Optimizing Pricing Delegation to External Sales Forces via Commissions: An Empirical Investigation

Abstract

In this paper, using data from indirect auto lending and a structural model of external sales representative (ESR) behavior, we investigate i) the role of commissions as a potential tool to influence ESRs’ pricing decisions under limited authority, ii) the impact of optimized commissions on firm profitability and iii) the implications for customer welfare. The results provide strong evidence for ESRs being strategic (vs. myopic) in their pricing and effort decisions; and in both cases, strategic behavior is inversely proportional to customer risk. Moreover, once optimized, commissions are an effective tool for firms to bridge the profitability gap between centralized pricing and pricing delegation. Our analyses on social justice and fairness reveal that customer groups along the dimensions of customer risk, income class, and gender, which have been traditionally marginalized in society, suffer from inequities in the indirect-lending ecosystem. While, the optimization of commissions does not intensify these biases, we found females to be the exception, and that the inequities due to gender bias not only persist in the optimized regime, but also deepen. Through counterfactual simulations, we propose two policies for firms to minimize social inequity, which helps them balance immediate profit-maximizing goals with responsible AI initiatives.