The impact of haggling costs on the optimal organizational design for sales forces

Abstract

We analyze when a firm should delegate pricing authority to a sales agent who is hired to exert non-observable effort in order to search for customers. A successful search yields that the agent becomes better informed than the firm about customers’ willingness to pay, which favors delegation. However, an agent with pricing authority might grant unnecessary price discounts to avoid personal costs from haggling with customers, such as opportunity costs of time or psychological costs, which can undermine the efficacy of delegation. We describe conditions under which the firm favors delegation even in the presence of substantial haggling costs and explain how the delegation decision interacts with performance measure quality. In addition, we show that the interplay between delegation and incentive pay is not univocal. Delegation and incentive pay can be complements if haggling costs are small, but will be substitutes if haggling costs are large. In the former case, the firm wants to avoid unnecessary price discounts by stipulating a large bonus to the agent for selling at a high price. In the latter case, the agent always grants the maximum feasible price discount and benefits from reciprocal customer behavior (e.g., leaving a tip or offering an in-kind gift or favor), which provides the agent with implicit incentives to search for customers.