incentives_emply - Overview Incentives employment Case...

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Overview: Incentives & employment • Case discussion : 'Outsourcing Sales' • Specialization & Comparative Advantage • Principal-Agent Problems – Pay for performance – Promotion Tournaments • Moral Hazard Set-up : “Outsourcing Sales?” • TV station considers outsourcing sales • Sales company asks variable compensation: – 10% on first $400 million – 5% on part between $400 and $600 million – 2% on sales above $600 million • Sales costs are all variable • TV Station has – $500 million advertising revenue – $450 million fixed costs – $50 million variable cost from sales 1
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Outsourcing Sales? Assume first that sales company has same MC as TV station $ 2
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Conclusion:“Outsourcing Sales?” Proposed deal has very poor incentives for sales firm – MR of sales firm is much lower than MR of TV station => it will typically sell many fewer ads, costing TV station revenues Deal can make sense – If sales firm is much more efficient than TV station, or – If compensation scheme is changed (to increasing) 3
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Specialization Specialization on individual and firm level • Advantages Scale effects Learning effects Less change-over costs Comparative advantage • Disadvantages Causes motivation (incentives) and coordination problems – Dependency fears may lead to duplication and under- investment
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