MANAGING INTERORGANIZATIONAL RELATIONS IN
INFORMATION TECHNOLOGY INTENSIVE ENVIRONMENTS
A Proposal by:
Eric A. Walden
Information and Decision Sciences
Carlson School of Management
University of Minnesota
Room 3-365
321 19th Avenue South
Minneapolis, MN 55455
Phone: (612) 624-3816
Fax: (612) 626-1316
ewalden@csom.umn.edu
http://eric.akindofmagic.com
COMMITTEE:
Gordon Davis (IS) Management Information Systems
Mani Subramani (IS) Organizational Theory and Governance
Baba Prasad (IS) Information Systems Management
George John (Marketing) Interorganizational Relationships
Thomas J. Holmes (ECON) Industrial Organization
ABSTRACT
Interorganizational systems (IOSs) are proving to be a necessity for firm performance and even
survival in an increasingly complex technological environment. To enable such systems to be
successful requires not only technological expertise, but also an ability to manage the
interorganizational relationship (IOR). This dissertation proposes three essays to investigate
how to manage the relationships necessary to enable superior performance from these systems.
These essays examine the knowledge resources, the contractual bond, and the performance
outcomes, of information technology (IT) based relationships, in order to generate a strong
theoretical contribution to the state of the art of information system (IS) research.
Key Words: Inter-Organizational Systems, Economic Theory, Organizational Value Chain,
Contract, Transaction Cost Economics, Economics, Information In Organizations, Issues In
Organizing IS, Organizational Behavior
Word Count: 4176 – 204 = 3972
Managing Interorganizational Relations in Information Technology Intensive Environments
BACKGROUND AND OBJECTIVES
On February 26, 2001, after the close of the New York stock exchange, Nike, Inc announced
that its third quarter earnings would be between $0.34 and $0.38 per share rather than the
previous estimate of $0.50 to $0.55 per share. This was in great part blamed on “complications
arising from the impact of implementing our new demand and supply planning systems and
processes which resulted in product shortages and excesses as well as late deliveries” according
to Nike CEO Philip H. Knight (PRNewswire 2001). This supply chain mistake, originating in
the forecasting software of partner firm i2 Technologies, left retailers without the styles that
consumers desired, and created an excess inventory that will take nearly a year to liquidate
(Siberia, Girard and Robinson 2001). Nike was not the only firm damaged. I2 was awarded the
dubious honor of Forbes.com dog of the day (Murphy 2001), it has lowered its earning estimates
and is considering laying off 10% of its workforce. Between the two firms, almost $5 billion in
value was lost in one day (see Table 1). Not only has this value failed to returned, but also the
egregious error has spawned a number of class action law suits (for example Cauley Geller
Bowman & Coates, LLP at http://biz.yahoo.com/prnews/010405/dath031.html).
i2 (ITWO)
Close 2-26-01
Close 2-27-01
Loss
Price per share
$
35.50
$
27.56
$
7.94
Shares
410,736,060
410,736,060
Market Cap
$ 14,581,130,130
$ 11,320,912,654
$
3,260,217,476
Price per share
$
49.17
$
39.60
$
9.57
Shares
170,863,000
170,863,000
Market Cap
$
8,401,333,710
$
6,766,174,800
$
1,635,158,910
Nike (NKE)
Close 2-26-01
Close 2-27-01
Loss
Overall 1-day loss
$
4,895,376,386
Table 1: Market Capitalization for Nike and i2 Technologies
The important point from an information systems (IS) perspective is that this fiasco was not
the result of failed technology—i2’s technology did not crash or fail to perform—but the result
of poor relationship management (Siberia, et al. 2001). The difficulties arose because Nike and
i2 technologies failed to work together to make the system responsive to the environment in
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Managing Interorganizational Relations in Information Technology Intensive Environments
which it was expected to perform. This type of problem is not, by any means, unique. For
example, in 1999 problems with the SAP system software caused Hershey to under deliver
during the important Halloween season (Farmer and Luening 2001). W.L. Gore has filed suit
against PeopleSoft for problems in its supply chain, FoxMeyer filed a $500 million suit in 2000
against Andersen Consulting for problems with its SAP system, and Whirlpool has cited its SAP
system for shipping delays (Farmer and Luening 2001).
