June 24, 2012

 

It's the #1 reason we see for companies not meeting their goals. No one ever tells us that when they call for help. Usually they don't even realize it. Only when we unravel the thread of events and look beyond the symptoms we've been asked to treat do we find it. Misaligned Incentives. They're the culprit that nibbles at profits, sabotages sales, and impairs partnerships.

Sometimes the wrong incentives have a direct effect. Consider one agribusiness that couldn't figure out why their great new products weren't taking off. A significant portion of the sales reps' income was paid for hitting their total sales volume. They have a seasoned sales force, and veteran reps knew that, with a few phone calls to their pals, they could easily place enough of their popular existing products to make their bonus. On the other hand, the new products were harder to sell. They had to work harder to convince customers to take a chance on something without a track record. At the very least it took a lot more time, and in many cases, they would have to get out of their comfort zone by knocking on new doors. It was obviously worth it if their pay depended on it. Under a different incentive plan, one where new product sales were weighted much more significantly, they changed their behavior to focus on new products.

Sometimes it's not so obvious. Another client was compensating a channel partner very well for logistics. Farmers practically knocked down this partner's door and they still weren't properly supporting the product. That's because our client's product represented a technology that is a threat to the channel partner's business model. No incentive plan will change that. Unfortunately they've wasted years in a relationship that won't work.

It turns out that agribusiness is not much different than life. In his 2005 book, Freakonomics, University of Chicago economist Steven Levitt illustrates how incentives, not moral choice, drive behavior for everyone from drug dealers to daycare providers. Even in situations where we presume incentives are aligned, he shows how they work counter to our goals. For example, real estate agents say their incentives are aligned with their clients' interests because they get a percentage of the sale price when they help sell the house. Both parties will invest to increase the sale price, right? Wrong. After splitting their commission with a buyer's agent and their agency, the agent keeps only a few hundred dollars for increasing the sale price by tens of thousands. Levitt uses home sale statistics to prove that real estate agents leave their own homes on the market longer and sell them for more than they do for their clients.

So if you're puzzled by performance that doesn't meet your expectations, whether in life or in your business, take some time to examine the incentives at work. These points are useful to ponder:

   -  What behavior do I want to change?
   -  What behavior does the current system reward?
   -  What would create the behavior I want?
   -  Who else will be threatened and how can they block the proposed incentive?
   -  How can the proposed incentive structure be gamed?

If you'd like an experienced outside perspective on how to manage incentives to get the results you're looking for, contact Entira at info@entira.net.

 

This article originally appeared in the June 2006 issue of Strategic Agribusiness Review.