Robin Hanson’s theory of young consultants

by on February 2, 2012 at 2:01 pm in Economics, Education | Permalink

The puzzle is why firms pay huge sums to big name consulting firms, when their advice comes from kids fresh out of college, who spend only a few months studying an industry they previous knew nothing about. How could such quickly-created advise from ignorant college students be worth the millions paid? Why don’t firms just ask their own internal recent college grads?

Some say that consulting firms use their access to collect data on best practices, data that other firms are eager to pay for. But while this probably contributes, I find it hard to see as the main effect.

My guess is that most intellectuals underestimate just how dysfunctional most firms are. Firms often have big obvious misallocations of resources, where lots of folks in the firm know about the problems and workable solutions. The main issue is that many highest status folks in the firm resist such changes, as they correctly see that their status will be lowered if they embrace such solutions.

The CEO often understands what needs to be done, but does not have the resources to fight this blocking coalition. But if a prestigious outside consulting firm weighs in, that can turn the status tide. Coalitions can often successfully block a CEO initiative, and yet not resist the further support of a prestigious outside consultant.

To serve this function, management consulting firms need to have the strongest prestige money can buy. They also need to be able to quickly walk around a firm, hear the different arguments, and judge where the weight of reason lies. And they need to be relatively immune from accusations of bias – that their advice follows from interests, affiliations, or commitments.

All three of these functions seem to be achieved at a low cost by hiring good-looking kids from our most prestigious schools. These are the cheapest folks you can buy with our most prestigious affiliations, they are smart enough to judge where reason lies, and they have few prior affiliations to taint them with bias. They can not only “borrow your watch to tell you the time,” but can also cow you into submission in accepting that time.

Yes the information contained in consulting advice can be obtained elsewhere at a lower cost. Firms could hire most any smart independent folks, or set up a prediction market. But alas those sources don’t have the raw strength of status to cow opponents into submission, opponents who in practice can block changes no matter what a CEO declares.

So mine is a signaling and status story (surprise surprise). The weight of status often decides outcomes, no matter what the CEOs commands, and so CEOs often need to bring out status ringers, to cow opponents into submission.

Here is a bit more.

Phill February 2, 2012 at 2:09 pm

La oligarchie nourrit ses enfants.

Sean February 2, 2012 at 2:11 pm

House of Lies….amazing show

FYI February 2, 2012 at 3:39 pm

Yup, very good indeed

BTW, this would be an interesting subject for Tyler: I find it weird how we still have these very high quality HBO/Showtime/whatever cable shows even when cable subscriptions are going down. I wonder when these will stop being feasible and whether this kind of show can be easily moved to an online model.

TheCrankyProfessor February 2, 2012 at 10:28 pm

I read this as House of Games. Which probably comes out to the same place.

Rahul February 2, 2012 at 2:19 pm

There’s two theories of management consulting I’ve heard:

1. If the CEO wants to take a unpopular decision ( layoffs, reassignment, transfers, shutdowns etc.) it is easier to get a consultant to recommend it and take the heat for it. McKinsey has a large capacity to absorb ill will.

2. Decision often have a high risk of failure. If things go wrong it is nice to be able to say “McKinsey told us so and hence we did it”.

The (admittedly cynical) belief is that, the day a management consultant is brought in, he’s already been told which way the report’s conclusions need to tilt. The time spent studying the company is mostly an exercise to find reasons to rationalize the CEO’s decision.

Not sure how much of this is true, though.

Andrew' February 2, 2012 at 2:24 pm

Sounds like any CEO would be shirking his duty otherwise.

Just have plenty of copies of “Who Moved My Cheese” on hand.

JG February 2, 2012 at 3:38 pm

Reminds me of the ’80s movie called Head Office, or something like that. On his first day, an older executive is escorting in a new, young executive and gives him this advice: “Whatever you do, never, ever make a decision.”

Manoel Galdino February 3, 2012 at 7:51 am

+1

byomtov February 2, 2012 at 2:19 pm

This is an excellent explanation of why firms hire consultants.

My only criticism, if you can call it that, is that in my experience at least, this is actually widely understood in the business world.

(Another way of saying the above is that Hanson is obviously right since he agrees with me.)

Consultants play more of a political role – as Hanson describes – than an advisory one. CEO’s don’t bring in consultants who are going to make them look like idiots. They want them for support: “This is not just my idea. It’s what xxx is telling us we need to do.”

subdee February 2, 2012 at 7:00 pm

This was what I was going to say! Basically “everyone already knows this is why you bring in consultants” (and all the consultants already know that this is why they are being brought in).

Steve Sailer February 3, 2012 at 12:10 am

Yes, is this supposed to be a secret?

I realize that Prof. Hanson isn’t terribly worldly, but all he would have to do is post a one line question on his blog and somebody with more experience would have filled him in in the comments.

zbicyclist February 3, 2012 at 9:38 am

+1. There’s no puzzle to be explained.

John Thacker February 3, 2012 at 9:53 am

Robin Hanson is considerably more worldly than many intellectuals, and many intellectuals read his blog. Many of the people who understand this commonly held reason don’t explicate it to intellectuals often, so this fact is not as widely known as it should be.

Will Wilkinson the other day attempted to make a point about how being the President wasn’t like being a CEO, because “you couldn’t just give an order and have everyone follow it.” This was ridiculous.

ohwilleke February 4, 2012 at 12:49 am

+1

clayton February 2, 2012 at 2:22 pm

This matches my experience:

“But if a prestigious outside consulting firm weighs in, that can turn the status tide. Coalitions can often successfully block a CEO initiative, and yet not resist the further support of a prestigious outside consultant.”

However, this misses a key point:

“They also need to be able to quickly walk around a firm, hear the different arguments, and judge where the weight of reason lies.”

Given the first comment, the consulting firm knows why it’s being hired and paid, and being an independent judge of “where the weight of reason lies” is not exactly it. The consulting firm has an internal customer, who has an agenda, and the firm (particularly the partner on the project) knows that agenda and knows the key to be rehired by said customer is to serve that agenda. However, the firm/partner knows that it needs to balance this service with its need to being seen as prestigious by others in the client firm. So, the consultants walk a fine line between giving the hiring executive what he/she wants and standing ground to remain objective/prestigious.

