This article is written by Bhumi Agarwal, pursuing a Diploma in Advanced Contract Drafting, Negotiation and Dispute Resolution from LawSikho.

Introduction

As per Section 182 of the Indian Contract Act, 1872, an agency agreement is a legal contract creating a fiduciary relationship, where the first party who is principal agrees that the actions of the second party that is agent binds him for the later agreements/transactions, made by the agent as if the principal had himself personally made the later transactions. This power of the agent to bind the principal responsible for all its actions is referred to as ‘Authority’. So, here in this article, we will learn the basics of an agency agreement, the creation of the agency, the termination of the agency, various issues related to the agency, and the methods to mitigate these issues.

Who are Agent and Principal?

An agent is a person who works on behalf of the Principal and the Principal is the one who hires the Agent to work on its behalf. The principal is responsible for the conduct of the agent under the contracts of the agency. The agent deals with the third party on behalf of the Principal and the Principal is held liable for all the lawful conduct of the Agent done on its behalf.

Example- If a property of A is sold to B by an auctioneer C. Then, here A is the Principal, B is the third party and C is the Agent.

Agency is an exception of privity to contract where it is laid that the third party cannot sue, but here the third party can sue the principal for the actions of the Agent as the principal is liable for the conduct of Agent.

A Principal can be any person who is competent to contract that is a person who is major and is of sound mind, and the Agent can be any person no matter whether he or she has the capacity to contract or not. A contract of Agency can be formed even without consideration.

Creation of Agency

As per Section 186, an agency can be created either expressly that is by orally or in writing expressing the Agency or impliedly that is by doing certain acts which makes it represents to the third party that there is a relationship of Agency between the two. An agency can be created in the following other ways:

1. By the need of necessity that is when in a situation of emergency one party may act in the interest of the other party.
2. By operation of law.
3. By ratification i.e. when although there is no contract for an agency the principal accepts the work/actions of an agent in a lawful manner and at a given time either expressly or impliedly.
4. Coupled with interest i.e. the agent also has some kind of interest along with the principal when acting on its behalf.

Termination of Agency

Termination of the agency is putting an end to the contract to agency and it can be done in the following manners:

1. By operation of law
2. By Agreement
3. By revocation

But in case the agency is created by the coupled interest method then, it can’t be revoked and also if the Agent has partially or fully performed its actions then also, it can’t be revoked.

If any party of the Agency terminates the agreement for an agency before the given time then, he is liable for compensation and if in case no time is given for expiration then the party shall provide a reasonable time for termination.

Issues related to the Agency Agreement

As we have now discussed what is agency and how it can be created so, now let’s see what are the common issues that arise frequently in  the Agency Agreement:

• Conflict in priorities over Ownership and Control – When the principal hires an Agent although the principal is the owner of the Company, the Agent is the one who deals on his behalf control of how the things are done is actually with the Agent. So, a problem like this arises in an agency contract where the control is much under the Agent and the Owner is happy being the Owner and instructing the Agent. In a long period, it gives rise to situations where the Agent makes his interests not putting much effort into acquiring the best of interests for the Principal. It creates a disturbance in the fiduciary relationship between them as the Agent tries to generate interests for his benefit taking advantage of the Control provided to him by the Principal.

Example- Suppose A hires B as an Agent for his project and assigns him the work to deal with the project. Here, B deals with the third parties and acquires all the information regarding the project whereas, the A who is the Owner of this project sits back and waits for the results. In such a case, B can himself make benefits by dealing with the third parties for its benefit rather than working for the best interests of the A.

• Agency costs: Agency costs are the term used for the internal cost incurred due to the competing interests of the Principal and the Agent. Expenses that are associated with resolving this disagreement and dealing with the connection are known as agency costs. The agency costs are incurred when the interests of agents and the principal are not aligned and the agent may work in a way to gain or enjoy the benefits himself and the principal may incur costs to prevent such gains by the Agent.

Example: Suppose A who is an Agent of B goes for a work to be done on behalf of C to Kolkata. There he books a five-star hotel and orders luxury food and stays there for 2 days a lavish life. All these costs incurred are to be paid by the Principal as the Agent is working on his behalf. So, this cost will be agency costs.

