The Whole Truth and Nothing but the Truth: Managing Information Asymmetry in IS Consulting

Greg Dawson, an assistant professor in the Department of Information Systems, says that the cynics are half right. Yes, he says, some IS consultants misbehave, but so do clients. Clients, too, can misrepresent their capabilities. They can exaggerate the willingness of their staffers to embrace new technologies. And they can hide the weaknesses of their IT infrastructure.

A recent paper titled Information Asymmetry in IS Consulting: Towards a Theory of Relationship Constraints, co-authored by Dawson and Richard T. Watson and Marie-Claude Boudreau of the University of Georgia, shows that both sides have information that the other one needs, and both sides sometimes hide or even distort that information to take advantage of the other. Why? Consultants and clients are pushing for the best deal for themselves, and people sometimes venture into unethical territory when they do that.

I'm not saying all consultants or clients are dishonest, says Dawson, a seasoned IS consultant who was a partner at PricewaterhouseCoopers before he became a professor. As in any field, there are honest people and dishonest ones. The dishonest ones will engage in opportunistic behavior. And because people don't declare themselves as dishonest in advance, thwarting them can make arranging a new consulting engagement a complicated and costly chess match.

Dawson's study, which offers a knowledge-centric model of IS consulting, gives examples of the sorts of tools each side might use to protect its interests. If you understand the type of knowledge that you're dealing with then you can constrain opportunism, he says. (More on that below.) Dawson interviewed IS professionals, both consultants and clients, to document the extent of opportunism in the industry and to explore the ways in which both sides fight it. The information that he gathered helped to shape his model.

The elusive perfect contract

In economic terms, the relationship between consultant and client is rife with information asymmetries, Dawson explains. Asymmetries matter because they can stymie the contracting that's essential to a smoothly functioning economy. In classical economics, people get what they want by writing contracts and exchanging promises: Bart agrees to mow the lawn and change the oil in the car, and in exchange Homer agrees to pays him $50. In reality, perfect contracts can be elusive because parties have imperfect information about each other. Homer might be reluctant to enter the contract because he doesn't trust that Bart knows how to change oil, and Bart might be reluctant because he doesn't know if Homer can pay his bills.

Three economists -- George Akerlof, Michael Spence and Joe Stiglitz -- received the Nobel Prize in 2001 for their research on the ways in which information asymmetries bedevil markets. Akerlof famously published The Market for 'Lemons' about how bad cars can crowd out good ones on used car lots.

[The paper] concerns how horse traders respond to the natural question: 'If he wants to sell that horse, do I really want to buy it?' Akerlof wrote when he received the Nobel. Such questioning is fundamental to the market for horses and used cars, but it is also at least minimally present in every market transaction ... asymmetric information [is] potentially an issue in any market where the quality of goods would be difficult to see by anything other than casual inspection.

Grocers and food shoppers don't have to worry too much about this -- in a supermarket, you can pick up a tomato and examine its ripeness.

Who knows what, and when

The market has created different ways to constrain opportunism, Dawson says. Credit reports, for example, offer evidence that a person can pay his bills, and references and certifications show that someone has the skills that she claims to have.

In IS consulting, the kind of knowledge possessed by the consultants creates another layer of complexity. In general, there are two types of knowledge: explicit and tacit. Explicit knowledge can be easily codified; passing the written portion of a driver's license exam requires mastering explicit knowledge.

But tacit knowledge, the kind that consultants have, requires applying explicit knowledge to frame, interpret and creatively solve problems, Dawson writes. It isn't as amenable to a contract. A consultant and client can write up terms for an engagement -- payment, time frame, milestones, etc. -- but they'll never precisely enumerate the particular recommendations that the consultant will give. (If they could, the client wouldn't need the consultant.)

Dawson points out that clients have critical knowledge, too -- information that consultants need if they're to bid accurately for work. A consultant, for example, might want to know how well trained and flexible the clients' IS staff is because an untrained or inflexible staff requires considerably more effort (and thus time) for the consultant.

Signals and screens

Consultants and clients respond to all of this hidden information by signaling and screening. They send signals to highlight their capabilities, and they screen to identify counterparties who are good risks. A client firm may ask a consulting firm to provide references in order to understand how successful the consultant had been when working on other projects, Dawson points out.

Studies of other professions, like medicine and law, have argued that social and community norms check opportunism. Physicians, for example, are expected to abide by the Hippocratic oath and to the rules and codes of licensure boards and professional associations like the American Medical Association. But, Dawson writes, IS consulting does not require membership in a formal community and therefore lacks this restraint on opportunism.

And thus the situation in the IS industry sounds like a jungle, full of distrust, disagreement, and dissatisfaction. Consultants and clients both have critical knowledge that the other side needs, but neither of them has fail-safe ways of learning what they need to know.

Ways to handle asymmetry

Here, Dawson's analysis comes to the rescue. He divides consulting engagements into categories based on the amount of information asymmetry present and the contract specificity required. He shows how they differ from each other and how different tools can be used to compensate for the information asymmetries present in each.

Take, for example, a situation in which there's low information asymmetry on both sides; neither the consultant nor the client holds an advantage. If a project and its goals are easy to describe, the two sides can enter into a contract without worry.

If, in contrast, the project is difficult to describe, they'll instead have to rely on their informal shared community to monitor each other. The consultant will gather information about the client from other consultants, and the client will gather information on the consultant by tapping into his network.

Due to the close-knittedness of the informal community, clients and consultants can use it ex ante to validate the reputation of the consultant/client or ex post as a threat to prevent opportunistic behaviors, Dawson writes. In other words, you'll tell your colleagues at other firms if someone cheats you.

Another situation, perhaps the most common one, is where the information asymmetry favors the consultant. If one of these projects is easy to describe, the client will again rely on contracting. But it might also enlist the help of a third-party monitor to oversee the project. Some organizations, such as the State of California, require the use of third-party monitors for projects over a certain size.

In general, Dawson says, contracts limit opportunism in situations where knowledge is explicit, but social controls work better where knowledge is tacit.

Either way, the temptation of opportunism is ever present. Thus, Dawson concludes, Efficacious constraints are necessary to ensure that the field of consulting, and business relationships in general, does not devolve into Akerlof's prediction of a marketplace solely populated by unscrupulous actors.