Ethics Series Part 3: Leadership Trust, Pay and Pipeline

The study of ethics is the study of decisions between right and wrong, and, in business, ethics is about decisions between right and wrong in the face of financial incentives. Game theory states that individuals make decisions that maximize their own utility. In organizations this leads to conflict between principals and their agents. A company can mitigate this conflict with a good incentive package aligning the goals of self-interested individuals with those of the shareholders.

The past two weeks we’ve discussed the hypothetical Ethics Corp and Tom Hansen, a territory sales manager who is paid a salary plus bonuses based on top line sales. Beyond his cash compensation, Tom is motivated by job security, career growth, and favorable performance reviews. Left to his own devices, Tom will try to build his own sales empire by taking on more employees, larger projects, and more revenue responsibility. Eventually, this behavior costs the company money through margin erosion, leadership deficits, and employee turnover. Here are some solutions:

Trust

Tom’s boss Rob should have a candid conversation with him about his request to absorb the neighboring Mid-Atlantic territory. Rob should reiterate that Tom is a high potential individual with the talent to succeed as him VP someday. But expanding his territory won’t help him get to the next level. Rob should try to promote someone from within to fill the vacant position, and maybe Tom can mentor a few candidates or recommend someone from his team.

Tom might be disappointed that he won’t be earning bigger bonus checks, but if Rob is candid and honest their relationship should survive without resentment. This makes it likely Tom will stay with the company, especially if Rob makes good on his promise to develop Tom. Trust develops from frequent and honest communication, and is a key retention factor (Bernthal, 2001).

Pay

Ethics needs to review its compensation package for territory managers. Sales managers need incentive to expand their businesses responsibly. Ethics Corp should repackage the bonus to include a margin qualifier. In other words, since  Ethics delegated pricing decision rights to Tom, he should only qualify for a sales bonus when his territory meets its profit goals. Also, compensation for mid-level managers should be partly tied to the company’s overall performance. This would motivate Tom to share his resources and expand the scope of his focus.

And money doesn’t need to be the only incentive for performance. Low cost (sometimes free) rewards are also highly correlated with performance. Ethics can offer territory managers perks like sports tickets and create a new company wide recognition program for mid-level managers (Chen, 2009).

Pipeline

Rob tells Tom he is a high potential individual. Rob can keep Tom engaged by regularly giving him opportunities to learn and grow. Empire building is not learning. Introducing new work via cross-functional training would make Tom a better candidate for a VP position. Are there any committees, task forces, or think-tanks that Tom can get involved in? Is there any VP level work Rob can delegate to Tom?

Also, Rob should require Tom to identify his own high potential direct reports and create a succession plan. Tom can delegate some supervisory responsibility freeing up some of his time while building a bench of future leaders. Rob is more likely to promote Tom if he has a good replacement trained and ready to go.

Jay Conger and Robert Fulmer wrote about the importance of a leadership pipeline in the Harvard Business Review in 2003. They said that certain positions, called lynchpin positions, are essential to a company’s long-term health – like territory managers. They also found that succession planning only works when it is tied to leadership development. Its not enough to have a list of high potential candidates – firms need to challenge and prepare leaders for the future (Conger, 2003).

Ultimately, in my opinion, the collective moral compasses of individual employees is the true measure of the organization’s ethical standards. It’s up to the leaders of the company to encourage individuals to act ethically. Through honesty, candor, relationships, compensation, and succession planning, leaders can align employee behaviors with wealth building performance, creating a long-term path to prosperity.

Ethics series references:

Bernthal, P., and Wellins, R. “Retaining Talent: A Benchmarking Study,” HR Benchmark Group Issue 2 (2001)

Chen, Donghua, Li, Oliver Zhen and Liang, Shangkun, Do Managers Perform for Perks? (2009)

Conger, J., and Fulmer, M. “Developing Your Leadership Pipeline,” The Harvard Business Review (2003)

Hope, O.K., and Thomas, W. “Managerial Empire Building and Firm Disclosure.” Journal of Accounting Research (2008) 591-626

Jensen, M. “Agency Costs of Free Cash Flow, Corporate Finance, and Takeovers,” American Economic Review, American Economic Association (1986) 323-29

Zimmerman, J. “Accounting for Decision Making and Control,” McGraw-Hill Irwin (2011) 135-157

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One thought on “Ethics Series Part 3: Leadership Trust, Pay and Pipeline

  1. John,

    Very nicely reasoned recommendations. I particularly like your thoughts on the need for Tom to do “succession planning” and develop members of his own team. This has the potential to change his perspective from “it’s all about me” to one of “doing well by doing good” — i.e., “developing my team will help the team, the organization, and myself.” Nicely conceived.

    Michael

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