**2.2 Stewardship theory**

In contrast to Agency theory, Stewardship theory is based on psychology theory that views corporate executives as stewards of their companies who will choose the interests of the stockholders over the interests of self, regardless of personal motivations or incentives (Donaldson and Davis 1991; Sundaramurthy and Lewis 2003). Since the executives can be trusted to place stockholder interest first, the board of directors focuses on empowering rather than controlling the executives. Another theory that focuses on empowering the corporate

Albrecht el al. (2004) describe a Broken Trust theory to explain corporate executive fraud. It should be noted that they have never used the term "Broken Trust" in their theory. We took the liberty of labeling their theory as the Broken Trust theory. Since Albrecht el al. (2004) derive their Broken Trust theory by linking the Agency theory and Stewardship theory to the Fraud Triangle concept in corporate fraud literature, we first describe the Agency theory, follow by the Stewardship theory, and then the Broken Trust theory. We are aware that research and publication in Agency and Stewardship theories are very extensive, but only those that are specifically related to corporate executive fraud are cited in this paper.

Agency theory was introduced into management literature by Jensen and Meckling (1976). The theme is based on economic theory and it describes a principal-agent relationship between owners (such as stockholders) and executives, with top executives acting as agents

The principal-agent relationship involves a transfer of trust and duty to the agent while assuming that the agent is opportunistic and will pursue interests, including executive fraud, which are in conflict with those of the principal. This potential conflict of interests is often referred to as "the agency problem" (Davis et al. 1997). A typical solution to the agency problem is to structure executive incentives, such as stock options, in such ways that they align executive behavior with stockholder goals. Another common solution to the agency problem is for the board of directors to control and curtail the "opportunistic behavior" of the executives by, for example, the audit committee (Donaldson and Davis

However, the studies cited in Davis et al. (1997) indicate corporate executives are extremely complex human beings and the agency problem persists. Recent studies by Daily et al. (2003) and Sundaramurthy and Lewis (2003) also show that, in practice, corporate executives have power to counteract the board's control over them. For example, the corporate executives can exercise influence over the board because they are more in tune with daily operations of the company, or they exercise influence over succession of the board to ensure that board members who agree with them are appointed. Finally, Bebchuk and Fried (2004) argue that corporate executives' influence over the board of directors on pay setting can explain a wide range of compensation practices and patterns. This includes ones that have long been viewed as puzzles by economists such as why pay is higher and less sensitive to bad performance, including fraud, in corporations in which executives are

In contrast to Agency theory, Stewardship theory is based on psychology theory that views corporate executives as stewards of their companies who will choose the interests of the stockholders over the interests of self, regardless of personal motivations or incentives (Donaldson and Davis 1991; Sundaramurthy and Lewis 2003). Since the executives can be trusted to place stockholder interest first, the board of directors focuses on empowering rather than controlling the executives. Another theory that focuses on empowering the corporate

whose personal interests do not naturally align with shareholder interests.

more entrenched or have more power vis-à-vis the board.

**2.2 Stewardship theory** 

**2. Theories of corporate executive fraud** 

**2.1 Agency theory** 

1991).

executives is Resource Dependency theory (Daily et al. 2003). This theory holds that the board of directors is boundary spanner of the company and its environment. It provides the corporate executives access to resources to which they would not normally have access. For example, a lawyer might be appointed to the board to provide legal advice to the executives.

Like Agency theory, Stewardship theory seeks the alignment of corporate executives with the stockholders interests. Also, like Agency theory, Stewardship theory cannot explain the complex behavior of the executives such as whether they will or will not break the trust and commit fraud. For example, the board's lack of psychological independence from the corporate executives underlying the stewardship relationship may be partly to blame for the executives' fraudulent behavior. Psychology independence refers to the board's lack objectivity both affectively (e.g., directors can be blind sighted by their admiration for the corporate executives' persona) and cognitively (e.g., directors can be blind sighted by their belief in the corporate executives' expertise). A lack of psychological independence is a problem in many boardrooms across corporate America. As pointed out by Lorsch (2005), directors tend to like and admire their corporate executives. They find it hard to penalize their corporate executives even when the company is doing badly and they tacitly tolerate the executives' fraudulent behavior.