I have seen prestigious consulting firms raise no beef about changing key aspects of a report at the hiring executive’s wish, but stand ground over much less significant portions of the final presentation.

ezra abrams February 2, 2012 at 2:36 pm

“The CEO often knows what to do”
unsourced statement; why should we take it on faith without some data

also
“The CEO often understands what needs to be done, but does not have the resources to fight this blocking coalition. But if a prestigious outside consulting firm weighs in, that can turn the status tide. Coalitions can often successfully block a CEO initiative, and yet not resist the further support of a prestigious outside consultant.”
Again, do you have data to support this ?
my very limited experience, the kids propose BS solutions that get shoved under the table, and if you think the CEO gets pushback, wait till you see middle aged peoples reaction to some snot nosed overpaid kid…

Let me propose another theory:
in my experience, companies get started by brilliant hardworking people who get things done.
after a while, these people leave, and they get replaced by drones – people who can keep turning the wheel, but havn’t got a clue when something goes wrong.
Thats when you need someone who can add 2+2 and get 4 reliably

cmprostreet February 2, 2012 at 2:51 pm

I prefer the condensed version of your post:

“Companies get started by brilliant hardworking people who get things done. after a while, these people leave, and they get replaced by drones – people who can keep turning the wheel, but havn’t got a clue when something goes wrong. Thats when you need [some snot nosed overpaid kid].”

Daniel Dostal February 2, 2012 at 3:39 pm

“reliably” is such a strong word, especially if the consultant is actually adding 2 and 2, rather than just putting a 4 in the excel sheet.

EM DC Economist February 2, 2012 at 2:39 pm

I buy it. I have known quite a few McKinsey, Bain and BCG people (including a couple of partners) and they definitely do not seem smarter than anyone else (which is of course their own explanation for their high rewards). Instead they have the following qualities :

i) Project humility and a willingness to learn (though in pvt they are arrogant sobs)

ii) Ability to tell people what they already know but perhaps can’t accept (at the highest levels they seem themselves as counsellors – quasi-therapists – to the CEO). At lower levels it is similar.

iii) Ability to simplify. More than anything they pride themselves on being able to simplify complex issues. This is consistent with being able to suggest simple easy changes that are not happening because of some king of organizational inefficiency/inertia. Almost like picking up 100 dollar bills.

That said, I wouldn’t completely knock the explanation that involves sharing best practices/ best in class etc.

Rahul February 2, 2012 at 2:51 pm

To see Point (iii) one should browse some issue of The McKinsey Quarterly. Catchy artwork, cool colors but there’s hardly ever an equation in there. Even the plots they use are cliched with any statistics beyond a linear regression line seemingly a no-no.

I’m skeptical that a modern complex business can be reduced to such simplistic measures.

CBBB February 2, 2012 at 3:14 pm

Pfff don’t tell that to Economists

Finch February 2, 2012 at 4:57 pm

I do more real math as a consultant than I did as an engineer. For what that’s worth…

I do spend a lot of time translating math into something people can understand when, while they might be quite clever, they never went beyond high school algebra.

CBBB February 2, 2012 at 5:44 pm

I’m sure if you’re an engineering you’re not really the same type of consultant being talked about here

Finch February 2, 2012 at 6:12 pm

I don’t think many of the commenters have met or interacted with the type of consultant being talked about here.

That said, I did not enter the business as an undergrad. I was never the young guy being talked about.

Finch February 2, 2012 at 7:02 pm

> I don’t think many of the commenters have met or interacted with the type of consultant being talked about here.

There are some more experienced people farther down. I tarred everybody there, and shouldn’t have.

Slothtosser February 2, 2012 at 9:37 pm

There are tons of engineers at Bain/BCG/McK. When I started at BCG, roughly a quarter of the incoming consultants in my office had engineering degrees, including a PHD in Mechanical and Aerospace engineering from Princeton (yes, a rocket scientist).

Lou February 3, 2012 at 8:53 am

Why would it be appropriate to put equations in their newsletter? Maybe this is why you don’t make as much money as them.

Grant Gould February 2, 2012 at 2:40 pm

The term I’ve often heard used is “conslutants” — consultants who take money and a set of desired outcomes, come onsite to do some interviews and meetings and reading goat entrails or whatever, then go back and write up a report reaching (surprise!) the requested conclusions. As you note, they’s particularly popular in businesses where management is not taken seriously by the staff. In my experience their arrival is a pretty good indication that it’s time to jump ship because the monkeys are running the zoo.

I have yet to encounter a consultant report that didn’t endorse upper management’s views on every dispute, or whose conclusions didn’t entail further centralizing decision-making authority.

Rahul February 2, 2012 at 2:43 pm

I could never make up my mind whether it was all a sham; part of me still thinks there might be significant utility in bringing in smart, young men from outside the firm.

There’s an incredible amount of inefficiency and waste in a lot of old-world firms; mostly because there’s tremendous inertia against changing anything at all. At times people realize something needs to change but larger political considerations constrain them from acting. Many bosses don’t want to let go of a budget even if it’s on a clearly dead-end project.

At times a manager that has been working on the same assembly line for decades is a liability rather than an asset. His thinking tends to be trapped in the box of convention; his solutions are locally optimal but he is blinkered against improvements that need non-incremental changes. A smart, fresh pair of eyes are not similarly constrained.

Such non-cynical arguments are tempting too.

Donald A. Coffin February 2, 2012 at 3:51 pm

“…smart young men…”? Missing something here, aren’t we?

Eric February 8, 2012 at 2:10 pm

Seriously?

Erik February 2, 2012 at 2:45 pm

As a 12-year management consultant (after 1 year otherwise first employed after college), I can say that you are correct, however there are additional reasons:

1. Resource availability. Management consultants should do more than just come up with the strategy. Those worth their salt will assist in the implementation as well. As large firms (those that are likely to hire consultants) have cut and cut and cut headcount, they simply no longer have the headcount to document their thoughts much less convince the right stakeholders and then execute. Of course, these cuts were probably the recommendation of some prior consultants! Nonetheless, the dysfunction that you descrive is accurate, and the resource constraints only exacerbate that.

