while those engaging in opportunistic behavior are willing
to make false promises or threats in order to achieve their final objectives.

Issues in Accounting Education, February 2006

24 Cohen and Holder-Webb

supported by this study. Rather, managerial self-interest may be constrained by ethical

conditions, which casts much doubt on the agency theory assumption that behavior is
motivated solely by self-interest’’ (Rutledge and Karim 1999, 188). Further, Holder-Webb
et al. (2004) and Libby (2001) find that when many individuals make accounting-based
decisions, their consideration of fairness exerts a significant effect on their predilection to
act in their self-interest. Moreover, recent work by Church et al. (2005) demonstrates that
in an experimental economics setting, individual and situational variables will influence
individuals not to act in narrow self-interested terms.
Ghoshal and Moran (1996, 14) are particularly critical of the assumption that everyone
acts exclusively in their narrowly defined self-interests, noting that the assumption ‘‘can
become a self-fulfilling prophecy whereby opportunistic behavior will increase with sanc-
tions and incentives imposed to curtail it, thus creating the need for even stronger and more
elaborate sanctions and incentives.’’ For example, Ghoshal and Moran (1996) cite the re-
search on the use of surveillance used as a monitoring device. Essentially, surveillance
negatively affects commitment and motivation and thus reduces the effectiveness of the
employee’s performance.
Frank (2003) points out that the picture that the self-interested rational behavior model
paints of human nature is ‘‘unflattering’’ and that the model often fails to correctly predict
behavior. He offers, as an alternative, the ‘‘adaptive rationality standard,’’ which assumes
that people efficiently maximize personal objectives, and that those objectives themselves
are efficiently chosen. Some individuals may possess a ‘‘taste for cooperation’’ rather than
a taste for self-interest; as long as individuals are able to communicate these tastes to other
economic actors, they may reap the gains for doing so. As he notes, ‘‘the presence of such
motives [of a taste for cooperation], coupled with the ability of outsiders to discern them,
makes it possible to solve a broad range of important commitment problems. Knowing this,
even a rational, self-interested person would have every reason to choose preferences that
were not narrowly self-interested’’ (Frank 2003, 1793). Thus, by expanding beyond the way
agency theory is typically presented and emphasized (Cohen et al. 2000), we can acknowl-
edge and recognize that individuals are guided in part by a concern for societal interests at
large. This acknowledgement of the desire for many individuals to value cooperation could
lead accounting educators in the classroom to place a greater emphasis on promoting actions
that strengthen the public interest. Successful markets occur only when people make as-
sumptions that other people behave in ways that are not prescribed or described in agency
theory; that is, they do not seek only their own narrowly defined self-interest (Noreen 1988).

IMPLICATIONS FOR ACCOUNTING CURRICULA

Given the domination in accounting education and research of models based on self-
interested behavior, what can we do to inculcate in our students the value of acting in the
public interest? The current emphasis on modeling assumes that accounting information
does not imply or promote any given value system. However, by its very nature, accounting
information puts precedence on numbers and promotes decisions based on a narrow subset
of available information. Information that is relevant but difficult to quantify is systemati-
cally excluded and thus devalued. Morality and social responsibility, essentially nonquan-
tifiable constructs, are taught to be the purview of the individual and not an element that
pertains to the behavior of corporations. The reluctance of accounting educators to talk
about values and moral imperatives has promoted a tilting of the curriculum toward con-
sideration of equity stakeholders (Waddock 2005; Gaa and Thorne 2004; Kelly 2001). The
interests of other stakeholders—creditors, communities, employees—are nearly disregarded

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Rethinking the Influence of Agency Theory in the Accounting Academy 25

