MASTER OF BUSINESS ADMINISTRATION PROGRAM

MANAGERIAL ACCOUNTING 631

SPRINGSEMESTER 2019

CASE No. 2

Salam Drugs makes generic prescription drugs. It relies on its sales personnel to market and sell its products widely to pharmacies, doctors, and hospitals. While Salam has always been profitable, revenues have been stagnant over the last 5 years. In contrast, other generic drug companies recorded significant revenue growth over the same period.

After careful investigation, Salam's CEO, Ms. Hajar, concludes that an important reason for the lack of revenue growth is the way the incentive system is set up for the company's sales personnel, coupled with the role sales personnel play in the annual budgeting process. Currently, an average salesperson receives a fixed annual salary of $40,000, and a bonus of $20,000 for meeting or exceeding an annual sales target of $400,000. A look at the records was enoughfor Ms. Hajar to realize that hardly any member of the sales team exceeded the target of $400,000 by much (the maximum recorded sales was only $426,000), and many of them were just about meeting this target. The sales target itself was set every year in consultation with the sales team, and the target had not moved up in the last five years to reflect any growth.

It was clear to Ms. Hajar that the sales team was "low-balling" the target to be able to comfortably meet it and qualify for the bonus. They also seemed to stop once they met the target. Yet, Ms. Hajar realized that the sales personnel were in the best position to assess market trends and to help set realistic targets for the company's planning process. After consulting with experts on sales forcecompensation, Ms. Hajar come up with four options:

1. Remove the bonus for meeting the target and increase the annual salary to $60,000.

2. Set the target at a level that is 10% higher than what the sales team recommends. Implement a sales commission system whereby a salesperson earns 5%of the amount by which actual sales exceed 90% of the target.

3. Set the target based on industry growth and keep the existing bonus system.

4. Implement a tournament scheme wherein sales personnel are ranked into five performance-based groups and vary the bonus across groups.

Required:

Discuss the relative merits and drawbacks of each scheme from the company's point of view. Which scheme is likely to put the company on a path of sales growth?