• The difference in level of knowledge- It has been observed that various problems in the Principal-Agent arise because of the difference in the level of the knowledge. An agent as it controls all the functioning of any institution on the behalf of the agent has more knowledge than the principal sitting at an Authority with less interaction with the other parties. This can create in long-run loss to the Principal as an agent is interactive and so any offer from any other parties, which can be profitable for him, can cause loss to the Principal. Also, there can be a situation where the Principal takes advantage of the great knowledge of the Agent to make his profits and in return, the Agent may suffer loss but that’s quite rare in today’s world.

Example-  A, is a company that provides various home services like plumbers, electricians, etc. to the third parties who need such services. It hires B as an Agent to get the work done at C’s house. As it is B who has better knowledge of the work and not A so, the B after 2-3 visits for providing various services, suggested C to contact him personally rather than going to A for any of such help in future. Here, it can be noticed that B has created its own interest while working as an Agent only because he has more knowledge of that work.

Various other issues may arise in the agency agreement depending on the type of agency. So, now as we have gone through the problems, we have to look for solutions to mitigate these issues.

How to Mitigate these Issues?

Here are the solutions that one can adopt to mitigate such issues in Agency-

• Introduction of incentive schemes- One can overcome the problem of the agency by introducing the incentive scheme in its agreement. It is the scheme in which financial incentives and non-financial incentives are provided to the Agent-based work, for the purpose to motivate him and maintain its interest for the best of the principal. 

Example: Suppose A hires B as its agent for a particular project. If on the completion of project A incurs a profit amounting to Rs 2 lakhs. Then, if the financial incentive scheme is adopted the Principal gives an amount of Rs 2000 to the Agent as an incentive for the profit which has been caused to A.

• Restriction on the Agent’s Control- As while discussing the issues, we have discussed the problem of conflict in control and ownership; so, to solve this issue, the Principal can impose certain restrictions on the Agent. Limited powers can be provided to the Agent while dealing with the third party. The Agent party can be put under the obligation to report each and everything to the Principal from time to time and the Principal should put such obligation in a manner that it doesn’t hurt the sentiments of the Agent.

Example- As illustrated above in the problem of control and ownership, this problem can be solved if A(Principal) keeps a track of what is being done by B (Agent) by putting an obligation on him to make report of the work done on daily basis and send the same to A via mail or personally.  

• Equal knowledge of Working- The Agent and the Principal can solve the problem of difference in knowledge by understanding the need to have equal access to all the information related to or done in the period of Agency Agreement. Whether its the Agent or the Principal, both should follow a routine exchange of knowledge and ideas to benefit mutually. Apart from just instructing the Agent, the Principal should try to understand his ideas and adapt its method if it’s for the benefit for all and the Agent too should instead of trying to make benefits from the knowledge he has gained while working as an Agent for the Principal should try to do things for the benefit of the Principal’s best. If the Agent in the case feels that he is getting less for his hard work and knowledge he can ask for certain allowances and bonuses from the Principal.

Example- If A hires an Agent, B and asks him to do a particular work in a time much lesser than is actually required to do the same. Then, although A has asked to do it as A does not have knowledge of how much this work could take but B who has knowledge, instead of taking A otherwise, should try to explain to him the work and ask him for more time. This will provide knowledge to A of this work and would provide B some relief for such hectic time bound tasks.

Conclusion 

As the Agency is formed as a fiduciary relationship both the Principal and the Agent should try best to maintain this relationship without thinking of their personal benefits only. By adopting the solutions provided above in this Article one can observe betterment in their Agency Agreement and their relationship. Agency Agreements should be drafted according to the case of the Express Agency. The various companies use this Agency Agreement to make benefits in a short period for Agents to work for them to have access to knowledge and to sharpen their skills. To promote this and to mitigate the issues related to it one should follow these given solutions ideas.

References

• https://corporatefinanceinstitute.com/resources/knowledge/finance/agency-costs/
• https://quickbooks.intuit.com/ca/resources/self-employed/conflict-of-interest-resolving-agency-problem/

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