Problems Deciding: How the Structure of Make-or-Buy Decisions Leads to Transaction Misalignment

Abstract

This paper explores how the structure of decision making affects the way that firms manage their boundaries. Achieving transaction alignment requires firms to balance multiple goals. Drawing on the behavioral theory of the firm, I note that firms often assign different goals to different organizational units. As a consequence, simple problems about whether to make or buy can be affected by multiple decisions taken by multiple, locally rational units. I use a case study of the management of IT consultants in a financial services firm to explore how make-or-buy decisions are made. I find that senior managers at the firm focused on cost and organizational flexibility, whereas frontline managers concentrated on exploiting workers' existing knowledge. The narrow focus of these two groups interacted with the complex demands of transaction alignment to create three problems: separation of related decisions about internal capacity and project staffing, incomplete information when deciding on organizational capacity, and incentive misalignment in staffing consultants. These problems led the firm to become dependent on its consultants. I build on the case study to develop theoretical propositions about the characteristics of decisions and organizational structure that are most likely to lead boundary decisions to deviate from existing predictions.

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