Increasingly, the problem in
information technology (IT) is not a technology problem or an individual organization problem,
but a relationship problem.
Because IOSs have taken on heightened importance in electronic business environments the
management of interorganizational relationships (IORs) has become a key success factor in the
development and implementation of IT. The competitive environment is extensively shaped by
developments in hardware, software and networking technologies, and therefore inextricably
linked to the rapid cycles of change in these enabling technologies. Not only must tasks be
executed at a frenetic pace, but also the total number and variety of electronically enabled tasks
is increasing. This requires firms’ IT infrastructure to be both highly reliable and extremely
flexible. Be it for outsourcing, building an interorganizational system (IOS) or for development
of business to business (B2B) electronic marketplace, firms that need technology solutions must
interact with other firms in order to build a joint solution that combines technology with business
practices.
Success, and even survival, in such an environment requires the ability to manage
relationships between an organization and its partners. Research indicates that executives spend
fully one-third of their budgets on the management of external relationships. This tremendous
need to coordinate with outside entities has even prompted some industrial analysts to call for a
new executive officer, the Chief Relationship Officer (Mayor 2000), to manage firm
relationships. Furthermore, as firms move away from simply outsourcing the development of
software into more complex infrastructure projects the nature of the relationship becomes more
complex.
However, the evidence on the value of relational business models is far from
equivocal. It is estimated that outsourcing clients spend 15% of their IT budget on litigation with
erstwhile partners. To be sure, the management of relationships will be one of the fundamental
research agendas for the next several decades.
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Managing Interorganizational Relations in Information Technology Intensive Environments
Both IS practitioners and academics have long recognized the importance of considering the
human factors in systems development (Mason and Mitroff 1973). Likewise, the impacts of
human interaction on systems have also been recognized in the literature (DeSanctis and Poole
1994, Orlikowski 1992). However, there has yet to be a systematic research stream focused on
understanding the impacts of firm-to-firm interactions in IS development, use, and value. The IS
research focused on understanding IORs has focused predominantly on the impact of IT on the
ability of firms to engage in relationships (Bakos and Brynjolfsson 1993, Clemons, Reddi and
Row 1993, Gurbuxani and Whang 1991, Malone, Yates and Benjamin 1987).
A notable
exception is the work of Lacity and colleges (Lacity and Hirschheim 1993, Lacity and
Hirschheim 1995, Lacity and Willcocks 1998, Willcocks, Lacity and Kern 1999), which attempts
to explain outsourcing relationships through managerial interviews.
An array of insightful
observations is presented, but the authors do not offer a rigorous model of IORs.
While a complete understanding of IORs is a laudable goal, this thesis pursues a more modest
ambition.
This thesis is aimed at simply beginning a research stream directed toward
understanding how inter-firm relationships impact IT, and how those relationships can be
managed to leverage a whole range of revolutionary advances in IT as well as to maximize the
effectiveness of IT currently deployed by firms. This groundwork proceeds by laying the
framework for understanding three important aspects of IORs in IT environments. First, the
thesis examines the basic value propositions behind such relationships. Second, it examines how
firms understand and structure a relationship through the contracting process. Third, it tests how
the number and type of relationships impacts firm performance. While this is not the definitive
word on the subject of firm relationships, it is certainly a good foundation for a productive
research agenda.
RESEARCH QUESTIONS
As the above discussion illustrates, the management of IORs is, and will be a fundamental
issue in IS for many years to come. There is a fundamental need for reconciliation between the
relational approach’s shinning triumphs and its glairing failures.
