By Dylan Walsh
“First prize is a Cadillac Eldorado,” the overcharged real estate salesman Blake, played by Alex Baldwin in the David Mamet film Glengarry Glenn Ross, tells a sleepy branch office that can’t seem to make its targets. “Second prize is a set of steak knives. Third prize is you’re fired.”
Incentives—commission, a paid vacation, a Cadillac—are pervasive in the world of sales, often tied to the number of customers or the amount of money that a salesperson brings in. Equally well established in sales is the notion that relationships matter: get to know your customers and use that information to do better work.
But while incentives and private information may benefit the salespeople who are on the ground connecting with customers, it’s not well understood how they affect firms as a whole. In looking into this question, K. Sudhir, a professor of marketing at the Yale School of Management, found a troubling paradox: what’s good for salespeople is often bad for the firm.
“When it comes to acquisition bonuses, you’re probably paying people for adding very little value to a company,” Sudhir says. “And when relationships between a salesperson and her customers become too friendly you might want to cut those off.” Companies, he suggests, ought to rethink the fundamentals of their sales operation.
Sudhir, his Yale SOM colleagues Kosuke Uetake and Rodrigo Canales, and doctoral candidate Minkyung Kim came to this conclusion by studying a microfinance bank in Mexico, collecting data on 461 loan officers who worked on nearly 130,000 loans over a 14-month period.
Read the study: “When Salespeople Manage Customer Relationships: Multidimensional Incentives and Private Information”
They found that when loan officers were offered strong incentives to acquire new customers, they did just that—but with little regard to the customers’ likelihood of fully repaying their loans. The officers tended to recruit what amounted to “bad” customers. As banks ratcheted up pressure to bring in customers who didn’t fall into delinquency, though, salespeople were suddenly able to find better candidates. This relationship between incentives and customer quality proved so strong that Sudhir was able to nicely predict future default rates based on a bank’s current incentive structure.
“If you don’t reward your salespeople for customer retention—or penalize them for poor retention—then all of the bonuses you pay to acquire new customers may not give you returns,” he says. “You end up paying people for adding virtually no value.”
Sudhir and his colleagues also looked into how loan officers used private customer information that the bank didn’t have access to—personal knowledge, beyond a credit score, that they accrued over the course of their relationships with the customers. The researchers were able to observe the effect of this information through the bank’s transfer policy, which routinely moved salespeople from one bank branch to another. Immediately after transfer, officers would have no private information on customers, so if they acquired notably different customers before and after transfers, the difference could be attributed to private information.
The researchers found that officers who were recently transferred recruited customers who were less likely to default on their payments than those recruited by officers who had been in place for a long time. Transfers were not unequivocally positive, as officers in new markets were less reliable at collecting loans. But, in balancing these two effects, transfers ultimately benefitted the bank’s bottom line.
This effect has implications far beyond banking. Many companies have established what Sudhir refers to as a “hunter-farmer model.” Salespeople hunt for new customers, and then a separate team of “farmers” within the company is responsible for customer maintenance. This setup seems logical: making sales requires one set of skills, retaining customers another. But Sudhir notes that any gains from specialization may be overwhelmed by the fact that salespeople will likely recruit bad customers when they don’t have to worry about retention.
To reconcile this tension, Sudhir recommends creating teams with joint responsibility. This way, companies can hold on to the value of employee specialization while establishing employee interest in a collective outcome. Whatever the approach, though, it’s essential to harmonize a salesperson’s self-interest with the company’s long-term profit motive.
“The proper structure of incentives is critical for bringing in the right customers,” Sudhir says. “Without this, it’s likely that salespeople are thinking about acquisition, bringing in really bad customers, and this is hurting rather than helping the company.”