Procurement of IT Consulting Services and Firm-Specific Characteristics

Information technology investments and the management consulting industry witnessed unprecedented growth in the last decade. This led to regulators’ (SEC and Congress) allegations that consulting services that are provided by incumbent auditors may be disguised extra payments to auditors for favorable financial reporting. However, there may be alternative valid reasons for procurement of consulting. Under new legislation (proclaimed in the aftermath of spectacular failures like Enron and Worldcom), publicly traded corporations that engage professional services firms to provide both audit services and consulting services must now disclose the extent and nature of these services. Using the data made available by these new mandated disclosures and using 1 Robert Kauffman was the accepting senior editor. Fu-Ren Lin, Ryan Sougstad, Shu-Chun Ho, and Ram Subramanyam were the reviewers. This paper was submitted on March 11, 2004, and went through four revisions. Iyer, Ravindran, & Reckers/Procurement of IT Consulting Journal of the Association for Information Systems Vol. 7 No. 4, pp. 207-240/ April 2006 208 the theoretical backdrop of the resource-based view (RBV), this paper examines whether investments by firms in consulting services follow predictable patterns driven by economic factors. Thus, rather than examine whether IT consulting has any ex-post value or whether procurement of consulting impairs auditor independence, this study focuses on whether investments, ex-ante, follow logical patterns consistent with microeconomic principles. Our analysis shows that procurement of IT and management consulting is consistent with the resource-based view –companies seek to develop organizational capabilities they lack as dictated by their strategic business need. In contrast to the narrow “IT Doesn’t Matter” view, it can be argued that even in the current environment of IT outsourcing, firms must carefully match their IT capability (in-house or outsourced) with organizational strategy and capability to develop unique and inimitable resources as put forth by RBV. We find that companies are indeed investing consistent with fundamental tenets of financial value analysis and based on market expectations of performance. More specifically, after controlling for pressure to perform and cash availability, low margin and low turnover companies spend more on consulting services. Low-margin strategy companies expend more on consulting when their asset turnover is also low, while low-turnover strategy companies expend more on consulting when their earnings margin is also low.