2. Cross-functional complexity. Often different parts of a large and complex organization act as tribes that use a different dialect. Most large consulting projects (or those where it is justified) involve brining such people together. You need resources that can bridge these gaps, quickly learn the language, internalize the lingo, and bring skills the table that will help them facilitate conversations. Consultants are professional “learners”. They need to figure out how an organization ticks and then get the pieces to work together. Throw in international / offshore business units and it gets even more difficult. In my career I have seen very few non-consultants who can pull this off well. People in the organization may understand the actual business very well (or their part of it), but this is a separate skill set not often developed. The people in a large corporate that do have these skills tend to be very senior and too busy to devote much time to such a project, much less 100% of their time, which is what it often takes.

3. Accounting. FTEs add to general expense lines (e.g., Marketing, Finance, and all too often, G&A). Consultants are a one-time expense that can be counted as an asterisk. I have been involved in many diverse projects that use “restructuring” as a blanket umbrella to allow our expense to appear as an asterisk on the income statement. With as sharp CFO, consultants don’t count towards Net Operating Income, and with a really sharp CFO the expenses can be written off in corporate taxes.

Charlie February 2, 2012 at 3:22 pm

+1

In addition, as comments demonstrate, it is hard to appear reasonable. Being young and naive helps

Daniel Dostal February 2, 2012 at 8:24 pm

You know the job is complete tripe, but you have put 12+ years into it. Why? I know the money must be amazing, and you are providing a service to someone, but do you get anything out of the job itself? Or is the job just necessary work to live you life and know the people you know?

CBBB February 2, 2012 at 2:54 pm

Yes this is all very reasonable and yet at the end of the day you turn around and try to tell us that “no no these overpaid consultants are just SO much more productive they deserve the money they get” when in fact they are merely exploiting dysfunction and politics.

John Thacker February 2, 2012 at 3:36 pm

Actually, I think that Tyler is skeptical of consultants, though Robin is not.

But besides that, dysfunction and politics is part of life. Overcoming that is a form of productivity, and if the consultants can do that, they’re justifying their money.

Certainly it would be better for the company not to have dysfunction and politics to start with, but that’s not the consultants’ fault, is it?

Laserlight February 2, 2012 at 3:45 pm

+1

CBBB February 2, 2012 at 3:53 pm

Nope nope over paid rent seekers doing nothing productive but telling some weak-willed CEO what he wants to hear.

asdf February 2, 2012 at 4:12 pm

Sometimes you get situations where people can leverage market power into economic rents, but that doesn’t mean people “deserve” it. My guess is people would still sign up to do McKinsey consulting even if we upped their taxes.

CBBB February 2, 2012 at 5:27 pm

But in fact on this blog people don’t understand this – if they’re paid X they must deserve it

AJ February 2, 2012 at 6:24 pm

And you wonder why you can’t find a job?

CBBB February 2, 2012 at 6:29 pm

I don’t wonder why

Daniel Dostal February 2, 2012 at 8:26 pm

You should really stop oversimplifying. You hurt yourself much more than others.

CBBB February 2, 2012 at 8:50 pm

What I said about people around here is pretty accurate

John Thacker February 3, 2012 at 10:12 am

Oh, they might be overpaid. But I think it’s a little crazy to pretend that human coordination, cooperation, and politics are of no use whatsoever. This is no different from sneering at the existence of management in the first place, or in a different way sneering at politicians, community organizers, and all the rest.

I don’t see how the consultants are leveraging “market power,” and I don’t see how they’re causing the firm’s dysfunctional politics. Humans are social, and politics are inevitable.

Payam February 2, 2012 at 6:30 pm

+2

JWatts February 2, 2012 at 3:06 pm

The underlying assumptions makes no sense. If you want a consulting firm to agree with management you wouldn’t staff it with young grads straight out of school. They would be far too idealistic. You’d want older veterans with large mortgages and three kids. They aren’t going to be nearly as likely to take an idealistic stand since losing their job would be devastating. Whereas, a young grad fresh out of school is probably going to tend to take greater risks. Which in this case translates to bucking the desires of the customers management.

CBBB February 2, 2012 at 3:13 pm

Not if they’re coming out of the Ivy League they aren’t. You don’t get into an Ivy these days by bucking the trend, these kids have been trained from an early age on how to jump through the hoops and please the powers-that-be. That’s how you make it to Harvard.

This is what I say though it’s not productivity and innovation that’s really rewarded out there by-in-large it’s being good at office politics and being good at jumping through hoops.

Cliff February 2, 2012 at 9:06 pm

CBBB, I can’t wait for your study on these topics to come out.

CBBB February 2, 2012 at 11:07 pm

Well no report needed simply look at who earns the highest incomes

Erik February 2, 2012 at 3:26 pm

That what Partners are for in Management Consulting. They keep the overall findings “on the rails”.

Lucas Reis February 2, 2012 at 3:11 pm

If consulting is just to reiterate what the CEO wants, why is it common for companies to hire consultants that worked for them before? They won’t be able to do what Hanson says once they work for the company itself.

CBBB February 2, 2012 at 3:14 pm

This is a totally different issue. Those kinds of “consultants’ are just people who they hire back but don’t have to give benefits to – it’s a cost cutting strategy. Hanson is talking about places like McKinsey.

John Thacker February 2, 2012 at 3:33 pm

Those kinds of “consultants’ are just people who they hire back but don’t have to give benefits to – it’s a cost cutting strategy.

Sometimes it’s a case of the company and the former workers splitting the pie– particularly if the consultant has a husband or wife with a full time job with family health insurance and other benefits. In that case, they can get a higher money wage but not mind losing the benefits, using the spouse’s.

Finch February 2, 2012 at 5:14 pm

Huh? Lucas is referencing the common tactic of clients hiring consultants as full-time employees.

You have never heard of McKinsey alumni? Getting hired away by a client is, I think, the most common way to leave the firm.

CBBB February 2, 2012 at 5:36 pm

Ah yes I see I misinterpreted his post – never the less I can’t start admitting mistakes. My Comment stands.

Finch February 2, 2012 at 6:43 pm

So close… You almost had me feeling encouraged there.

