Incentive Design for Cross-Functional Teams
University of Virginia - Darden School of Business
University of Cambridge - Judge Business School
June 1, 2013
Most important organizational projects are executed by cross- functional teams and their resulting value can rarely be accurately decomposed into specific functional contributions. Research in organizational theory has placed attention on the challenges associated with incentive provision for such teams. Yet, most of this work makes a critical but overlooked assumption that value is verifiably decomposed into the sum of its parts. We adopt a different perspective and consider cross-functional projects where a portion of the value created cannot be verifiably attributed to a specific function. We study when it is beneficial for the organization to offer performance-based incentives that emphasize the total output (team-based) as opposed to incentives that emphasize the portion of value that is verifiably assigned to a specific function (function-based). We contribute new insights regarding the impact of incentives towards an organization’s ability to create value. We find that for sufficiently high project uncertainty, a team-based incentive yields more value to the organization. Despite the induced free-riding effect, team-based incentives prompt the project team to moderate their effort level in accordance with the organization’s objectives. Also, an organization with positive interdependencies between the functions, benefits more from function-based incentives. Thus, organizational characteristics (functional interdependencies) can act as a substitute for explicit mechanisms (team-based incentives) that seek to align the objectives of the project team with those of the organization. Finally, we show that under disparate capabilities among the functional experts of the team, the organization benefits from decoupling the project team members’ efforts through function-based incentives.
Number of Pages in PDF File: 38
Keywords: Incentive Design, Team Compensation, Cross-functional Teams, Performance Metrics
JEL Classification: D23, J33, M52, M54, O31, O32
Date posted: May 12, 2010 ; Last revised: June 3, 2013
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