Watch Out for the Hidden Costs of Subcontracting in Construction Projects: The Impacts of Subcontractor Dispersion

Abstract

Transaction costs of subcontracting are considered hidden costs due to unobservability and immeasurability, which potentially jeopardize project performance. This study develops a framework of transaction costs in construction projects [i.e., prevention-oriented costs (monitoring costs and coordination costs) and rectification-oriented costs (renegotiation costs)]. Furthermore, this study explores the impacts of the subcontractor dispersion on transaction costs and also provided a holistic view of the relationships by investigating the contingent role of different attributes, including project, relational, and institutional attributes. Using empirical evidence obtained from 283 professionals employed by Chinese general contractors, this study finds that a higher level of the subcontractor dispersion leads to more coordination and monitoring costs but fewer renegotiation costs. In addition, the contingent effects of different attributes proffer insights into the underlying mechanisms of how different transaction costs rise in a subcontracting relationship. Coordination costs occur due to information processing requirements, monitoring costs rise from the worry of shrinking, and renegotiation costs come from the relative power between parties. This study highlights the subcontractor dispersion as an important component of the subcontracting arrangement that has been long ignored and reveals the potential trade-off between different types of costs when determining the distribution of subcontracted work among subcontractors. Besides, the moderation analyses demonstrate different features and sources of each type of transaction costs, confirming the significance of the framework both theoretically and empirically. This study reminds project managers of the hidden costs that are frequently underestimated and the contingency analyses help them recognize effective domains for different subcontracting arrangements. This study elucidates the significance of hidden costs in construction projects and the impact of subcontracting arrangements on these costs. By comprehending the expenses associated with subcontracting engagements, managers can adequately account for these expenditures when evaluating subcontracting strategies from a financial perspective. Such additional expenses may include maintaining a larger retained management team, designing a more complete formal contract, establishing a more elaborate performance monitoring and evaluation program, and facilitating more extensive information systems integration among participants. The findings remind project managers of the trade-offs between different types of hidden costs in different contexts and help them recognize effective domains for distinct subcontracting arrangement. For example, in projects in a country with weak legal enforceability, the general contractor must consider the escalating monitoring costs when deciding to subcontract to additional parties. In such case, a low level of subcontractor dispersion may prove more advantageous. Conversely, when the subcontractors’ market is less competitive, using a limited number of subcontractors may become more challenging since the hold-up hazards will be further exacerbated. Factors such as project complexity, uncertainty, and relational ties all contribute to transaction costs, which should be considered in choosing subcontracting arrangements.