Consultants and the Principal-Agent Problem
Never pay someone to make decisions for your business
Along with used car sellers, advertising agencies, and attorneys, people love to poke fun at management consultants. And lately, there’s been plenty of fodder for scorn—including opioid-related conflicts of interest, an inability to split their wealth internally, and taking the blame for a bank collapse.
It’s funny how few people look at the clients who hire consultants and question their responsibility. Consultants, attorneys, accountants, and ad men and women—are hired to advise, not decide. And it is up to clients to understand the Principal-Agent Problem that is behind the scenes of every advisor relationship.
I’ve been on all sides of the challenge, but I learned this lesson vividly when I was leading an advertising agency and running a consulting project for a large client. It may sound a bit contrived—like a coffee table book about coffee tables—but it taught me an invaluable lesson.
Digital Strategy Second Guessing
It’s the Summer of 2011, a few months after completing the sale of our digital advertising agency to a giant holding company. After the sale, our agency was combined with three others to create a bigger, better, global digital practice. And my job went from running our single-office strategy team to serving as Chief Strategy Officer of this new group. I spent most of my time on planes, personally leading digital strategy projects in hopes of landing millions of dollars in execution work.
Today I’m sitting in the lobby of the Four Seasons hotel in Florence, Italy, as part of an all-expenses-paid consulting assignment. It is by far the finest hotel I have every set foot in—right in the middle of the ancient city, with artwork that rivals the museums nearby, where tourists are waiting in the heat for hours to enter.
I’m sipping coffee and reviewing talking points as I prepare for my 45-minute slot in the Board meeting of a giant, global, multi-brand OTC company. It’s a long way to go for such a short meeting, and I can’t believe we’re getting paid for this…
A few months earlier, a former manager of mine—now an executive at this OTC company—called to say that he recommended me and my firm to help the North American Chief Marketing Officer put together a holistic digital marketing strategy. The CEO tapped this CMO to lead the thinking on moving from TV and Print to web, social, mobile, ecommerce, and all the other buzzwords that were emerging at the time.
Following an introduction, I had a chat with the CMO. He explained that he had just hired McKinsey Consulting to lead the digital strategy development process which would end in a big Board presentation that summer. One of the Board members suggested that the CMO also hire someone to provide a “second opinion” on the strategy output. My experience on both the client and agency side with big brands for 15 years made me a good enough fit.
Aside from an All Expenses Paid First Class Trip to Tuscany, I was excited that this first assignment at a critical time would lead to those millions of dollars in execution work that I was on the hook for. After all, someone would have to build all those web, social, mobile, and ecomm gadgets******—and McKinsey is notorious for wanting nothing to do with actually building stuff.
I was invited to the company’s headquarters in New Jersey a couple of times leading up to the big event, as McKinsey shared progress on their recommendations. I was engaged, but waited for the cue from the CMO on how deep I should dig in or poke holes. The CMO was welcoming and friendly, but it was clear that he saw me as a box being checked, rather than a true check or balance to the McKinsey work. I added a few builds here and there but mostly sat back and watched.
It was interesting to observe the minds and processes of legendary McKinsey work. They were organized, thorough, and smart in thought and dress. Their recommendations were sound and based on good thinking at the time. But everything was bland and cookie-cutter. You could have substituted this client’s name on their slides with 100 others in the industry. Let’s just say if ChatGPT was around back then, we could have saved ourselves a lot of time and money.
The CMO, meanwhile, was on time to meetings and seemed attentive, but little more. He asked no significant questions, and he didn’t encourage discussion or debate. It was clear he lacked knowledge, experience, and basic curiosity in digital marketing. His whole career ascendency had been based on TV commercials, print ads, packaging, and promotion. Instead of seeking to understand how the world was shifting, he just wanted this whole digital thing to go away—after checking the strategy box for the Board, of course.
Back in Florence, I see the conference room door open and the CMO waves us in for our presentation slot. We take our seats and begin scripted remarks—until the CEO stops us. He read the deck ahead of time and is asking questions—probing questions, tough questions, questions that one would expect from a leader who is worried about the future of his business and curious about the biggest change in business in his career. I’m more open and poking slightly bigger holes than I had planned, but still being very careful.
I’m enjoying it. The CMO isn’t.
He waffles, defers to us consultants, and seems to be counting the seconds until the next agenda item. You see, instead of leading a strategy process and making his own recommendations, he chose a strategy of avoiding the thinking work and covering his butt by hiring consultants. That, dear reader, is why McKinsey, Bain, The Big Four, and countless others get the phone calls and get so many $ billions in fees yearly. It’s often the “safe” decision. But not always safe…
The Board moves to the next topic, and I return to the Tuscan sunshine, ordering a drink in the garden (see photo above). I spend the next few hours reflecting on where my career is headed. It feels like a big circle of bullshit.