Prior research on IT
relationships has been largely exploratory, focused mainly on offering a descriptive assessment
of a specific relationship. The goal of my dissertation is to provide a rigorous theoretical basis
for understanding how to manage IT intensive relationships in order to promote superior
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Managing Interorganizational Relations in Information Technology Intensive Environments
business performance. To accomplish this, I propose a three-essay approach that examines each
of three important steps in establishing a successful business relationship.
The first essay, entitled “Organizational Form And Information Flows: How Infrastructure
Providers Deliver Value,” is a look into the value propositions of IT outsourcing. One of the
primary theoretical tools for examining relationships in IS is transaction costs economics. This
research has been focused primarily on explaining how IT mitigates relational problems, thus
leading firms away from hierarchy. However, very little IS research focuses on why a firm
would be willing to enter into a relationship in the first place. Previous literature has simply
assumed that partner firms are better at a specific aspect of business than the focal firm is. My
goal is to push theory forward by explaining why some firms may systematically be better at
specific IT processes than other firms. The thesis of this essay is that an IT partner firm, by
virtue of the fact that it manages the IT function for multiple focal firms, is privileged to
information not available to the individual focal firms. In a series of propositions based on the
work of Maskin, Qian and Xu (Maskin, Qian and Xu 2000), I derive the conditions under which
this privileged information allows the partner firm to construct superior incentives for its
employees, resulting in superior IT performance. Further, I detail the circumstances under which
relational sourcing will not provide additional benefit, and what sorts of partners are likely to
provide the greatest benefit.
The main result is that an IT partner can emulate any incentive for the IT employees that a
traditional firm can, provided that the variance of the outsourced employee’s output conditional
on the output of other IT employees, is less than the variance of the same employee’s output
conditional on the output of non-IT employees within the traditional firm. The intuition is
simply that the IT partner can compare an employee’s output to the output of other IT
employees, while the traditional firm must compare the output of its IT employees to the output
of employees from other functional areas such as marketing or R&D. Even ignoring all of the
problems with comparing lines of code to number of patents, it seems intuitive that knowing that
the R&D department produced 10% more patents this year, while the IT department produced
20% more lines of code this year, does not form the basis for a reasonable comparison. One of
the corollaries to this is that an IT partner that is not engaged in the specific aspect of IT being
considered for a relationship will not provide any additional value. Consequently, an IT partner
specializing in data center management will not offer any value proposition as a partner for web
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Managing Interorganizational Relations in Information Technology Intensive Environments
sight development. These are very powerful results because they can explain not only the source
of the advantage IT partners possess, but also when there is likely to be no advantage. This
allows practitioners to more accurately assess their partnership possibilities.
Another satisfying result of the analysis is that as overall variance decreases in the business
environment, the value of forming partnerships over unaided development decreases to zero. On
the flip side, this indicates that as environmental variance increases the value of partnerships
over unaided development increases (see Figure 1). This feature of the model helps explain why
recent years have seen a greater level of IT based relationships than occurred in the past. This
ability to explain observed phenomena lends validity to the model.
Figure 1: Effects of Variance on Value of Relational Management
Value ($)
Effects of Increased Variance on Value
Variance
Value from Partnership
Value from Unaided Development
After establishing that the partner firm has something additional to bring to the alliance, the
firms must construct and elucidate the relationship. This inter-firm sense making process exhibits
itself in the contract between the two parties. The contract represents the best effort on behalf of
both firms to design a device to overcome the problems inherent in relationships among profit
maximizing entities. The second essay, entitled “On The Structure and Function of Outsourcing
Contracts: An Interpretive Assessment Based on Property Rights,” introduces the incomplete
contracting model of Grossman and Hart (Grossman and Hart 1986) as a model of firm behavior.
This model posits that because each firm must share the fruits of its labor with the partner firm,
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Managing Interorganizational Relations in Information Technology Intensive Environments
both members of the alliance underinvest in quality of production.
The innovation is in
understanding a contract is an artifact, which arises in response to incomplete contracting
problems, that provides guarantees to each alliance partner in order to encourage optimal
investment. By examining actual contracts, one can develop an understanding of the incomplete
contracting problems that the contract is designed to solve. From this framework, I provide an
interpretive analysis of the contracts.