Lucas’ observation is difficult to explain if the consultants weren’t somehow valuable as something other than cover. I’d argue that you rapidly gain domain knowledge that is very hard to acquire working at a single firm.

cournot February 2, 2012 at 3:17 pm

“Merely exploiting dysfunction and politics” is not a bad thing if it lessens their harms. Would that we could do the same for government or education. Let’s have consultants force common sense reforms in public admin, university systems, public education, post office, etc. A good deal if it would stick — even for “outrageous” consultant pay.

GiT February 2, 2012 at 8:35 pm
TRK Advisors February 2, 2012 at 3:20 pm

I worked at a large(ish) bank with a CEO who rarely embraced consultants. His senior management prevailed on him bring in one of the big consultancies. He relented and they began a several month fact-finding tour. When they came in to present their findings and describe the organization’s needs (quite a large deck!) they unveiled the concept of “DELTA” for the team. They described a strategy of seeking to ensure a positive DELTA for all business units, DELTA being defined as “the rate of growth of positive contributing activities less the rate of growth of resource consuming activities” (or some such, its been a while). After a very pregnant pause the CEO turned to his management team and asked “Did we just pay $7 million to hear we need to grow revenue faster than expense?” I really liked that CEO.

That said, I am a consulant now, and would suggest there is another scenario where a consultant can be worth it: when an organization lacks specific technical or similar skills required for a narrow or short time frame endeavor and where hiring that skill is not required or cost prohibitive for the short term need. That seems to work out pretty well for all involved when properly structured.

CBBB February 2, 2012 at 3:26 pm

“when an organization lacks specific technical or similar skills required for a narrow or short time frame endeavor and where hiring that skill is not required or cost prohibitive for the short term need”

Right but that’s not what most of these consultants are – these big McKinsey guys are all fresh out of school – mostly in the humanities at some Ivy League school and therefore have no specific or specialized technical background.

Lou February 2, 2012 at 4:37 pm

These large management consultants don’t hire undergrads. They are all MBAs with about 5 years of previous industry experience. Why do you bother commenting on things you obviously don’t understand?

CBBB February 2, 2012 at 5:28 pm

Why do you bother commenting on things you obviously don’t understand?

Because it’s fun

Short Theta February 2, 2012 at 5:40 pm

so is consulting

msgkings February 2, 2012 at 6:02 pm

And Short Theta with the swish.

CBBB, you’re a world class knucklehead.

Finch February 2, 2012 at 7:00 pm

> These large management consultants don’t hire undergrads.

Wait, yes they do. They do a lot of the legwork, obviously at the direction of the experienced people you describe. But in fairness they are an important part of the business.

the spam robots are getting better and better February 2, 2012 at 7:09 pm

This is just wrong Lou. And the easiest way to prove to you that you are wrong is to just go on one of the big three consulting websites and click on their careers section: notice the part where it says undergraduate recruiting? Another slightly less easy way to prove to you that you are wrong is to go on linkedin and search by employer and once again find the big three consulting websites. Finally you are wrong because most MBAs do not have 5 years of experience, most MBAs — the kind that are hired by the three major consulting places — usually come from either banking or consulting who after 2-3 years of being a peon take a 2 year break known as ‘MBA’ and then go back again.

I know that for the purposes of trying to hire themselves out MBA partners tell their clients how all their employees are former PhDs or 10 years of experience but this is just a nice PR move. The bulk of mental work being done by a consulting firm is being done by someone who graduated college within 2-5 years. But of course from elite college.

Lou February 3, 2012 at 9:02 am

I’ll accept that they hire undergrads in some capacity (IT work, accounting, etc, even some professional), but the average work experience of an MBA at a top school is in fact 5 years- look at the incoming class profiles of any top 20 MBA program. In finance, which is my area of expertise, hardly anyone goes directly from an analyst program to a top MBA program anymore.

SirSpider February 2, 2012 at 7:31 pm

Lou, it may be you who doesn’t understand. BCG, Bain, McKinsey, Booz, and all the other consulting shops do hire undergrads fresh from their graduation day. Typically, the undergrads are expected to stay for 2 or 4 years before leaving for an MBA.

bunker brown February 3, 2012 at 2:33 am

I know for a fact that Arrthur Andersen (defunct now but big in its day) used to hire a lot of undergrads. I have several friends who joined them out of Ivy League undergard and go through training in Chicago, etc.

Chris R February 3, 2012 at 4:22 am

I did that (in their “business consulting” arm) at the peak of the bubble in 2000, though I didn’t go to an Ivy school. The culture clash between accounting and consulting was always interesting to watch–the culture of the accountants was almost Prussian. Andersen recruited heavily among Big-10 schools with some of the consultants also coming from places like Harvard, MIT, Chicago, and Northwestern.

Our clients mainly came to us because they needed specialized work done, and either it had to be done by outsiders for regulatory reasons, or they didn’t have the staff to do it themselves. Also there was a fair bit of “expert” testimony needed. I’m talking about things like interpreting linear regression coefficients, calculating standard deviations, pricing assets, lots of compliance work, and so on. Dry stuff.

The pretty young consultants weren’t paid much and in my group there was the expectation that we’d leave after 2-3 years to go and get a PhD in something. That’s what I did a year after the collapse. In other groups there was more of an expectation that people would stay and move up through the ranks and maintain long-standing relationships with clients. Again, a lot like the Prussian army.

And then, mistakes were made; people didn’t admit guilt readily; and everything collapsed.

Bob February 7, 2012 at 9:38 am

@Lou: you are completely wrong. 15-30% of the undergraduate class of the Top 5 schools go into management consulting. I’ve known dozens of these people. Typically, they work 2 years and then get an MBA.

DanC February 2, 2012 at 3:28 pm

First, I remember my wife being recruited to be the Medical Director at a very prestigious medical center. Current staff didn’t trust outside consultants to really understand how to deal with the issues they confronted. Moreover, my wife soon discovered that the medical center had two competing coalitions that were at war. They were recruiting an outside director to serve as a block on each other.

