Assess whether Thomas Cook’s failure was caused by the principal-agent problem

Edexcel A-Level Economics Paper 1 June 2021 Extract

With reference to Extract C, assess whether Thomas Cook’s failure was caused by the principal-agent problem. (10 marks)

1. On the one hand, you could argue that Thomas Cook's failure was caused by the principal-agent problem.
2. This occurs when the principal leaves the agent to manage day-to-day tasks on their behalf but the principal and the agent both have a different set of objectives.
3. Extract C mentions that the role of the management is being investigated by the UK government.
4. The shareholders and owners of firms like Thomas Cook generally aim to maximise profits so they can pay themselves the most in dividends.
5. Managers and workers are most likely to value other objectives, such as job satisfaction but also possibly sales maximisation if that's what earns them bonuses or greater recognition when striving for career progression.
6. In this particular case, the CEO might have been incentivised by the £500,000 bonus as it might have been tied to market share or sales rather than consistent long-term profitability.

1. On the other hand, you could argue that Thomas Cook's failure was caused by other factors such as high costs.
2. The extract mentions that the CEO worked “exhaustively” to rescue Thomas Cook and create a long-term turnaround strategy.
3. Ultimately, the merger with MyTravel increased debts significantly which would have led to an increase in costs due to the interest owed each year.
4. This would have contributed to Thomas Cook reaching its long-run shutdown condition, as it could not sustain average costs being higher than average revenue.
5. MyTravel only made profit once in six years and in 2019 Thomas Cook made a £1.5bn loss.

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