Salesforce compensation plan

Abstract

This paper provides insights into why it is advantageous for a profit maximizing firm to offer its salespersons a flatter compensation plan than the one suggested by Basu, Lal, Srinivasan, and Staelin (1985), hereafter referred to as BLSS, if salespersons can form coalitions. Using an agency-theory framework, BLSS (1985) showed that the optimal compensation plan is a convex increasing function of sales if the salesperson``s risk tolerance increases rapidly with income. Given this convexity of the compensation plan, there is the chance for salespersons to increase their utility by forming a coalition. We formulate a model, which considers the coalition between two salespersons, to obtain the firm``s optimal compensation plan. We show that the optimal compensation is a convex increasing function of sales, even if there is the chance of coalition to the salesforce, if the salesperson``s risk tolerance increases rapidly with income. In addition, we show, in a special case model, that the commission rate of the optimal compensation plan and the salary part of it are less than those of the optimal compensation plan in BLSS model respectively. We also show that the expected profit of the firm in the model is greater than the expected profit, when salespersons actually form a coalition, in BLSS model and equal to the maximized profit presumed in BLSS model. Also, our numerical examination suggests that the results in a special case model may be true in the general case model. Furthermore, the expected profit of the firm in the general case model may be greater than the maximized profit presumed in BLSS model. We conclude with implications of the results for managing salesforce compensation plans.