Contract Design For Information Technology Outsourcing

With the rapid development of information technology(IT)and the continuous refinement of social labor division,an increasing number of enterprises(clients)outsource functions of their IT department to external IT vendors,which allows them to take advantage of IT vendor's technical expertise and resources to reduce operation cost and increase core competency.When designing IT outsourcing contracts,the clients faces three challenges,namely ex ante private information,unobservable effort,and ex post uncertainty risk.This thesis employs screening contract,monitoring and renegotiation embedded in fixed-price contract,time-and-materials contract,revenue-sharing contract and performance-based contract to solve above challenges and to lucubrate IT outsourcing contract design and contract choice.The research content mainly includes the following four aspects.First,in the scenario where the IT vendor has private information about its system development capability,this thesis designs the performance-based contract under symmetric and asymmetric information cases respectively,and investigates how the client screens the IT vendor's capability and incentivizes the IT vendor's effort via contract design.Results show that under asymmetric information case,to screen the IT vendor's capability,the client has to pay information rent to the high capable IT vendor,and the low capable IT vendor exerts less effort,compared with symmetric information case.Thus,the client's expected profit under asymmetric information case is lower than that under symmetric information case.Further,increasing system testing time or selecting the IT vendor with high bug-detection rate can decrease the information rent obtained by the high capable IT vendor and mitigate the under-effort of the low capable IT vendor,which reduces the client's profit loss stemming from information asymmetry.Second,in the scenario where the client monitors system development processes to address problems from IT vendor's unobservable effort,this thesis designs the time-and-materials and revenue-sharing contracts under exogenous and endogenous monitoring cases respectively,and investigates the impacts of monitoring on the client's contract choice.Results show that a revenue-sharing contract generates higher total profit of the IT project,compared with a time-and-materials contract.However,the profit share obtained by the client depends on its bargaining power in the two contract forms and the client has stronger bargaining power in the time-and-materials contract than that in the revenue-sharing contract.Under exogenous monitoring case,if the client has strong bargaining power in the revenue-sharing contract,it selects a revenue-sharing contract;otherwise,a time-and-materials contract is preferable.Under endogenous monitoring case,the client always selects a time-and-materials contract.The intuition behind is that the IT vendor has stronger intentions to inflate its effort in the revenue-sharing contract,and the client has to determine a higher monitoring level in the revenue-sharing contract,leading to a higher monitoring cost which dominates the benefit generated by the revenue-sharing contract for the client.Consequently,the client obtains higher expected profit in the time-and-materials contract.Third,in the scenario where the client renegotiates system testing time with IT vendor after system development,this thesis designs the fixed-price and performance--based contracts under renegotiation and non-renegotiation cases respectively,and investigates the impacts of renegotiation on the client's contract choice.Results show that under non-renegotiation case,a performance-based contract increases the client's expected profit by regulating ex ante testing time of the IT vendor,while it incurs a higher contracting cost,compared with a fixed-price contract.Thus,the client selects a performance-based contract,if its contracting cost is low;otherwise,a fixed-price contract is preferable.Compared with non-renegotiation case,renegotiation increases the client's expected profit by addressing the uncertainties in the system development and incentivizing the IT vendor's effort.Under renegotiation case,since the two parties renegotiate testing time ex post,the effect of regulating ex ante testing time in the performance-based contract does not increase the client's expected profit anymore.Considering a higher contracting cost in the performance-based contract,the client selects a fixed-price contract.Fourth,in the scenario where the client monitors system development processes and renegotiates system testing time with IT vendor after system development,this thesis designs the fixed-price and time-and-materials contracts under renegotiation and non-renegotiation cases,and investigates the interaction between monitoring and renegotiation and the client's optimal contract strategy.Results show that the client benefits from renegotiation based on direct and indirect uncertainty-resolution effects.The indirect uncertainty-resolution effect stimulates the IT vendor's effort,leading to a post-development incentive of renegotiation that increases with the IT vendor's bargaining power.Monitoring stimulates the IT vendor's effort via a pre-development incentive.When renegotiation incurs a low cost,if monitoring cost is low and the IT vendor has low bargaining power,monitoring and renegotiation are complements and the client selects a time-and-materials contract with renegotiation;otherwise,renegotiation substitutes for monitoring and the client selects a fixed-price contract with renegotiation.When renegotiation incurs a high cost,if monitoring cost is low,monitoring substitutes for renegotiation and the client selects a time-and-materials contract only;otherwise,the client uses neither monitoring nor renegotiation and selects a fixed-price contract only.