Warren joined Diemakers Inc. shortly after it was started in 1960. There was only one person working with him when the company gave him the title of die-casting supervisor. But, in the next 10 years, Diemakers grew from 40 to 150 employees, and Warren's staff swelled to 6.

Warren was a proud man who worked hard for the firm, and he was only a few years away from retirement. But as his responsibilities grew, Warren had trouble keeping up. Employees began taking their problems to the department's strongest manager, the second-in-command.

"We had a situation that outgrew the individual and we should have dealt with it directly," says George Spalding, president of the Monroe City, Mo., die-casting company. Instead, Diemakers' management never confronted the supervisor about his limitations. Warren's feelings of frustration and failure mounted until he finally retired.

Warren's predicament illustrates one of the toughest management situations: handling the loyal employee whose skills have not kept pace with those required by a growing organization.

Too often, as in Warren's case, the employee is left in the job even though he can no longer handle it. This takes an emotional toll on the employee, reduces the company's effectiveness, and sends a message to other employees that management's claims about rewards for performance are hypocritical.

Why do so many entrepreneurs and managers fail to confront these problems? The most common excuse is that other problems of running the company are more important. "When you're trying to stay on top of a growing company, you tend to ignore this kind of problem, especially if the employee is at a low level in the organization," says Diemakers' Spalding. "But you can't overlook it because disgruntled people at any level can cause havoc in a company."

The other reason, of course, is the unwillingness to face the pain even if, in the long run, it might make things easier for all concerned. "Don't kid yourself," said one chief executive. "Confronting a loyal employee about his limited capability makes for a very bad day. But if you can't address these situations, you're in the wrong job yourself. Most chief executives who don't take action think they're being good guys. The truth is you're a lousy guy for doing that."

Says John P. Imlay, chairman and chief executive officer of MSA, an Atlanta-based financial software company, "You've got to focus on the 100, not the 1. You must make decisions in the best interests of the company -- all the employees -- and explain to the individual how your decision will be best for him in the long run."

In handling this problem, the question always arises: What do you owe a loyal employee?

"Most of all, you owe him the right not to be kept in suspense," says Thomas Connellan, a management consultant from Ann Arbor, Mich. "An employee can face bad news better than he can face uncertainty."

Not only does a loyal employee deserve to be kept fully informed of his future with the company, but you also owe him a sincere attempt at resolving his problem. Assess his skills and look at potential openings in the company that he might fill on a permanent basis. (Temporary assignments only postpone the inevitable.)

If an employee has been with the company for a long time, he may have special skills or knowledge about the firm that would prove valuable in a staff position or a job with limited responsibility. Be honest, though, and don't transfer someone to another department unless you sincerely think he can do the job.

One high-technology firm found its operations manager couldn't handle the job, so it transferred him to the marketing department where he became an overpaid marketing administrator. When that didn't work out, he was transferred to a sales job. Finally, it became clear he couldn't sell, and the company gave the employee 2,000 shares of stock (as a way of saying "thank you") and fired him.

But transfers don't have to fail if they are done realistically, says Dave Tomlinson, president of Amwest, a Salt Lake City-based hardware distributorship. When Amwest expanded to a multibranch operation, Tomlinson's credit manager became frustrated. Instead of firing him, Tomlinson put him in charge of credit record keeping, a job that paid less but was better suited to his capabilities.

The key is to keep titles and compensation in line with the job being done. Nothing undermines company morale faster than management's claims that it pays for performance, when everyone can see it's making exceptions.

Another alternative is to find the employee a position with a company in a growth stage similar to your when he joined your firm. An employee who was valuable to you once is probably still valuable, if he works in the right setting.

As much as a manager may hate to fire someone, the fact is you don't owe anyone a job he can't handle, even if that means leaving a position temporarily unfilled. "It's safer to leave a job vacant than to fill it with someone who's not capable of handling it," said one chief executive. "If it's vacant, the rest of us make sure the important things don't fall between the cracks."

If you hesitate at the unpleasant task of dealing with an incompetent employee, ask yourself, "How fair am I being to everyone else in the company?" You know the answer to that.