Introduction
Twenty-three years after Steven Kerr published “On the Folly of Rewarding A While Hoping for B”, Gibbons (1998) affirms the dissonance between incentive systems and employee performance with references to the evolution of agency theory, examples drawn from an analysis of agricultural sharecropping methods, and four streams of contemporary agency theory.
The validity of this contention is affirmed partly by the theoretical and empirical considerations the author cites as well as by present-day observations this paper cites below. Gibbons provides a kind of baseline, first of all, by defining the inadequacies of the pure risk-versus-insurance model in classic agency theory. He shows that a broad-based study of sharecropping schemes masks many variations on risk and insurance models even in areas and within farms where risk is high and one compensation scheme would seem to be appropriate. To bolster his point, Gibbons cites:
- Baker’s contention that bonuses tied to overt performance measures fail to account for marginal social contributions to the value created by an organization;
- Lazear’s argument that strong but dysfunctional incentives bring sabotage into the picture; and,
- models supplied by Holmstrom and Milgrom revealing the inadequacies of incentive contracts that stimulate agent behavior in favor of a performance measure or total contribution to the firm but not both.
Skills Acquisition as Extraneous Variable in Performance Evaluation
When incentives are associated primarily with skill acquisition, performance evaluation may look intrinsically flawed because the organization is investing in potential, the possibility of higher all-around contribution to the firm in future rather than present performance. Offering higher wages and executive bonuses to a newly-minted MBA is just such an example since the business school graduate contributes little to performance in the short term and causes a distortion in wage scales as well. Irlenbusch also offers support for the Lazear model in suggesting that consideration of sabotage potential and social phenomena like reciprocity should be part of programs that reward skills acquisition (2006).
On the other hand, Kaplan and Henderson (2005) argue that paying for skills acquisition may look cockeyed to organization economists but it is part of a complex of actions, the “social context” that frames economics and incentive systems. Incentives alone cannot account for change management, for example, but organizational flexibility does gain center stage in periodic crises such as the current recession. In more pragmatic terms, Baxter, Weiss, and Le Grand (2008) report that the age-old (and intuitively logical) propensity of the British National Health Service to pay according to health worker credentials has, in the face of service distortions, been augmented by initiating “payment by results” and commissions based on practice.
Examples from My Organization
Working as I do with a holding company that has diverse interests here and overseas, I find no lack of cockeyed implementation of compensation plans where rewards for readily measurable “performance metrics” often bear little relation to strategic contribution to company performance.
Take recruitment in the high-turnover outsourced customer relations management (CRM) business. Reston Holdings LLC (disguised name) has operated a chain of call centers dispersed throughout Canada and the United States since 2001. On the surface, the qualifications required for entry-level agents are not all that hard to find: at least two years of college, computer skills, an accommodating attitude (“customer orientation”) and, in the case of those tasked to do telemarketing, sales aptitude or a verifiable track record in selling.
However, the performance appraisal criteria applied to this employee relations function are almost wholly quantitative. The workload on understaffed recruitment and screening staffs periodically becomes unbearable for two reasons. Turnover is constantly pronounced because the work is repetitive, promotion slots are few, and the industry has taken to pirating rather than spend time training raw recruits. Moreover, call center Marketing is fond of acquiring new business and promising an operational team within two to four weeks when not a single agent is in place. As a result, recruitment and screening is under pressure to deliver at least minimally qualified recruits by the date Marketing promised.
Hence, numbers of warm bodies placed is the primary performance metric. But to make sure that Recruitment does not pull in just anybody off the street, Operations adds the incentive condition that new hires should pass training and stay at least a year with the company or else the bonus for Recruitment is lost. Here is a case, therefore, where the need of one department (Operations) for risk reduction affects the performance bonus of recruiters who have no control over the proximate causes of turnover on the floor: job satisfaction, leadership styles, intra-group conflict, and the like.
Even for existing accounts, one observes the disparity between insurance and risk. Clients pay call center agents to minimize easily-tracked parameters of risk for customer retention. Thus, the emphasis on “quality scores” with respect to how long a caller has been in queue, the number of calls a consumer had to make before a service problem was satisfactorily solved, and customer feedback given in automated, post-call customer satisfaction ratings.
On the other hand, Call Center management puts primacy on total calls “handled” (regardless of outcome) per hour or day in order to reduce cost as much as possible. In an industry where price is the primary platform for competition, the obvious result is that quality of customer service suffers, a fact evident to all who have tried to lodge calls with any utility or credit card customer service center.
At the Reston unit that runs soft drink bottling plants all over the South, elements of the Sales and Marketing performance appraisal system reveal a continuing dissonance between asking field route salesmen to maximize an easily-monitored performance criterion (percentage availability of Brand X in all stores that sell soft drinks) but giving greater weight in the incentive system to sales volume achieved in the sales territory.
Scrutinized more closely, field salesmen are responsible for trade acceptance and should therefore earn more incentives for raising store penetration. On the other hand, tying their commission rates to case sales raises frustrations when Brand X is being pummeled not only by Coke and Pepsi but also by non-traditional rivals such as bottled water, “alco-pop”, energy drinks, and juice drinks. To Sales Management, unhappily, it is not clear that brand volume is really a function of comparative advantage: market trends, advertising prominence and impact, achieved brand image, price, packaging, “food day” or other promotions, seasonality, and consumer disposable incomes.
Bibliography
Baxter, K., Weiss, M. & Le Grand, J. (2008) The dynamics of commissioning across organisational and clinical boundaries. Journal of Health Organization and Management, 22 (2): 111-28.
Gibbons, R. (1998) Incentives in organizations. The Journal of Economic Perspectives 12 (4): 115-132.
Irlenbusch, B. (2006) Experimental perspectives on incentives in organisations. Central European Journal of Operations Research, 14(1)1: 1-24.
Kaplan, S. & Henderson, R. (2005) Inertia and incentives: Bridging organizational economics and organizational theory. Organization Science, 16, (5): 509-521.