Firms are increasingly relying on IT outsourcing to improve services quality and to lower in-house IT spending. However, practitioners and academics have seen high rates of failure in IT outsourcing due to holdup problems, which are represented as underinvestment and inefficient bargaining because of contract incompleteness. There is a tension on the understanding of holdup problems. One stream emphasizes the importance of clearly designed contract whereas the other believes that the nature of contract is incomplete.

Drawing on the argument from latter stream, Susarla et al.(2000) argue that contract extensiveness, defined as the extent to which firms and vendors can foresee contingencies when designing contracts for outsourced IT services, can alleviate holdup. Moreover, they argue while extensively detailed contracts are likely to include a greater breadth of activities outsourced to a vendor, task complexity makes it difficult to draft extensive contracts. Furthermore, extensive contracts may still be incomplete with respect to enforcement. They therefore examine the role of non-price contractual provisions, contract duration, and extendibility terms, which give firms an option to extend the contract to limit the likelihood of holdup. Using a unique data set over 100 IT outsourcing contracts, they test and support those arguments in their research model.

As to their contributions, first, they support the argument that contracts are fundamentally incomplete and suggest that non-price provisions play a strategic role in contracts design. Second, to extend the literature of contractual solutions to holdup problems, their findings suggest payoffs from repeated interactions between parties reduces the probability of inefficient bargaining. Last but not least, this study also complements prior analytical work by providing empirical evidence to understand how parties anticipate and design contingencies ex ante that are important to manage potential problems ex-post.

The authors examine the interacting effect of formal contracts and relational governance on vendor profitability and quality in the software outsourcing industry. They focus on the presence of relations flexibility in the exchange relationship, a critical manifestation of relational governance. They hypothesize that 1.relational flexibility provides greater benefits to an exchange partner that faces the greater proportion of risk in a project, induced through the contract; 2. The benefits manifest on the performance dimensions that are of importance to the risk-exposed partner.

The proposed the following model to test their hypothesis. They proposed two sub model: the relational flexibility model and the profitability and quality model. To operationalize the focal variable relational flexibility, they measure it as an observed outcome that represents ex post, extra-contractual aspect of the relationship. They identify five areas, namely payment procedures, warranty and liability conditions, installation and testing procedures, disputes resolution and project management. In terms of the dependent variables, the project profit was measured using the data collected from the company data base for each project. The service quality is measured by a five-item survey.

 

 

The author used muli-pronged analytic strategy to test the hypotheses. To solve the problem of the endogenous interacting variables, besides the OLS and 3SLS, they also use the Treatment effect model. All the hypotheses are supported, showing evidence for the argument that asymmetric benefits from relational flexibility to different contracting parties in an outsourcing relationship. The results also indicates that relational flexibility positively affects profitability in only fixed price contracts, where the vendor faces greater risk, while positively affecting quality only in time and materials contracts, where the client is at greater risk.

Key Concept:

Hold-up problem: In economics, the hold-up problem is central to the theory of incomplete contracts, and shows the difficulty in writing complete contracts. A hold-up problem arises when two factors are present:

1. Parties to a future transaction must make non-contractible relationship-specific investments before the transaction takes place.
2. The specific form of the optimal transaction (e.g. quality-level specifications, time of delivery, what quantity of units) cannot be determined with certainty beforehand.[1]

The hold-up problem is a situation where two parties may be able to work most efficiently by cooperating, but refrain from doing so due to concerns that they may give the other party increased bargaining power, and thereby reduce their own profits. The hold-up problem leads to severe economic cost and might also lead to underinvestment.

Motivation:

To improve service quality and to lower information technology cost, firms are fueled to increase their use of IT outsourcing. However, practitioners and academics realized that IT sourcing is fraught with difficulties and high rates of failure. One of the underlying risks comes from the hold-up problem. This paper uses a unique dataset to empirically examine this question.

