The Asymmetric Benefits of Relational Governance: Evidence from Software Development Outsourcing

We examine the interacting effect of formal contracts and relational governance on vendor profitability and quality in the software outsourcing industry. We argue that the use of relational governance is driven by perceptions of exchange hazards but in a departure from extant literature, we propose that the benefits accruing from relational governance are asymmetric and depend on how the exchange risks are apportioned by the formal contract. Formally, we hypothesize that relational governance provides benefits to an exchange partner only in those contracts in which they are exposed to greater risk and on those performance dimensions that is of importance to them. We test our arguments on 105 software projects completed by a software outsourcing vendor for multiple clients. We show that relational governance positively affects profitability in only Fixed Price contracts where the vendor is at greater risk while positively affecting quality only in Time and Materials contracts where the client is at greater risk. We thus provide evidence for the asymmetric benefits from relational governance, thereby arguing for a more contingent and limited view of the value of relational governance based on risk-exposure rather than the more expansive view prevalent in the literature that relational governance provides benefits for all parties under all contexts. We conclude with a discussion of the research and managerial implications of our findings.