My wife called me after her first day of meetings and told me what was going on. She didn’t want to get involved. I suggested that the next day she should just be honest with them. She spent the next there days detailing how she would restructure and change things etc. She was offered the position but said no thanks. I told her she should have sent a bill for consulting services.

I worked as a consultant once upon a time. Consultants don’t normally need to deal with the implementation of their ideas. Living with the people, or the office politics. Strangely I think workers were often more honest with outside consultants then they are with each other.

So what did I do? You generally know which way senior management is leaning. But management is dealing with incomplete information. Making a decision with incomplete information is one of the hardest things management has to do.

Making radical changes in resources isn’t easy, and the bigger the firm the harder it is to change direction. Plus real change only occurs when employees feel a sense of crisis (although some poor managers try to create a sense of crisis all the time, which just burns out employes). Having a bunch of young consultants, you rarely identify with older entrenched employees, has the ability to create a sense of crisis and change. A signal that real change is coming. (Unless management is doing this all the time.) Consultants are often a signal that senior management has lost faith in the judgement (and sometimes honesty) of middle management. A signal that a firm needs fresh concepts i.e. middle management has stale ideas. Guess what that implies?

bunker brown February 3, 2012 at 2:35 am

“Strangely I think workers were often more honest with outside consultants then they are with each other.”

It’s not strange- we desperately hope that reason will prevail, that the outside consultant is a white shining knight.

mw February 2, 2012 at 3:31 pm

Re: your Science book review–certainly you can agree that there are blatantly bad scientific incentives, like paying doctors to sell products or at the very least I assume *everyone* agrees it’s not good to financially incentivize those doctors putting their names on ghostwritten medical research. As for the platonic goodness or badness of incentives of a particular theoretical type in science, i’m not sure what practical value the question really has…

Andrew Edwards February 2, 2012 at 3:37 pm

Much of the above is right.

One more reason is to make strategic costs variable. If you believe that big corporate strategy decisions are important, but only to be taken occasionally, you need people who can tackle them and then leave, taking their cost structure with them. Thus consultants. Doing good strategy work at a different company every few months requires a high ability to learn new things. Thus firms recruit the highest-IQ people with functional EQ that they know how to find. Harvard is a good place to look not because IQ+EQ is absent elsewhere, just because it is easiest to find at Harvard.

In addition, the perception that these consultants are quite inexperienced is somewhat wrong. The consultants encountered by junior levels of management are often inexperienced. The senior team members advising the CEOs are often quite experienced, many having been CEOs themselves in the past.

Donald A. Coffin February 2, 2012 at 3:47 pm

Much as I hate to say it, this is by no means a new interpretation of the role of consultants. Nor is it confined to the private sector. In the dark ages, when I was working as an economist in the planning department of a large city, we frequently dealt with consultants. They were hired by people well above my pay level (deputy mayors, generally). They would then come talk with us and repackage what we told them, or reports and analyses we had already done, and feed it back to the deputy mayor, the mayor, and the city council. The prestige of, and the attention paid to, the messenger is directly proportional to the fee being paid and to the messenger’s distance from where the advice is needed.

William Brennan February 2, 2012 at 3:48 pm

A test of the hypothesis: I believe private equity owners and managers will have less patience with blocking coalitions. They directly reap the rewards of eliminating such inefficiencies rather than having them spread out among a diffuse group of public shareholders. Therefore, prestigious consulting firms should find less work in the private equity world.

anon February 2, 2012 at 4:04 pm

And yet private equity firms are some of the largest purchasers of consultants – their portfolio companies will regularly hire in consultants in volumes which a publicly traded firm of the same size could never justify to its shareholders. (I would know, as a consultant)

As repeat buyers of consultants, though, they know how to extract value from them. Consultants put on the right project and with the right support from senior management can deliver huge value to a client. Consultants put on the wrong projects and without management commitment to implement the strategy can be a big waste of money.

Rahul February 2, 2012 at 4:10 pm

Are we talking about the same kind of consultant though?

anon February 2, 2012 at 4:23 pm

Yes, same type. I work for a MBB consulting firm.

PE funds want to rapidly achieve significant cost savings and revenue enhancements. They need to decide on how to do it within months of purchasing a company: the recently purchased company has momentum for change; plus the changes take a few years to set in and the PE fund needs to show a few years of improved earnings performance to the market so they can exit the investment in 4-5 years.

Consultants frequently work closely with the PE funds and the portfolio management teams in the early years of the investment to both determine and help achieve the significant earnings improvement.

LBO February 2, 2012 at 5:19 pm

I work for a PE shop that uses a lot of consultants, and from my experience anon’s comments are exactly correct. I would like to add though that the use of consultants also comes from the nature of PE and the skill set that succeeds in it. At its heart, PE is a deal business, and the major players in PE are all about doing deals. Certainly, the PE firms sit on the board and offer guidance to their holding companies, but, in general, the PE skill set is more financially than operationally focused. Almost all PE firms recognize this and employ some sort of consultant on the operational end. These can be in the form of in-house affiliated experts from each field, “operating partners”, or can be in the form of an mbb consultant. Net its the same. The PE shop wants to focus on doing deals and will outsource much of the heavy operational work.

EM DC Economist February 2, 2012 at 4:15 pm

I believe this might also have to do with the fact that insiders are thinking about their own interests (and fiefdoms) and not the interests of entire firm. Absent skewed incentives consultants would be worse than insiders at making correct decisions – but it is preferable to have worse guys with better incentives than the knowledgable ones with skewed incentives.

sd February 2, 2012 at 4:20 pm

Agree with anon. Private Equity firms are stocked with people who are extremely smart, extremely strong-willed and unusually open to information that dis-confirms their own hypotheses (if they are not, they don;t survive as investors).

And PE firms push their portfolio companies to use consultants much more frequently than do the executives of public companies.

I would suggest that Mr. Hanson, along with most of the folks who are seconding his notion here, have almost zero experience talking to actual executives about why they hire consultants.

Bill February 2, 2012 at 4:01 pm

First, ask this question: Does the consultant want to be hired for the next project.

Then, ask the next question: What do you want me to say?

kthomas February 2, 2012 at 4:09 pm

They always hire good-looking kids. It’s pathetic. Ugly kids need not apply.