This examination of outsourcing contracts makes a number of valuable contributions to the IS
literature. First, it uses the integrative approach to link both positivist and interpretive research
to build greater understanding of an important IS issue. As such, it adds another brick to the
foundation of this relatively underutilized approach. Secondly, this work adds another branch to
the research in incomplete contracting.
It recognizes the behavior model inherent in the
incomplete contracting literature, and focuses on that. In so doing, it posits that the property
rights aspect of this theory is only on of a variety of ways to offer assurances. Other methods
might include, dependence balancing, reputation, trust, and messaging. Further, this work avoids
the argument over whether contracts can be written to simulate property rights, by assuming a
temporal structure wherein the gain to trade is present before contract negotiations take place
(see Figure 1Figure 2). Accordingly, contracts must begin as incomplete regardless of the
describeability of states of the world, or the verifiability of outcomes.
Figure 2: Timeline of Relationship
Value
proposi tion
to trade in
period four
exogenously
established
Period
1
Firms
negotiate a
contract to
maxi mize
surplus in
period 4
Period
2
Firms make
investments
tha t
determine
surplus
Period
3
Firms
negotiate
over surplus
contingent
on contract
Period
4
The third contribution is a deeper understanding of the reasons for contracting. It is known
that firms write contracts to solve problems, but it is not clear, at a fundamental level, what those
problems are. Using the behavior model of incomplete contract theory, this work proposes that
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Managing Interorganizational Relations in Information Technology Intensive Environments
the problem contracts solve is one of investment. Specifically, contracts modify non-cooperative
payoffs, which in turn alter threat points in bargaining over joint surplus allowing a firm to
collect a larger percentage of the surplus it generates. A larger percentage equates with a larger
marginal benefit, which leads to greater investment and hence greater surplus. Thus, a properly
written contract leads to a more productive relationship.
A forth contribution of this work lies in taking a close look at the actual text of real contracts.
By showing the IS community the text of contracts, rather than just a model of what they can do,
this work should provide the impetus for new thinking about outsourcing and IORs in general.
Analysis of the presented text has been left purposefully open in hopes that future researchers
will be stimulated to think through new theory to help explain IS contracting.
Finally, with the contract in place and the belief that the partner firm has unique and valuable
expertise, it is necessary to validate that the relationship is adding values to both firms. To
examine this, the final essay entitled, “Inducing Quality Investments in Electronic Commerce,”
will focus on empirical validation of the value of relationships using the incomplete contract
results of Hart and Moore (Hart and Moore 1988). This is the multi-relationship view of
incomplete contract theory that has been widely cited in the ISs literature (Bakos and
Brynjolfsson 1993), but never rigorously tested. In fact, the multi-relation aspect has never been
tested in any literature of which I am aware. The basic result is that firms should have fewer
suppliers in order to provide those suppliers with more bargaining power to properly motivate
them to make investments.
A number of hypotheses are developed to inform greater
understanding of the impacts of IORs. For example, I propose that a supplier firm should suffer
less from having a great number of partner firms because each new firm brings additional value
to the table. In contrast, a purchasing firm generally requires a fixed amount of an input and
bringing in more partners to supply that input simply weakens each of the other partners. The
subtlest hypothesis examines the interaction of quality initiatives, such as ISO 9000 certification,
with the number of partners. An important aspect of quality initiatives is to develop and use
many measures for processes and product quality. Thus, firms pursuing quality initiatives will
be better able to use contracts to mitigate incomplete contracting problems, and this effect should
be more pronounced for firms with greater numbers of partners.
