Agency describes the relationship between a principal and an agent who acts on the principal’s behalf. Common principal-agent relationships include employer-employee, client-attorney, and property owner-real estate agent.

In business negotiations, people use agents for a variety of reasons. For example, in a negotiation, if there is personal tension between an executive and the counterparty, an agent is more objective and less likely to be influenced by emotion or ego. By de-personalizing the negotiation, agents can focus on the issues rather than personalities or contests of will.

Principals may lack subject matter expertise. For instance, an executive may understand his business but lack specialized knowledge with regard to intellectual property issues. Acknowledging the outer edge of one’s circle of competence and retaining a specialist is a hallmark of intelligence.

Agency can begin in several ways. For instance, parties can sign an agreement, such as a power of attorney or contract. Agency can be implied by the nature of the position (e.g., a salesman). Whether someone is an agent depends on the facts—namely the parties’ communications and conduct. Agents may be compensated according to the terms of their contract or by legislation, regulation or court order.

Employees tend to be agents, whereas independent contractors tend not to be agents. There are exceptions though. Attorneys and real estate agents are independent contractors and agents for their principals.

In a company, the distinction between employees and contractors is not always clear. Previous columns (June and July 2012) analyzed the factors that various governmental agencies consider when making the distinction. These include, but are not limited to, the company’s control over the worker, worker’s duties, skill required to perform the job, and duration of the relationship. There is no exact formula to determine whether someone is an employee (and agent) or contractor. Thus, a written agreement can avoid confusion.

A principal should notify relevant third parties when an agency ends. This will prevent the possibility that the agent could bind the principal in a contract. For example, if an employee is responsible for buying supplies from vendors and the employment relationship ends, the company should inform the vendors.

Agents and principals owe different duties to each other. Agents have an “upstream” fiduciary duty to principals. This includes a duty of loyalty. The agent need not perform acts of extraordinary heroism, but under the facts and circumstances, the agent must exhibit a normal standard of care. For example, a painter and an airline pilot are held to two very different standards. Agents must act in good faith, avoid self-dealing, maintain confidences, and obey lawful instructions.

Principals do not owe fiduciary duties to agents, but they do owe them other “downstream” duties. Principals’ instructions must be lawful, clear and adequate. They must monitor the agents’ activity, assess agents’ disclosures, exercise reasonable control, and act in good faith. They must not mislead the public with regard to agents’ authority or put agents in harm’s way. Also, they must indemnify the agent for good faith actions performed on the principal’s behalf.

A principal can revoke agency by declaring that he wants to terminate the relationship. Because an agent owes a duty of loyalty, if the agent acquires a conflict of interest vis-à-vis the principal and the principal does not consent to it, the agency ends automatically.

The principal’s death terminates the agency. Many people appoint agents through a power of attorney (POA). There are several different types of POAs. A durable POA lasts from execution until death. A nondurable POA lasts from execution until incapacity. A springing POA lasts from incapacity until death. The scope and duration of the agent’s authority depends on the terms of the document. Thus, third parties who deal with the agent appointed by a POA will request a copy of it.

 Principals should select agents who they trust. They should have a reputation for fairness, sound ethics and the ability to accurately execute their instructions. This will protect the principal and facilitate dealing with third parties. Agency is a powerful tool that could improve a business, but principals must understand the risks and duties and act accordingly.