Oracle has been doing that quite a bit over the last 5+ years. To name a few.

What a lame society we have become.

Jack Fraser February 2, 2012 at 4:31 pm

Ugly kids get stuck crunching the numbers and doing the analysis in the “home office” from what I can tell.

msgkings February 2, 2012 at 6:04 pm

How is this different from any other time in this or any other “lame society’s” history?

SirSpider February 3, 2012 at 12:35 pm

And tall kids. Good-looking and tall.

Wooden Leg February 3, 2012 at 2:24 pm

All hair and good teeth we use to say.

gR February 2, 2012 at 9:35 pm

As a 20something who has spent the last week in meaningless and repetitive oracle training, I have to say I appreciate the cute 20somethings oracle and our Big 4 consultant role in to teach.

anon2 February 3, 2012 at 3:14 pm

FWIW, this is only partially true. I am an undergrad going to MBB (top-3 consulting) next year. Physically, I’m a 4/10 on my best days. I know a couple other consultants/hires who are similarly unattractive.

But yes, we are a minority.

Turkey Vulture February 2, 2012 at 4:15 pm

I think that in my post-graduation position I will be considered a consultant. My main skills will be having a Harvard JD and being able to string several words together, more-or-less intelligibly. In addition, I have a pretty sweet beard.

Lou February 2, 2012 at 4:32 pm

Fresh MBAs aren’t calling the shots at Bain and McKinsey. They are crunching out spreadsheets and putting together nice slideshows. The author touches on the fact that large consulting firms have access to networks for making customer calls, supplier calls, speaking to relevant industry execs, etc. The junior-level talent is a minimal component of what they’re paying for. So basically the initial question is stupid and the several paragraphs that follow are pointless.

anon February 2, 2012 at 5:06 pm

Exactly right on this. Anyone with <5 years of consulting experience is essentially executing the analysis specified by the senior consulting team. The people advising the CEOs are consultants with 10+ years of consulting experience and deep industry expertise.

I think the issue is that – while the senior consultants are interacting with the CEO, it is the junior consultants who are interacting with junior and middle management to work through the analysis. So there will be some people in the company who will only interact with the fresh faced recent graduate, and hence this absurd notion arises that a fresh-out-of-undergrad kid is advising the CEO.

darren February 2, 2012 at 6:26 pm

+1

Finch February 2, 2012 at 6:56 pm

+1

bunker brown February 3, 2012 at 2:37 am

+1

Emil February 4, 2012 at 10:02 am

+1

R February 8, 2012 at 1:50 pm

+1

Jason February 8, 2012 at 1:55 pm

+1

Seth February 2, 2012 at 5:08 pm

I’ve observed management consultants serve several purposes:
1) Status purchase for a CEO.
2) Passing the buck on hard messages.
3) As cover for management incompetence. If the consultants’ recommendations blow-up, the CEO shrugs his shoulders and says, “Who would have known? They’re Yale & Harvard grads, after all.” This last reason is usually good for at least one forgiveness from the BoD of a failed strategy and buys the CEO about one more year in the job.

Unfortunately, I think it also shows a lack of BoD incompetence. Not many NFL team owners would continue to employ mediocre head coaches who relied on coaching consultants and passed the buck of everything that went wrong on to them.

I will give Bain some credit in that they sometimes put their money where their nicely coiffed hair is and invest or buy the stuff they’re working on. It would be nice to see other consulting firms do that.

Brian Gaerity February 2, 2012 at 5:25 pm

Well done! Even better with Erik’s addenda.

Pedigree and presentation are vital to the appeal of strategy consultants. If you’re looking for actual functional expertise, you don’t hire McKinsey, BSG, et. al., and instead look for firms with seasoned consultants, not newly minted Ivy grads.

“Executive wars” are nasty, brutish affairs. The “kids” often help soften the animosity, while serving as mercenaries. It’s a fascinating show to watch.

RM February 2, 2012 at 5:36 pm

If Prof. Hanson is right, would there not be a preference for young hot female consultants? The cohort appears to be dominated by young males.

the spam robots are getting better and better February 2, 2012 at 7:15 pm

young hot females from elite universities go into public relations or investor relations for hedge funds, same pay but way less hours.

GiT February 2, 2012 at 8:45 pm

As Aristotle put it: “both the male and the female have the deliberative capacity of the soul, but in the female it lacks authority.” Or, in other words, men are needed to “cow you into submission.”

RM February 2, 2012 at 9:50 pm

But part of Hanson’s arguments is that clients are superficial. It is the sensuous touch that matters.

GiT February 2, 2012 at 10:34 pm

There is nothing not superficial about the tendency to respect the advice and decisions of men more than women.

Steve Atchison February 2, 2012 at 5:51 pm

My late uncle had built a successful company out west in a timber -related industry. One day I asked him:
” Uncle Ed, what do consultants do”?

“They bill you…”

YSK February 2, 2012 at 6:48 pm

“Robin Hanson’s theory of young consultants”
Hanson’s theory? Just shows hubris of economists. Robin Hanson is surprised (from bis blogpost) that he does not know something that is commonly known in the world of business!

Lonely Libertarian February 2, 2012 at 6:50 pm

‘it took a while – but Lou and Anon get it – Robin and Tyler are over simplifying a lot – and have been listening to a lot of mid and lower level staff folks who feel that they “could have done this for a whole lot less money!”. or – “The CEO knew [should have known?] what to do but did not have the balls to do so”.

That being said – I do believe there have been – and always will be bad consulting investments for a lot of the reasons – many mentioned here….

Some points that need to be remembered.

1. The big guys – McKinsey/Bain – put TEAMS on assignments – senior team members are not always visible to mid to lower level firm employees – and when they are they may be relatively quiet – letting a junior team member lead a meeting or presentation.

2. The network of contacts and the breadth of experience that they bring that can shape there findings and recommendations is very valuable – and not easily accessible otherwise.

3. The ability to cut through the crap and force departments to play nice with each other who have a long history of not doing so is extremely valuable – I have been in numerous meetings – marketing and sales – ops and finance – R&D and supply chain that would NEVER have happened without a consulting firm forcing the interaction – and getting to solutions that were right for the business and removed from politics and posturing.