in the accounting curriculum, despite the key importance of these stakeholders to the pursuit
and growth of successful businesses and markets.
Agency models, like any models that have been simplified for tractability, offer thin
support for students who rely on their education to prepare them for dealing with the ‘‘real
world.’’ As may be commonly understood by any individual who has experience as a
member of a business organization, decision making neither reduces to a question of asym-
metries and pecuniary incentives, nor does it reduce to a simple question of shareholder
value. All too often decisions are made on the basis of insufficient information and insuf-
ficient experience, and decisions are often made on the basis of a drive for personal power
and politics. Simplistic models that disregard nonpecuniary factors or reduce them to ‘‘firm-
specific effects’’ neither shed useful light for researchers nor provide students with any type
of realistic notion of the complexities of the world into which they are entering. These
models are too spare, leaving our students unprepared for a messy, politicized environment
ridden with messy organizational cultures, ethical dilemmas, and personal value conflicts.
The agency model and related economic theories, such as transactions cost economics,
have been institutionalized not only in research, but also in textbooks and courses offered
to both undergraduate and M.B.A. students as well as accounting students (Richardson and
O’Malley 1995). Masten (1993, 119), for example, states that ‘‘To the extent that gover-
nance choices are an important determinant of firm performance, managers would be well-
advised to heed those rules and to factor transaction-cost concerns into their decision-
making calculus.’’9 Economic models in textbooks focus almost exclusively on the
maximizing of equity shareholder value, and offer limited adaptability to the concerns of
other stakeholders, or to the explicit incorporation of ethical concerns.
A serious consideration of multiple stakeholders is essential for accounting students if
these students are going to give more than lip service to a public interest perspective. For
example, when confronting the messy reality of accounting-based decision making in a
managerial/cost analysis course, students could be asked to systematically list and rank
order all potential parties affected by a decision and only then make a recommendation
(Cohen et al. 2000). Unfortunately, these other parties are far too often considered with a
contemptible disregard in relation to an analysis that exclusively emphasizes the interests
of stockholders (Jennings 2004). Students can go beyond focusing exclusively on maxi-
mizing shareholder wealth and instead complement that analysis by looking at the stew-
ardship role of managers (Ghoshal 2005). By assuming a stewardship perspective, students
would look at multiple interests simultaneously, including the interests of customers, em-
ployees, and communities in addition to those of shareholders (Kelly 2001).
Further, given the multiple highly priced failures of existing contracts to get managers
to behave morally, we are confronted with the conundrum of what else to emphasize to
students for the topic of incentive contracting. As Ratner and Miller (2001, 16) argue,
‘‘When confronted by people behaving in undesirable ways (e.g., not volunteering), it is
generally more effective to remove obstacles that inhibit them from taking the desired action
than to provide them with additional reasons for taking the desired action.’’ Perhaps an
alternative perspective on the issue of contracts and incentives is to present to students the
notion that moral behavior is appropriate at the corporate level, and that the norm is to
consider the full set of stakeholders, not just the providers of equity capital.
Over the last few years, we have seen educators grapple with the importance of ethics
in various accounting courses (Thomas 2004). Ethical issues are often ignored because

9
The classic text on implementing agency theory through contracting by Milgrom and Roberts (1992) remains
popular as evidenced through a brief survey of syllabi on the Internet.

Issues in Accounting Education, February 2006

26 Cohen and Holder-Webb

morality does not fit easily into the physical science methodology that we have borrowed
from so heavily to use in economics-related disciplines. It is hard to quantify or model the
need or injunction to ‘‘do the right thing because it is the right thing.’’ Thus, ethics is given
cursory attention at best, resulting in a state of affairs in accounting education that is
essentially unchanged from the status quo over 16 years ago (Cohen and Pant 1989).
And yet, serving the public interest is arguably the raison d’etre for the accounting
profession. As a profession that has been given a monopoly over the attest function, we
must reinforce to students their role as auditing professionals who serve the public interest
first (United States vs. Arthur Young & Co. 1984) and not as mere business partners to
their clients. Because accounting is a profession that obliges its members to act beyond
their narrow pecuniary interests, we should as educators make ethics and adhering to the
principles as well as the rules of the code of professional conduct a living part of each and
every component of the accounting curriculum.
Another way we can have students think beyond self-interest and to consider the public
interest is to discuss issues of fairness and organizational justice. For example, in a decision
of the budgeting and allocation of costs, we can have students examine how the allocation
is potentially affected by issues of perceived fairness (Holder-Webb et al. 2004; Libby
2001). Further, we can examine reward structures explicitly in terms of procedural fairness
(i.e., that of the process by which individuals are evaluated) and outcome fairness (i.e., that
of the actual reward structure) to examine how our reward systems affect the larger good.
For example, Glater (2005) illustrates how rare it is for executives to return bonuses after
their companies have been forced to restate earnings. Ironically, it appears that at the top
executive level, there is a disconnect concerning the notion that pay should be tied to actual
performance. If we examine this egregious behavior by corporate managers in terms of the
construct of fairness, it then becomes easier for our students to generate thoughtful critiques
of this phenomenon of managers keeping bonuses when their firms’ earnings have been
restated downward.
Finally, there is an obvious importance to emphasizing ethical considerations and acting
in the public interest as the cornerstone for the auditing component of the curriculum
(Earley and Kelly 2004). Fortunately, the much needed and recently enacted reforms in
corporate governance have reinforced the need to strengthen auditor independence, in per-
ception as well as in fact. We cannot teach this independence in a vacuum, but must provide
our students with the historical information about the auditing profession’s focused resis-
tance to the governance and independence reforms proposed by former SEC Chair Arthur
Levitt. Ironically, these very reforms appear to have restored at least a modicum of order
and profitability to the auditing profession.
As Noreen (1988) pointed out, enlightened self-interest could be used to motivate in-
dividuals to act with a greater awareness of ethics and moral issues. Thus, in auditing we
can use enlightened self-interest as a tool to demonstrate to students why there is need for
auditors to be vigilant in their defense of true professionalism and independence—even if
it means forfeiting short-run profitability.

