Homogenous Contracts for Heterogeneous Agents: Aligning Salesforce Composition and Compensation

45 Pages Posted: 23 Feb 2014

See all articles by Øystein Daljord

Øystein Daljord

University of Chicago, Booth School of Business

Sanjog Misra

University of Chicago - Booth School of Business

Harikesh Nair

Stanford University - Graduate School of Business

Date Written: January 1, 2014

Abstract

Observed contracts in the real-world are often very simple, partly reflecting the constraints faced by contracting firms in making the contracts more complex. We focus on one such rigidity, the constraints faced by firms in fine-tuning contracts to the full distribution of heterogeneity of its employees. We explore the implication of these restrictions for the provision of incentives within the firm. Our application is to salesforce compensation, in which a firm maintains a salesforce to market its products. Consistent with ubiquitous real-world business practice, we assume the firm is restricted to fully or partially set uniform commissions across its agent pool. We show this implies an interaction between the composition of agent types in the contract and the compensation policy used to motivate them, leading to a “contractual externality” in the firm and generating gains to sorting. This paper explains how this contractual externality arises, discusses a practical approach to endogenize agents and incentives at a firm in its presence, and presents an empirical application to salesforce compensation contracts at a US Fortune 500 company that explores these considerations and assesses the gains from a salesforce architecture that sorts agents into divisions to balance firm-wide incentives. Empirically, we find the restriction to homogenous plans significantly reduces the payoffs of the firm relative to a fully heterogeneous plan when it is unable to optimize the composition of its agents. However, the firm’s payoffs come very close to that of the fully heterogeneous plan when it can optimize both composition and compensation. Thus, in our empirical setting, the ability to choose agents mitigates the loss in incentives from the restriction to uniform contracts. We conjecture this may hold more broadly.

Suggested Citation

Daljord, Øystein and Misra, Sanjog and Nair, Harikesh, Homogenous Contracts for Heterogeneous Agents: Aligning Salesforce Composition and Compensation (January 1, 2014). Stanford University Graduate School of Business Research Paper No. 14-09; Simon Business School Working Paper No. FR 14-03. Available at SSRN: https://ssrn.com/abstract=2399268 or http://dx.doi.org/10.2139/ssrn.2399268

Øystein Daljord

University of Chicago, Booth School of Business ( email )

Chicago, IL 60637
United States
7738342146 (Phone)

HOME PAGE: http://faculty.chicagobooth.edu/oystein.daljord/index.html

Sanjog Misra

University of Chicago - Booth School of Business ( email )

5807 South Woodlawn Avenue
Chicago, IL 60637
United States

Harikesh Nair (Contact Author)

Stanford University - Graduate School of Business ( email )

655 Knight Way
Stanford, CA 94305-5015
United States
650-736-4256 (Phone)

HOME PAGE: http://faculty-gsb.stanford.edu/nair/index.html

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