4. The ability to throw a lot of really smart folks at problems that have been on the back burner because they could not be resourced – or funded is worth a lot – and the fact that the labor needed is not on the payroll once the work is done has been noted by others – and matters a lot. I got to do a major consumer segmentation study that was crucial to guiding corporate strategy only because – 1. It was recommended by a consultant and 2. Because they provided the resources to get the work done while I could keep my department focused on day to day work essential to run the business.

5. I have worked with a dozen or so consultants over my career – in every case I was smarter and better AFTER the engagement than I was before – the ability to interact and problem solve with fresh talent and points of few is an OPPORTUNITY – if you fight it and resent it you are a fool – I made a commitment to getting the most I could from every project – I wanted to be better/smarter for the experience. So in spite of what Tyler and Robin imply – a business can invest in a consultant as a way to improve and enhance the skills of EXISTING staff.

Finch February 2, 2012 at 7:51 pm

+1

Robin did make the point about disfunctionality being common. There are dollar bills sitting on the floor of most big firms, but it’s hard to pick them up in part because of the factors you discuss.

question the question February 3, 2012 at 9:27 am

I keep seeing this “dollar bills lying on the floor” meme.

Is that supposed to be another way of saying “low-hanging fruit” or more literally “money for the taking” (by the consulting firm)?

Simone Simonini February 3, 2012 at 1:03 pm

It’s also a reference to the old joke about the economist who won’t pick up a $20 bill on the ground because if it were really there, someone else would have taken it already.

anon February 3, 2012 at 4:00 am

This is spot on (I see it from the other side, as a consultant)

The product that strategy consultants are delivering to their client (read: CEO/senior management) is certainty that big decisions will be made and acted upon.

Everyone sees the document the consultants deliver: a logical strategic argument, laid out by the senior consulting team (guided by past experience and client input), and backed with huge amounts of analysis.

But what people don’t see is the disciplined decision-making process consultants use to solicit input from, and crucially get buy-in from, the many layers of decision makers within the client. Typically, by the time a consulting team makes a recommendation to a board, they have already gained agreement from practically everyone around the table. Consulting firms will also frequently stick around for the first few phases of implementing a new strategy, to provide advice – but also firepower – to keep the momentum for the change.

It’s the process – and the certainty of an outcome – that CEOs are paying for (in addition to the obvious- the pretty, logical and over-analysed strategy documents)

Enigmatic T February 3, 2012 at 9:21 am

On point 3:
If departments are unwilling to talk to each other and stop playing corporate politics without the intervention of a consulting firm (and I believe there are plenty of firms that *are* that dysfunctional), said consulting firm really ought to be advising senior management to resign. If the senior VPs have less clout when it comes to organising and depoliticising meetings than some hired MBA-gun proxy, then looking any deeper is merely targeting the symptoms of the problem.

Not sure that “sack yourselves” crops up very frequently in McKinsey recommendations though. :-)

Dave E February 2, 2012 at 7:26 pm

“The main issue is that many highest status folks in the firm resist such changes, as they correctly see that their status will be lowered if they embrace such solutions.”

Almost but not quite. P/E managers and their close circle are always chasing specific goals to earn their bonuses. Those goals are always something like “increase share” or “improve margins”. They rarely get goals like “improve processes” or “work better with other parts of the company”. Any change that touches processes or IT systems is risky and irrelevant to achieving quarterly or annual goals (and, hence, bonuses). Outside consultants can sometimes be a tool to lever them into actions they would prefer to not take.

P/E managers are very predictable: they will do whatever it takes to get their bonuses and nothing else.

byomtov February 2, 2012 at 8:05 pm

My guess is that most intellectuals underestimate just how dysfunctional most firms are. Firms often have big obvious misallocations of resources, where lots of folks in the firm know about the problems and workable solutions. The main issue is that many highest status folks in the firm resist such changes, as they correctly see that their status will be lowered if they embrace such solutions.

This is also true. Certainly many large firms are extremely dysfunctional, smaller companies less so, because they really are under pressure to perform.

But I’d like to see this insight reflected in other discussions of our corporate economy. No more about the wondrous efficiencies of the private sector, and perhaps an end to scratching around for explanations as to why executive compensation at these dysfunctional, inefficient firms is somehow totally rational.

Non Papa February 3, 2012 at 1:44 pm

Couple issues to remember here.

1) The idea of private sector efficiency doesn’t guarantee that every private sector firm is optimally efficient. It suggests that the competitive pressures of the market PUSHES firms towards greater efficiency over time. At any given point, there are tons of inefficient firms. Many of them will die. The market is not like pixie dust or a magic potion that you spray on organizations to make them more efficient. The “wondrous efficiencies of the private sector” occur through a great deal of churn/creative destruction that you don’t see if you’re just taking a snapshot of management practices in an existing parcel of firms.

2) Efficiency is relative. Assume EVERY private sector firm, even the most successful, is inefficient in some way. It is still possible (likely?) that the average firm is MORE efficient than the next-best type of organization, whether non-profit or government. If we’re trying to decide what the most efficient sector is, are we concerned with how “efficient” any sector is in absolute terms? No, we’re concerned in how efficient it is compared to others.

byomtov February 3, 2012 at 3:38 pm

I understand what you’re saying, and don’t entirely disagree. Still, I do think that lots of inefficient firms survive, and that, despite the push towards efficiency the minimum amount needed for survival, and even reasonable success, is not high.

But relative efficiency is irrelevant to part of my point, which deals only with firms’ operations. If we think that most firms are quite dysfunctional, as Hanson says and I believe, then it’s no use discussing their decisions on the assumption that those decisions are somehow all economically rational. Yet too often that is the basis of explanations.

I think this mistake is sometimes recognized and avoided. We know that many acquisitions turn out poorly, for example – more than can be accounted for by bad luck. I don’t know the current state of thinking here, but I do recall when managerial hubris was considered a prime culprit in those failures.

Erik February 3, 2012 at 4:02 pm

I used to think this way before becoming a management consultant. I believed in the efficiency and effectiveness of the private sector.

