Question

The Drexel division of NESCO sells pet food. NESCO's corporate management gives its division managers considerable operating and investment autonomy in running their divisions NESCO is deciding how it will compensate Tim Thomas, the general manager of the Drexel division. NESCO is considering the following three proposals: » Proposal 1 Pay Thomas a fixed salary o » Proposal 2 Pay Thomas no salary. His compensation would be paid solely on the basis of the division's ROI, calculated as operating income before any bonus payments divided by the division's investment. o Proposal 3 o Pay Thomas some salary and some bonus based on ROI QUESTIONS: Evaluate the three proposals, comparing the advantages and disadvantages of each. Assume Thomas does not like bearing risk. Which of the three proposals will he prefer? Explain your answer in detail. Assume NESCO's goal is to align Thomas's objectives with its own objectives. Which oif the three proposals will NESCO prefer? Explain your answer in detail. 4.Suppose NESCO competes against DOGCO, a company of similar size in the same business environment. NESCO management is considering evaluating Thomas on the basis of Drexel's ROI minus DOGCO's ROI. Thomas complains that this method is unfair because the performance of another company, over which he has no control, is included in his performance evaluation measure. Is Thomas's complaint valid? Explain in detail why or why not. 5. Drexel's salespersons are responsible for selling and providing customer service and support. Sales are easy to measure. Although customer service is important to Drexel in the long run, it has not yet implemented customer service measures. Thomas wants to compensate his sales force only on the basis of sales commissions paid for each unit of product sold. He cites two advantages to the plan: (1) it creates strong incentives for the sales force to work hard, and (2) the company pays salespersons only when the company is earning revenues. Provide at least two reasons that Thomas's proposal is not a good plan. Explain your answer in detail.

Answer 1

1) Proposal 1: It is advantageous for the GM to get a fixed salary as he is assured even in the case of huge losses or low profits. However, the company though has proper knowledge about the amount to be given to the GM as salary can face problems at times of losses as they have to compensate for the salary from some other source.

Proposal 2: This shall not be liked by the manager as it depends upon the operating income and the investments made and the GM has to work harder to get more income which may depend upon many other sources as well. This may not be fruitful for the company as well as the company may face losses if the GM doesn't work well and hence contributes less towards the income.

Proposal 3: This is the best proposal of all as the GM and the company are both in profit by adopting this method. It is because the GM gets a fixed salary and to get more of it he needs to put in much efforts to make income more for the company.

2) In this case the manager will prefer to choose proposal 1 as it will give him fixed income/ salary and it will not bear any risk for the manager in any situation whatsoever.

3) In such a situation, NESCO will prefer proposal 3 as it will be beneficial for both the manager and the company. Proposal 3 gives a fixed amount of salary to the GM and also some bonus based on ROI. Thus the manager is assured of some fixed salary no matter what the situation is and the company is also assured of the managers work contribution as he needs to earn more income.

4) Yes, Thomas's complaint is valid as a company's ROI depends on various factors related to own variables and variables from the surrounding world. However, evaluating his salary on the basis of that of other companies ROI is not valid as it reflects other companies performance which is not on what basis he shall be evaluated. Thus, this method is not fair and shall not be adopted.

5) There are many reasons why Thomas's proposal may not sound good for the company. Two of the reasons are cited below:

a) The sales may be down due to factors other than work load taken by sales force. Reasons for low sale may be substitutes present or the overall market demand going down; thus the sales force would be unable to do anything regarding that.

b) Some of the sales persons may switch to some other company where they are paid fixed income rather than on the basis of number of products sold. This may prove to be fatal for the company.

Thus the proposal provided by Thomas is not a good one.