CONCLUSIONS
The assertions of London and Bradshaw (2005) in the Financial Times reflect a ground-
swell of trenchant criticism of academic research by business school faculty, and more
pressingly, the neglect of social and ethical responsibility by today’s business educators.
For example, Bennis and O’Toole (2005) criticize business schools for not using the more
multidisciplinary approaches found in the professional schools of law and medicine. They
argue that since most business decisions ultimately ride on judgment, over-quantification

Issues in Accounting Education, February 2006

Rethinking the Influence of Agency Theory in the Accounting Academy 27

can lead to ignoring many qualitative factors (e.g., disregarding the effect that relocating a
center to save costs may have on the morale and productivity of remaining employees).10
To the extent that the importation of ‘‘scientific’’ approaches into research and teaching has
resulted in attempts to strip accounting and finance of their moral and ethical contexts, it
is possible that the drive for rigor has played an indirect role in the development of a rash
of accounting scandals.
As accounting researchers and educators, we must re-evaluate our role vis-à-vis the
accounting profession, the primary consumers, and supporters of our educational process.
We must address the question of the relevance of our research for practitioners, and prepare
to consider the proposition that our pursuit of rigor—the effect of our collective ‘‘physics
envy’’—may limit the potential usefulness of our work. We must be prepared to consider
the possibility that our methods, while glamorous, are not appropriate to the questions we
wish to answer.
As teachers, consumers, and exporters of knowledge, we must directly address and
convey the value context and ethical implications of our work. We must maintain a continual
awareness of the self-fulfilling nature of social science theories, and accept the limitations
that these theories may place upon our work. We must maintain awareness that the theo-
retical models we embrace for their simplicity have significant real-world effects, many of
them deleterious. We must internalize these concerns and integrate them into our textbooks,
our curricula, and our teaching philosophies. To do otherwise represents a breach of faith
with our students and our society, and a risk to the credibility of our profession. If we
continue to overemphasize agency theory without the concomitant study of the ethics that
underlie actual markets and human behavior, then we may potentially see more accounting
problems and not fewer.
It is not enough to merely state that it is a good idea to expand beyond an agency- and
model-influenced accounting curriculum to develop the ethical context for accounting ed-
ucation; the reward system for accounting educators must reflect and reinforce this alter-
native focus. A 1989 survey of accounting educators (Cohen and Pant 1989), found that
the number one barrier to integrating ethics in the curriculum was the lack of rewards for
faculty who truly made substantive attempts to include ethics in their courses. The last 15
years have seen few developments in this area, and the business environment and economy
have been paying the price through scandals and crimes.
The lack of rewards for studying and disseminating ethics in business schools is more
pronounced than ever (Bennis and O’Toole 2005). Is it a surprise that the accounting
academy has produced countless employees who become adept at learning rules focus
primarily on monetary incentives and disregard the societal implications of their work? The
accounting academy and the accounting profession have engaged in well-meaning—but
ultimately cosmetic—reforms such as adding a fifth-year requirement or developing Ph.D.s
who are well versed in economics and mathematics but still lack training in ethics and
morality.
As academics, we have an obligation to consider seriously the validity of criticism that
challenges the credibility of our research and the teachings that arise from that research.
We have, en masse, attempted to deviate from the social science roots of our discipline in
pursuit of the academic prestige previously reserved for the physical sciences. In our pursuit

10
Bennis and O’Toole (2005) illustrate the folly of over-quantifying decision analysis by pointing out the horrific
tragedy that occurred in Viet Nam when then Secretary of Defense McNamara used scientific methodology to
run a war. McNamara now argues that this approach essentially leads to overweighting certain types of infor-
mation at the expense of items that are more difficult to quantify.

Issues in Accounting Education, February 2006

28 Cohen and Holder-Webb

of the elegant, mathematically tractable model we have lost much of our relevance to the
professional fields for which we train our students, and to which we purport to offer support.
Furthermore, the promulgation of theories designed to deliver these tractable models may
have created a class of self-interested managers where one did not previously exist. In our
teaching, we have attempted to strip these theories of the value context underpinning them
and thus helped to create a perception that corporations have no moral—as opposed to
legal—obligations. The social costs of these practices have begun to manifest in a series
of unfortunate corporate misdeeds. It is incumbent upon us, as researchers—but more crit-
ically, as educators—to redress these issues with forthrightness and speed.

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