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Managing Interorganizational Relations in Information Technology Intensive Environments
RESEARCH METHODOLOGY
While human interaction is the purview of Psychology and Sociology, firm interaction is the
province of Marketing and Economics. Each of these disciplines has contributed greatly to the
understanding of IORs (Grossman and Hart 1986, Hart and Moore 1988, Hart and Moore 1990,
Heide and John 1988, John, Weiss and Dutta 1999, Rindfleisch and Heide 1997, Williamson
1975, Williamson 1985) and offers insights for IS researchers to apply to the understanding of
the IT domain. Thus, the reference discipline of this research will be economics, and the
perspective will have all of the benefits and drawbacks of economic research.
I am particularly proud of the methodologies employed in the dissertation. I propose to use
three different methodologies to better generate subject matter for future research.
These
techniques include analytical modeling, interpretive research, and statistical research. The first
essay builds an analytical model of information as a function of firm structure, and then proves
several theorems. This allows me to build a very precise theory of the value provided by
partnerships. I can then carry this precise model forward into the other essays. The second essay
uses interpretive analysis of actual partnering contracts to better understand the issues faced by
firms in the contracting phase. The goal is not so much to test hypothesis or to construct a
model, as it is to understand the contracting process.
The final essay will use newswire
announcements of partnerships to build a dataset. Aggregating this data over multiple years will
allow me to construct a measure of the number of partnerships. Supplemented with financial
data, this will allow me to use econometric techniques to test the model’s hypothesis.
RESEARCH PLAN
Thus far, my progress has been consistent with the proposed competition date of 2002. The
analytical model of the first essay has been developed and solved, and most of the front end of
the essay written. What remains to be done is to more thoroughly explain the propositions
developed from the model, and to expand the conclusion. Then it will be a matter of making the
minor revisions required of specific committee members. This will be completed by early May.
The second essay is partially complete. I have already acquired the data (contracts from a
major IT vendor), and constructed the theoretical basis for the analysis. What remains is to delve
deeper into the contracts to strengthen my case, to develop a compelling conclusion, and to
submit to the specific requirements of my committee. Work on this essay will begin in earnest in
April and continue through to July. April will be devoted to finishing a first draft, May to
gathering feedback on that draft, and June and July will be spent responding to that feedback.
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Managing Interorganizational Relations in Information Technology Intensive Environments
Several items remain for the final essay. The first step, slotted for May 2001, is to gather the
preliminary data about partnership announcements. I have done similar work before and am
fortunate to have an intelligent software agent constructed specifically for this type of data
gathering. I expect that, with my other commitments, it will take 2 months, June and July, to sift
through the data and determine which announcements to study. Gathering the appropriate
financial data is my task for August. September and October will see me beginning the data
analysis. November will be the month for producing the first draft. December will be spent
gathering feedback, and preparing my proposal defense. January and February will be occupied
chiefly with job search activities. March and April will find me responding to the feedback with
finishing touches and a final defense in May. In June, I will go on vacation.
EXPECTED CONTRIBUTION
The relational model of firm production will become more pronounced in the future, as firms
strive to compete successfully. Firms will have to rely on outside relationships for a whole range
of IT needs from outsourcing, to IOSs, to B2B marketplaces. The success of these systems
depends on the quality of the relationship among the firms. This dissertation seeks to build a rich
theoretic understanding for how firms can manage their IT relationships to generate maximum
benefit, not just for themselves, but also for the entire productive partnership. By understanding
both the antecedents and consequences of the relationships, as well as the behavioral framework
from which firms first enter these relationships, I hope to make a lasting contribution that will
help both scholars and practitioners better understand new business forms.
CHALLENGES
I foresee no significant challenges to completion. The first essay relies on an analytical model
which has been solved and developed. The data for the second essay has already been collected
and the theoretical model explicated. The final essay relies on publicly available data and thus,
does not have the problems inherent in relying on an outside source (i.e. relational problems).
The largest potential problem is that there will be no results from the empirical tests. This is still
interesting in that is will constitute the firs empirical test of a well established theory, and will
refute that theory.
Of course, as with any long term project, any number of unforeseen
difficulties may arise.
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Managing Interorganizational Relations in Information Technology Intensive Environments
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[20]
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