Research On Maintenance Outsourcing Contract Management Based-on Flexibility

Outsourcing is becoming a widely-accepted management practice throughout the world for its effect of reducing costs and improving performance. In recent years, maintenance outsourcing has become a pervasive phenomenon and the trend seems irreversible. Critical to the management of the maintenance outsourcing relationship is the outsourcing contract, which, if improperly or incompletely written, can have significant negative implications for the outsourcing firm. Contracts that encourage vendor performance and discourage under-performance under the uncertain outsourcing circumstances are therefore clearly of interest to firm managers. Although many articles have appeared on outsourcing, the issue of flexible contracts for maintenance outsourcing has not been adequately addressed by researchers. In this paper, an approach to analyse flexible schemes and structure in maintenance outsourcing contracts for the mutual gain of the parties is presented.This paper integrates theoretical concepts from the theory of contract economics, principal-agent theory and game theory with existing research into outsourcing contracts to explore the methods of improving the flexibility of outsourcing contracts. The research is limited to the field of equipment maintenance outsourcing, especially in the power plants. As the basis of analysis, interviews to the equipment managers and experts in power plants were made. In order to testing the fesibility of the model, case study methodology was employed and the primary data on maintenance practice were collected by means of interviews.This paper explored outsourcing contracts management in terms of the contract flexibility. First, a theoretic description model for understanding the flexible mechanism in outsourcing contracts matching maintenance outsourcing environment is developed. Outsourcing relationship is a typical principal-agent relation and asymmetric information is common in outsourcing process. Uncertainties involved in executing outsourcing contracts required for undertaking results in business risks. Therefore, outsourcing contracts must be designed based on flexibility to deal with unexpected events. From the dimension of maintenance procedure, time and market structure of outsourcing vendors, appropriate flexible mechanism is proposed respectively. Second, a linear principal-agent model based on EVA (Economic Value Added) for constructing the incentive contracts in maintenance outsourcing is devised. In the classic principal-agent model, the principle of incentive is inducing the agent's action by paying him part of profit resulting from his action. Incentive management literature relative to linear principal-agent model has focused on determing the proportion of agent's profit to principal's profit to receive maximum economic returns from agent's action. In fact, the validity of incentive is decided by the positive correlation between the variable of agent's performance and outsourcing output. Arguing the feasibility of using EVA to evaluate the outsourcing vendor's performance in maintenance outsourcing, a linear principal-agent model based on EVA is devised for improving maintenance outsourcing vendors'performance and the advantage and disadvantage of this model was discussed. Finally, a relational contract model based-on cooperative repeated game theory is explored for proprietary equipment maintenance outsourcing. Relational contracts only provide guidelines for any action in the future and regulate the behavior of participators with psychology contracts, which endows them with rich flexibility. In the case of vertical integration, applying cooperative repeated game theory can prove that the ownership of the proprietary asset has influence on the validity of relational contracts and the turst between the firms influence their behaviors in the dealings with others. This paper proved that this approach can also be feasible in proprietary equipment maintenance outsourcing and put forward a model to calculate bonus compensating the outsourcing vendor's costs.This study addresses incentive mechanism as key dimension in flexible outsourcing contracts and developed incentive contract model and relational contract model to encourage expected actions in outsourcing relationship. Maintenance outsourcing management can be enhanced with the exploration of the flexible outsourcing contract model. However, more exploratory research is necessary to understand the flexible mechanism in outsourcing contracts conceptually and empirically, especially in quantitative analysis.