Optimal sales force compensation plans: an operational procedure
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#2002 Operational Research Society Ltd. All rights reserved. 0160-5682/02 $15.00 www.palgrave-journals.com/jors
Optimal sales force compensation plans: an operational procedure RY Darmon1* and D Rouzie`s2 1
ESSEC, Cergy-Pontoise, France; and 2Groupe HEC, Jouy-en-Josas, France
This paper describes an operational procedure for identifying optimal sales force compensation plans featuring salary, commissions and=or quota=bonus. Utility-maximising salespeople’s behaviours and reactions to given compensation plans are simulated, and the resulting sales, costs and long-term expected profits are assessed. Then, a search technique attempts to identify the long-term profit-maximising compensation plan structure. Operationally, the simulation model parameters are calibrated so as to reflect those of an actual sales force, and consequently the optimal compensation scheme for this specific sales force can be identified. The concept is illustrated in an actual case study. Journal of the Operational Research Society (2002) 53, 447–456. DOI: 10.1057=palgrave=jors=26001292 Keywords: sales force; optimisation; simulation
Introduction Over the last three decades, no sales force management issue has been more extensively researched than compensating salespeople. The abundant research literature on this topic has also led to comprehensive review articles.1,2 The most recent theoretical contributions rely on the agency theory paradigm.3–5 (This assumes that a risk-averse salesperson sells on behalf of a risk-neutral principal in an uncertain environment. The problem is to find profit maximising (ie optimal) contract terms for this work.) Consequently, most research studies using this modelling framework emphasise the relative proportions of fixed versus incentive pay in a salesperson’s compensation package in order to induce self-satisfying and risk-averse salespeople, in the face of uncertainty, to work and allocate efforts so as to maximise a risk-neutral firm’s profits. However, most of these theoretical contributions do not provide operational procedures for estimating the various parameters in order to implement optimal solutions. In addition, the relatively simple compensation structures (fixed plus incentive pay) advocated throughout this stream of research fail to explain the wide variety of forms and mixes that the incentive part of the remuneration takes in practice.6,7 Very frequently, practitioners supplement a basic sales force compensation plan with a bonus that is earned when a salesperson meets a pre-specified objective (eg a sales quota). Obviously this type of compensation structure introduces discontinuities in the remuneration function that cannot easily be handled through optimisation *Correspondence: RY Darmon, ESSEC, Avenue Bernard Hirsch, BP 105, 95201 Cergy-Pontoise Cedex, France. E-mail: [email protected]
techniques on which agency theoretical work has traditionally relied. As for the analytical quota-setting literature, researchers have deliberately disconnected the quota-bonus setting issue from the main sal
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