Accounting usually reports for an entire entity. The entity might be a department or a division or the entire organization.
Nevertheless, the accounting results are sometimes taken to be informative about individual performance. Your project for the
class relates to whether the CEO compensation depends on accounting income. If the CEO compensation does, in fact, depend on
accounting income, then the accounting income is for the entire organization and not the productivity of the CEO as an individual.
There is some omniscience with this problem that we would not have in ordinary circumstances.
One division of a company is composed of three people working in a team with total productivity of $400. The accounting system
appropriately measures the division profits as $400. Let’s call the three team members Diana, Mary, and Florence. Suppose
we’ve chosen these individuals because among all combinations of individuals they produce the most team productivity.
Now replace Diana by the next best alternative person from outside the existing team, and let’s say that total output drops to $350.
Production with Diana is $400. Production with the next best alternative to Diana is $350. Having Diana is better than the next
best alternative by $50. Diana should be able to use this as bargaining power to extract the lion’s share of this incremental
productivity. Diana should be able to bargain that the team should be willing to pay at least the value of $49.99 to Diana and the
other two team members are still better off by the net $0.01 remaining of added productivity. By giving Diana the entire $50, at
worst the remaining team members should be indifferent to whether Diana or the next best alternative is on the team.
Suppose that something similar is true for Mary and Florence. When Mary is replaced by the next best alternative, productivity
drops to $350. When Florence is replaced by the next best alternative, productivity drops to $350. As a result, they each have
bargaining power over the team for the worth of about $50.
Here’s what I see at this point; out of $400 of productivity, each team member has bargaining power to extract $50 from the team,
for a total of $150. This leaves $250 of productivity remaining that is accounted for by the team organization and not inherently
able to be appropriated by any individual currently in the team.
1. The way we have set the problem so far, there is a core level of profitability of $250 that is not attributable to any individual,
and cannot be bargained for by any individual. The $250 is attributable to three people working as a team. How should the $250
be distributed among team members? This is a product of your own reflection. There is not a correct answer.
2. Accounting tends to operate by collecting information about what has happened and not about next best alternatives or
opportunity cost. Do we ever collect information about next best alternatives? Is it important?
3. My example isn’t the only way the numbers could work out. It’s possible that replacing each person in turn would cause
productivity to drop by $200. This gives the collected team members bargaining power over a total of $600 when total
productivity is only $400. What happens then?