My experience, however, taught me that at the upper-end of corporate America, this equation gets turned upside down. The largest companies grow every larger because M&A is always in the interests of the senior executives, who generally will get paid more, and who get to have clout as major deal-makers. (M&A is also in the best interests of the consultants who advise them.)

As a Fortune 500 company gobbles up competitors, it does not get more an more efficient. The legacy issues from the prior company actually metastasize over time and the issues get worse. Dysfunction rules but size (and often monopoly power or oligopoly power and/or rent seeking) keep the company above water for a much longer time than it could survive with the same level of problems if it were a smaller business.

I’ve seen the pattern over and over again in my work. The market is NOT efficient. And so died the idealistic Libertarian economic dreams of my youth.

KC February 2, 2012 at 8:49 pm

I was one of those college students. Immediately after graduating, I went to work for one of the Big Three consulting firms and stayed there for 3 years. The analysis in this post is pretty accurate, especially the part about how dysfunctional firms are, but that doesn’t only create the problem of change resistance. Few firms that I’ve seen can cobble together teams who can adequately break down and solve strategic cross-functional questions.

Part of the “value” that consulting firms provide is a very structured project management approach to solving problems. Yes, you could recreate that internally with your own college grads (and several large companies do), but creating such a program takes a massive amount of resources. First, your recruiting resources need to compete with the top financial/consulting firms to get the “smartest” grads (take this descriptor with a grain of salt, obviously). Second, consulting firms train managers and partners in problem identification, prioritization and project management for years. These senior consultants are the ones actually leading the consulting teams. Your average college grad is mostly doing some number crunching and slide-making — they are not structuring, organizing, and running the project, which is where the real value is. Neither these senior consultants nor their training comes cheap.

anon February 3, 2012 at 4:03 am

+1 on all points (still work for big three, been hammering similar points in above comments)

Jim Glass February 2, 2012 at 9:05 pm

The general picture can be true enough, though…

Very often it is not the CEO who calls the consultants to overcome resistance to change, but the Board or another in-house alliance that calls in the consultants to overcome a CEO gone off the tracks.

Certainly many large firms are extremely dysfunctional, smaller companies less so, because they really are under pressure to perform.

As one very experienced in small companies I can assure you “less so” ain’t so. If the owner of a small business who built it acts to destroy it, there’s nothing anyone else can do about it.

This is another classic and common problem consultants face: The owner of a business calls them in to ask what its problem is. The obvious answer is, “It’s you”. How do consultants deliver this message, and how much can they charge for doing so?

As far as small businesses go, there’s a lot of truth in the old saying, “Three generations from gutter to gutter.” The entreprenuerial personality traits that help create a successful business against all odds are in many ways exactly contradictory to the management skills needed to maintain one. The controlling owner can do whatever he wants to do with the business, after all it is “his toy”. Nepotism abounds in privately owned businesses. Family members loot the business. The potential systemic problems in small businesses make quite a list. As far as consultants are concerned, these are easy to recognize but really tough to fix when the owners don’t want to do it and there is no larger obligation to public shareholders to make them.

And it can be really hard to collect a bill for the service of delivering a message the owner(s) don’t want to hear.

David February 2, 2012 at 9:09 pm

Norman Augustine, in his famous book “Augustine’s Laws” (which should be required reading for everyone in either business or consulting) once described consultants as “Someone whom you pay to look at your wristwatch and tell you what time it is.”

I think that’s the short version of this post.

byomtov February 2, 2012 at 9:12 pm

Jim Glass,

As one very experienced in small companies I can assure you “less so” ain’t so.

“Less so” is a comparative statement. No doubt many small companies face the problems you describe. But small companies are more vulnerable to market pressures than big ones, so those kinds of things are more likely to bring them low.

That’s my opinion, anyway, based on my not insignificant business experience. YMMV.

Ricardo February 2, 2012 at 10:41 pm

First, it’s not true that firms get advice from consultants fresh out of college. Fresh graduates essentially do all the grunt work for the more senior consultants such as putting together Powerpoint presentations and preparing Excel spreadsheets. They are sort of like a professor’s research assistants.

That aside, there was a very interesting article from Fortune magazine about how Bain & Company operates. The article is from 1987 and so profiles a young hot shot named Mitt Romney who is heading up their private equity spin-off but also has some interesting details about the company’s strategy. Bain appears to operate as almost an intelligence network for the CEO to let him know what is really going on in the company to help push Bain’s preferred changes in the organization. The key is that the Bain consultants are outsiders and so are not beholden to the internal hierarchy and also that they have a direct line to the CEO. This suggests that communication and management in large organization’s is inherently dysfunctional.

Blunt Instrument February 2, 2012 at 11:35 pm

I always thought that corporations hired consultants because some court in Delaware ruled that pesky shareholders can’t sue officers (and management?) if the officers get outside consultants to confirm the reasoning behind their bad decisions. Or some such thing.

londenio February 3, 2012 at 2:07 am

I agree with Erik above (Resource + cross-functional). Consultants often bring necessary capabilities and knowledge. Imagine you are running a big company and would like to enter country X. Bringing a global consulting company like McK is a good idea. They know the market, they have a network there, they have been helping companies to grow for many years. Another situation where consultants add value is to benchmark best practices. Say you are running a Logistics or a Telecommunications company, and you want to know what are the new ideas and best practices out there. You cannot just go and ask your competitor, so you bring a consultant, who has worked with similar industries and can tap on existing knowledge within the consulting firm.

And just to be clear, the young kids out of college are just crunching data and making PowerPoint. The main decisions are made by (slightly) older folk.

KK February 3, 2012 at 5:51 am

Loose association: Dr. Alvin Weasely, the Mensa-member Hell’s Angel in the intro to Robert Downey Sr.’s “Putney Swope”
= http://www.youtube.com/watch?v=4D_fq0KVjuw

Nick February 3, 2012 at 10:50 am

I’ve never worked in the industry, but my guess is that there are very few fresh out of college kids who are directly giving consulting advice to these companies. It’s probably a team-led development, headed by someone who’s been with the firm for years, with the younger folks doing support work.

DK February 4, 2012 at 10:51 pm

quickly-created advise from ignorant college student

Maybe because those ignorant students know the difference between a noun “advice” and a verb “to advise”?

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