Agency relationships require both a principal and an agent. Each of these parties owes certain duties and obligations to the other. This lesson explains the obligations principals owe to their agents.
Sometimes an entity instructs another to conduct its business transactions. This is common in business and is known as an agency relationship. Agency is a business relationship where a principal gives legal authority to an agent to act on the principal's behalf when dealing with a third party.
An agency relationship requires two parties. The first is the principal, which is the party who gives legal authority to another to act on his or her behalf in a business transaction. The second party is an agent, which is the party who is legally authorized to act on behalf of the principal in the principal's business transaction.
Agency relationships are known as fiduciary relationships because the agent owes a fiduciary duty to the principal. This means the agent is obligated to act in the best interests of the principal. But the principal owes certain obligations to the agent, too. Let's take a look at the principal's obligations.
A principal can be a person, corporation, partnership, not-for-profit organization, or even a government agency. In any case, once a principal engages an agent, the principal owes four main duties to that agent. If a principal fails to fulfill these duties, it can result in a lawsuit based on breach of contract or tort liability. These duties are:
- Good faith and fair dealing
- Acting according to contract
Let's separately examine each of these four obligations.
Compensation and Indemnification
The principal's first duty to the agent is compensation. This means the principal must compensate the agent as agreed. Keep in mind that a principal hires an agent, similar to an employer employing an employee.
The principal must therefore pay the agent a reasonable fee. The fee doesn't have to be money, but it has to be something that is of value to the agent, such as stock shares or tangible goods. The reasonableness of the fee is judged according to the facts and circumstances of the agency relationship and agreement.
The principal's second duty to the agent is indemnification. This means the principal must reimburse the agent for any claims, liabilities, and expenses incurred while performing agency duties. The principal must indemnify the agent for duties performed under the principal's authority and also for duties performed in the reasonable furtherance of agency duties.
For example, let's say P. tells A. to pay C. $50. This payment is expressly authorized by P., and P. must reimburse A. Now let's say P. hires A. to handle a business event, and A. finds it necessary to purchase certain supplies for the event. Even though P. didn't expressly authorize a particular purchase, A. made the purchase in the fulfillment of his agency duties. Therefore, P. must still reimburse A.
Note that this duty of indemnification also applies to the agent's liabilities incurred as a direct result of authorized agency duties. If the agent's actions result in a third party bringing a cause of action against the agent, such as a breach of contract suit, then the principal will be responsible for any expenses the agent suffers in the defense of that lawsuit. This includes any damages awarded to the third party.
Fair Dealing and Contractual Duties
The principal's third duty to the agent is that of good faith and fair dealing. This means the principal must deal with the agent fairly and honestly. The principal cannot engage in conduct that reasonably might result in harm or loss to the agent. In meeting this end, the principal must specifically provide the agent with safe working conditions and information about potential risks and losses.
The principal's fourth duty to the agent is to act in accordance with the contract. This means the principal must complete the terms of the agency agreement and cooperate with the agent. The principal must complete both express terms and implied terms. Additionally, the principal must allow the agent to complete agency duties. The principal must cooperate with the agent and assist the agent as necessary.
For example, let's say the agency agreement expressly states that P. will give A. access to an office for the completion of agency duties. This agreement implies that the office will be conducive to conducting business. P. only provides A. with a small shed near a loud construction zone, preventing A. from making productive phone calls on behalf of P. P. has not acted in accordance with the contract and has not cooperated with A.
Let's review. Businesses often use others to conduct business transactions. This is known as an agency relationship. It's a business relationship where a principal gives legal authority to an agent to act on the principal's behalf when dealing with a third party. The principal is the party who gives legal authority to another to act on his or her behalf in a business transaction. The agent is the party who is legally authorized to act on behalf of the principal in the principal's business transaction.
The agent owes the principal a fiduciary duty. This means the agent is obligated to act in the best interests of the principal. The principal owes the agent several duties as well. There are four main duties:
- Compensation, or paying the agent as agreed
- Indemnification, or reimbursing the agent for losses, expenses, and liabilities incurred in the agent's duties
- Good faith and fair dealing, or dealing with the agent fairly and honestly, including providing a safe environment
- Acting according to contract, or fulfilling the terms of the agency agreement and cooperating with the agent
After watching this lesson, you should be able to identify and explain the four main roles principals owe to their agents.