The When and How of Delegated Search
67 Pages Posted: 4 Oct 2019 Last revised: 18 Mar 2022
Date Written: March 18, 2022
Firms often outsource search processes such as the acquisition of real estate, new technologies, or talent. To ensure the efficacy of such delegated search, firms need to carefully design incentive contracts to attenuate the ill effects of agency issues. We model this problem using a dynamic principal-agent framework, embedding the standard sequential search model. The optimal contract pays the agent a fixed per-period fee, plus a bonus for finding a suitable alternative. The bonus size is defined a priori and decreases over time, while the range of values deemed suitable expands over time. If the principal is unable to contract on the value of the delivered alternatives, the optimal contract consists of two parts: early in the search process, the agent is granted a small bonus for every alternative brought to the principal, irrespective of whether the principal accepts it; late in the search process, the agent is awarded a comparatively larger bonus, which is decreasing in time, but only if the principal accepts the alternative. We also consider situations where the principal chooses between searching in-house and outsourcing. This decision is shown to hinge on the principal's tradeoff between speed and quality. The age-old aphorism “if you want it done right, do it yourself" holds, as in-house search is optimal for a principal who prioritizes quality. Yet, in the context of our model, we also establish an addendum: “if you want it done fast, hire someone else to do it."
Keywords: Search, Contract Theory, Dynamic Programming
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