I wasn’t surprised to hear a few months later that this CMO was let go, in part because of weak leadership on this critical assignment. McKinsey got paid, though, and so did my company.
Welcome to the Principal-Agent problem
Most of us quickly learn the value of outside experts in business, including strategic consultants. They have specialized knowledge and have worked repeatedly in areas that can be new to you. But no one tells you how to work with them and what to watch out for.
Remember the **** above? That’s an example of the biggest watch-out. In my consulting project, I had a personal interest that was a bit different than what I was being hired for. Of course, I wanted to deliver quality work, but I had additional distractions.
The CMO told me he wanted me to be a challenging expert but sure didn’t encourage this. And I would never have gotten the sweet, sweet millions in execution work by pulling the CMO’s strategy pants down in front of his Board. So my motives were biased, and I didn’t bring my full “toughness,” which might have made the final digital strategy more effective.
“If, in your thinking, you rely entirely on others, often through purchase of professional advice, whenever outside a small territory of your own, you will suffer much calamity.”
- Charlie Munger
In Economics, that kind of bias is at the heart of the Principal-Agent problem. It works like this: The Principal is the owner of the business. She 100% wants the business to be successful. In order to be successful, the Principal must hire non-owners to help. These hired hands, The Agents, include employees, vendors, consultants, and investors.
But since Agents are not owners, their interests and those of the Principal diverge. Going back to my example, here are a few of the biases and ulterior interests that creep into Agents’ minds and actions:
The CMO - hired by the CEO and Board (not an owner)
Doesn’t want to look bad in front of the Board
Doesn’t want to spend time learning about digital marketing
Wants a secure budget that will allow for more internal power and decision-making authority
Wants to add “Digital Strategy Leadership” to resume in hopes of getting a promotion or better job elsewhere
The Consultant - hired by the CMO (not an owner)
Wants to win future work with the client
Wants to spend as little time as possible on an assignment, since they are juggling many projects
Have a specific focus in their work—i.e. “To a digital marketer, every problem tends to look like it needs more digital marketing”
Wants to enjoy a business boondoggle Under the Tuscan Sun
And when you start putting these chains of Agents together in an assignment, things can get worse.
One way to look at this is with a little math: Let’s say the CMO is 80% aligned with the CEO’s interest, and the CMO hires a consultant that’s 80% aligned. So we multiply .80 x .80 = 64% alignment between the Principal and the Agent that does the actual work. It’s not great odds when you turn over decision-making in this way!
Become a Better Client
However you want to calculate things, the fact is that 100% of the time you hire a consultant, ad agency, accountant or real estate agent, their interests are going to diverge from yours, even slightly. Step 1 is to remember this at all times.
As for Step 2, you can decide to avoid working with outside experts altogether—or you can employ tips like these to close the Principal-Agent risk gap:
Pick partners with deep reference checks, and stick with those who continually advise you well.
Negotiate partnership contracts that put some skin in the game. For example, tie part of their payment to business results rather than just their time.
Make them make you smarter. Ask them to explain it to you like you’re a 5-year-old. After a few rounds of this, you’ll know enough to ask them tougher questions.
Tell them to bring multiple options with pros and cons for each. Force them to be the devil’s advocate for their own work.
Ask pointed questions—look them in the eye and say, “If this was your business, what would you do and why?” Directness like this gets to the hard truth pretty quickly.
Finally, always remember that when you are the Principal, you must make the ultimate decision and live with it. The rest of us are getting paid to advise you, but at the end of the day, only you have your butt on the line. That’s why you get the big bucks.
Succeed as an Employee
One trick you can use in your career is to treat each job you hold as if you are the Principal or Owner of that piece of the business.
If you are the Brand Manager of Mr. Clean, then think of yourself as the owner of Mr. Clean. If you are the Sales lead for a group of clients, you are the owner of that book of business. This mentality closes the Principal-Agency biases that lurk in our brains and help us make decisions that are nearer to what is truly best for the business.
Think of all the managers above you as a Board of Directors or a group of investors. You have to convince them of the direction you believe is right, but the secret is that most managers and Board members want you to do the thinking work—they are just waiting for you to bring the leadership for your business. When they see you behaving like an owner—and making strong strategic recommendations—they will tend to stand back and let you run. And then things really get fun.
But it’s OK to opt out of this game when you’re ready, too. In my agency consulting case, there were lots of things coming to a head that summer day in 2011. I had some financial freedom after selling our agency, and I had little interest in continuing to advise other leaders on what I thought they should do. I was no longer an owner of our agency and needed to be a Principal again.
A few hours after that Board meeting, while walking the streets of Florence, I called my boss to tell him I was ready to resign. He wasn’t happy and tried to use threats to keep me on. But that’s a story for another post.
I was completely happy, knowing that I made the right choice for my career and life.
Bob Gilbreath is a 2x-exit entrepreneur and co-founder of Hearty, a curated matchmaking service that combines top software developers with early-stage, venture-backed startups.