Main findings:

1. Task scope is positively and significantly associated with extensive contracts;
2. Task complexity is negatively associated with contract extensive ness;
3. Task complexity is negatively associated with long term contracts, which suggests that firms might be wary of the greater threat of inefficient bargaining posed by the vendor in a longer term contract;
4. Task scope is positively associated with the presence of extendibility clauses;
5. Task complexity is positively associated with extendibility terms in contracts;
6. Contract extensiveness is positively associated with duration;
7. Contract extensiveness is positively associated with extendibility.

Contributions:

This paper highlights that contracts are fundamentally incomplete and that nonprice provisions play a strategic role in contracts structuring. Drawing on literature that describes contractual solutions to the holdup problem, they argue that parties are motivated by payoffs from repeated interaction to undertake specific investment and to reduce the likelihood of inefficient bargaining.

In this paper, Practical Intelligence (PI), a concept from cognitive psychology as a supplement of academic intelligence, is proposed to be a critical factor for Project Managers (PM) to make their projects successful in software offshore outsourcing. Based on an information processing perspective, the paper posits that the PMs’ PI is positively related to project performance. Meanwhile, it also hypothesize that the PI-performance relationship is positively moderated by project characteristics categorized as project complexity (software size and schedule compression) and team complexity (team size and team dispersion), and negatively moderated by task familiarity (PM-task familiarity and team-task familiarity) and stakeholder familiarity (team member familiarity and PM-client familiarity).

This research adopts a mixed methodology to conduct empirical analyses. It obtains PI data of 209 PMs in a software service company through case studies, combined with dataset from the company’s archive data containing characteristics for each of the PMs and the projects they led. Proposed moderators are derived from the dataset using different analytic tools and models. The dependent variable project performance is measured separately by cost performance and client satisfaction.

The results from an OLS and SUR model verify the main effect of PI on project performance as well as most of the moderating effects. With certain limitation such as a progressive learning bias of PI, the paper contributes to related literature by 1) introducing and conceptualizing PI as an important capability for PMs, 2) identifying the characteristics of project context that moderate the PI effect on project performance, and 3) providing sufficient empirical evidence.

In the vendor-client relationship, how to govern the relation is important, however, the effect depends on the hazard. The study mentions two gaps. First gap is the moderating effect of risk exposure on the benefit of relational governance. According to the prior studies, in the presence of formal contracting, relational governance has a significant impact on the outcomes of economic activities. On the other hand, relational governance provides symmetric benefits to all parties. In a way of understanding the contradicting findings, this study focused on the positive effect of relation on mitigating risk. This suggests that the parties who take larger risks might be more beneficial as a result. Second, the effect of relational governance on enhancing values differed by the dimensions of outsourcing (e.g. quality and profitability). However, it is important to understand that when there is not equivalently expected hazard size, why would the other party would accept the relational governance if the party is not be a beneficent as the other party. Relational governance highlights flexibility in the environment of projects, resulting in more beneficial to immediate project rather than long-run project.

To test hypotheses, 105 projects was collected from a software service frim. The relational governance is inherently required for this area since software service firms outsource, and the relationship between the vendor and developer is important. From the findings, the study shows that relational flexibility positively affects profitability in only fixed price contracts, where the vendor faces greater risk, while positively affecting quality only in time and materials contracts, where the client is at greater risk. Service quality was measured by question items.

Overall, relational governance (relational flexibility) is beneficial for profitability depends on the type of contract. As expected, the effect of relational flexibility on profitability is moderated by FP contracts. However, the effect of T&M contracts was insignificant on the effect of relational flexibility on project profit.

The Asymmetric Benefits of Relational Flexibility: Evidence from Software Development Outsourcing

Gopal and Koka (2012) examined how and when relational governance, operationalized as flexibility, provides benefits to exchange partners in the presence of formal contracts. They provided a more nuanced understanding of the relationship between formal and relational governance by contending. Gopal and Koka (2012) presented the conceptual model as the following (Figure 1, p. 559):

Gopal and Koka (2012) tested the hypotheses on a dataset of 105 software development outsourcing projects completed by an Indian software vendor. And they used a multi-pronged analytic strategy to test the hypotheses. The relational flexibility model included OLS, nonlinear 3SLS, and treatment effects. The Profitability and quality models include the interaction model, 3SLS, 2SLS, the non-interacted 2SLS, and the treatment effects.

