Inventory related compensation in decentralized organizations

Barbara Schöndube-Pirchegger () and Guido Voigt ()
Additional contact information
Barbara Schöndube-Pirchegger: Faculty of Economics and Management, Otto-von-Guericke University Magdeburg

No 140012, FEMM Working Papers from Otto-von-Guericke University Magdeburg, Faculty of Economics and Management

Abstract: We consider a principal agent problem in a decentralized organization. The agent holds private information with respect to an uncertain demand within a single selling season. As such his task is to determine the optimal order quantity. Being head of a profit center, however, he naturally focuses on maximizing profit of his particular unit while the principal aims at maximizing long run firm value. This goal incongruency results in a systematic shortfall of order quantity chosen by the agent as opposed to the strategically optimal level. We show that a menu of contracts offered to the agent to pick from is suitable to solve the agency problem and to achieve first best outcomes. Each contract specifies a fixed payment and a bonus or a penalty, conditioned on the inventory level at the end of the selling season, along with a prescribed order quantity. An exogenously given profit share is added to reflect the assumed profit center structure. Omitting any of the contracting elements specified above, however, destroys first best. The paper not only demonstrates that first best can be achieved in the described setting, it also provides a theoretical explanation for the widely observed practice of using inventory related compensation elements in organizations.

Keywords: Newsvendor; Asymmetric Information; Incentive Design; Service Level (search for similar items in EconPapers)
Date: 2014-12
New Economics Papers: this item is included in nep-hrm
References: Add references at CitEc
Citations:

Downloads: (external link)
http://www.fww.ovgu.de/fww_media/femm/femm_2014/2014_12.pdf First version, 2011 (application/pdf)

Related works:
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:mag:wpaper:140012

Access Statistics for this paper

More papers in FEMM Working Papers from Otto-von-Guericke University Magdeburg, Faculty of Economics and Management Contact information at EDIRC.
Bibliographic data for series maintained by Guido Henkel ().