What’s the downside to hiring a consulting firm?

For one, consultants are expensive. Consultants might be able to help you a lot and they might be able to help you a little, and you probably won’t be able to trust the consulting firm to give you an honest answer. You might want to hire a consultant to help you figure out whether hiring a consultant is a positive-NPV idea.

Second, you’re hiring someone to give you advice, which means you might not have the strongest grasp on the issue for which you hired the consultant. If that’s the case, you might over-weight the advice the consultant gives you (say, one possible decision of several) or be unable to replicate the thought process behind the strategy later. Furthermore, if you want to seek more advice later you’ll have to pay for it.

Third, it’s possible that the consultant doesn’t understand your situation and/or gives you bad advice. They might know that they don’t know very much and conceal that information from you, or they may be unaware of the depths of their unaware-ness and thus unknowingly give you bad advice. Fortunately, I don’t think this is a very big issue. Consultants have reputations, and clients can communicate: if you give bad advice too often your clients will talk and you may find yourself out of business.

Fourth, the nature of the advice-giving game is to be vague and give shaman-like answers. If your answers and predictions are specific and wrong, you can lose credibility; just ask a fortune teller. Especially because a firm’s hiring you to give them advice in an area about which the firm doesn’t have much knowledge, they’ll believe most of the things that you say to them. This may lead a firm to believe that consultants are telling them useful things, when in fact the firm is not giving very profitable, or actionable, advice. You’re hiring the firm to give you profitable advice but it may not be in their incentive to do so, if they can get away with delivering shaman-like answers.

Fifth, there’s a selection bias at play. Despite the problems listed above, it’s likely that consultants provide firms with value in excess of the costs of hiring them. Smart firms realize this, and want to hire consultants. But because they’re smart firms, they’re probably ahead of the curve and consultants can only provide them with limited amounts of profitable advice. The firms that need consultants the most are unlikely to hire them.

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