What is the Agency Theory?

The notion of incongruence between the external vendor and a principal could be understood by outsourcers through the agency theory (Jensen & Meckling, 1976).

The basic assumption holds irrespective of outsourcing alliances (individuals or organization), and the theory was basically built to understand inter-firm relationship (principal-agent conflict), where in the outsourced IT projects (Choudhury & Sabherwal, 2003) client firm represent the principal and the vendor represents the agent (Eisendhardt, 1989).

Since both goals and objectives are different, this would in turn create a scearnio that would exhibit self-interest shrinking behavior (Aron & Clemons, 2005) particularly goal conflicting and difficult to measure what the agent actually did.

This is particularly observed in IT outsourcing projects where due to the fact that the development team in usually located remotely.

Previous studies had clearly emphasized that the agency problems are more in outsourced software development projects than internal (Choudhury & Sabherwal, 2003) and the extent to which these information asymmetry can overcome by the client at the project level therefore influence the degree to which outsourcing would be viable by client IT managers.

Further, studies also indicated these problems could be mitigated through continuous evaluation with rewards and monitoring the vendor behavior through managerial controls, team member control and outcome control.