Gopal and Koka (2012) found strong support for the hypotheses of asymmetric benefits from relational flexibility to different contracting parties in an outsourcing relationship. The findings in this paper highlight the need to establish risk exposure first, and then examine the effects of flexibility on performance contingent on risk exposure. And the findings also highlight the implications of relational governance for the performance dimensions of interest. The findings indicated that the need to incorporate a more nuanced, limited, and contingent view of relational governance and its benefits in extant theory, in contrast to the more expansive view of relational governance that predicts value for all partners to an exchange. What’s more, this paper also makes a methodological contribution.

However, this study has some limitations: (1). The data that from one vendor firm limits generalizability. (2). Dataset is small. (3). The measure of contract type is limited to the two extreme forms of contracts. (4). The measure of quality is perceptual and collected from the vendor. (5). The theoretical arguments used in this paper were based on the observed manifestation of relational governance in the specific exchange.

Contracts in Offshore Software Development: An Empirical Analysis

This paper is motivated by the tremendous growth of the offshore software development and the need to increase viability and profitability of vendor-client relationships. It empirically studies the determinants of contract choice in offshore software development projects and examines the factors that affect the project profits accruing to the software vendor.

The paper examines the adoption of the two prevalent forms of contracting in the software industry—fixed-price contract and time-and-materials contracts. The main risk will be borne by the vendor under a fixed-price contract, and the client under a time-and-material contract. Based on prior theories in contract, this paper presents four possible factors that may affect contract choice: software development risks, client knowledge set, bargaining power and market conditions. Empirically, most of the variables adopt measures from previous literature. In order to assess the reliability of the measurements, the paper uses multiple questionnaire items for one variable. The results show that project-related characteristics such as requirements uncertainty, project team size, and resources shortage significantly explain the contract choice in these cases.

Then the paper studies the efficiency of the contract by examining the effect of the information known during contracting on project profits and add three development factors to improve the fit of the regression analysis. The corresponding results show that vendor does make higher profits from time-and-materials contracts when control for other characteristics of the projects.

The contributions of the paper are that it empirically tests the determinants of contract choice in software industry and addresses the linkage between contract choice and project profits. However, the paper’s limitations are the restricted data set and measurement problem of some variable.

Langer, Slaughter, and Mukhopadhyay (2014) examine the impact of practical intelligence (PI) on project performance and the moderating effects of project complexity and familiarity. While the prior studies tend to specify formalized and widely-recognized management skills, knowledge, and experience of project managers, the authors bring up more subtle but dynamic capability, linking to the outcome of project.

Based on the in-depth data analysis on project progress and results in a leading software outsourcing vendor in India, the field study supports the following arguments:

1. PM’s PI is positively associated with the increase in both cost performance and client satisfaction.
2. The interaction of complexity with PI is significantly positive on the two types of project performance. In other words, when complexity of a project is higher, the impact of PI becomes stronger, leading to better performance.
3. The interaction of familiarity with PI is significantly negative on the two types of project performance. That is, a project with low familiarity can harvest more benefits when a PM with high PI manage it.

Indeed, the supported arguments are intuitive and straightforward when we ponder upon the role of PI in a project management. The software outsourcing projects inevitably suffer from various factors that cause uncertainty and potential failure: requirement ambiguity, stakeholder conflicts, cultural misunderstanding, to name a few. PI basically helps a project manager resolve the critical, situational, and contextual problems, a capability that cannot be easily found or trained. A PM with high PI may be able to address the difficult problems, eventually bringing a higher chance of successful project results.

In conclusion, I think this study contributes much to the literature by finding the significant impact, the decent data source, and the parsimonious measure of PI.