- Linking Pay to Performance
- by David A. Bratton
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- Most Human Resource professionals are familiar with the concept of
strategy. There is much more concentration and focus today on the strategic outcomes of
human resource activity than ever before. The area of compensation is no exception.
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- Pay for performance systems are becoming more and more popular as senior
managers reach beyond the use of compensation systems to deliver pay. There is far more
interest in more closely linking the reward mechanisms to the achievement of corporate
objectives. Motivation for superior performance is the goal. The subject of my article is
- linking pay and performance through the use of financial incentives as a strategic,
motivational tool.
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- In my experience, most organizations will profess to a
"pay-for-performance" philosophy as a keystone of their compensation system.
Such a system requires solid grounding in a clear and documented link between performance
and salary increases. Unfortunately, the link between individual performance and pay is
frequently nonexistent - "merit" pay is a hollow concept in this regard.
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- Why is this the case? Well, a merit system demands that managers be
willing to make distinctions in merit increases based on performance. However, several
factors get in the way of this happening.
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- First, the " salary change is usually a small percentage. Giving the
better performer 2% more than the cost of living has little motivation or recognition
attached to it. Similarly giving the poor performers 2% less than the cost of living
increase isn't that much of a penalty. So many managers don't make that distinction - it's
too much hassle. So everybody gets the same increase.
Second, most performance appraisal systems are
after-the-fact appraisals. In other words, at appraisal time, which
is usually toward the end of the year, managers are required to
evaluate the performance of their staff. It means sitting down and
trying to reconstruct what each staff member did, capturing it in a
nonthreatening way, communicating the evaluation without a fuss and
finally, making a merit increase recommendation. Sound like a
familiar pattern? It is a process that repeats itself year after
year.
The end result is usually a lot of avoidance behavior. Managers
avoid the appraisal process like the plague. Although employees
profess to want to "know where they stand" they often take issue
with the appraisal. Besides, they don't listen to the evaluation,
they wait until the penny literally "drops"."What is my rating and
how much do I get?" is a constant theme in merit systems where
salary decisions are tied so closely with the appraisal process.
You might well ask is there any way out of this mess?
The answer is fortunately yes. Organizations that are the best and
want to separate themselves from the rest, are turning away from the
merit system and toward an " incentive system, particularly for
middle and upper management positions but increasingly for teams and
individuals lower down in the organization as well.
They are adopting a system of " incentive bonuses linked directly to
the achievement of corporate and individual objectives in three
specific areas. The areas are corporate revenues and gains, cost
containment and behavioral changes. The first two areas are
quantitative and the third area, which is gaining in importance, is
qualitative in nature, and has a great deal to do with building
managerial and individual competence.
Well, there are many challenges facing North American businesses
today and these challenges are driving them to find better ways of
linking pay and performance to the achievement of corporate results.
Some of the challenges are as follows:
Intensifying Business Competition
Free trade, mergers, acquisitions and the need to quickly respond to
changes in the environment are creating a far more competitive
future. There is a move to rationalize, and to emphasize certain
lines of business and de-emphasize others. There is also a move to
give subsidiaries and business units more opportunity to pick and
choose the products and services with the greatest performance
potential.
Re-Regulation
Re-regulation of whole industries such as transportation and
telecommunications is encouraging an emphasis on performance.
Priority is being given to recruiting and retaining top performing
managers and individual contributors who can deliver "bottom line"
results.
Movement To Fee-for-Service
A major future business opportunity is evident in the form of
fee-for-services. Many companies are realizing that they can sell
internal expertise in the outside marketplace. Information systems,
services like printing and consulting offer profit-generating
opportunities to cash-hungry companies.
Profit Performance
Shareholders and investors are increasingly interested in new ways
of increasing current income and capital growth. Since management is
seen as the driving force behind the achievement of such increases,
there is more interest in using financial incentive as a way of
motivating managers to achieve tough corporate objectives.
Differential Advantages Over Direct Competitors
As organizations search for ways of obtaining advantages over
competitors they are looking toward the following things from their
management:
A clear focus on key performance priorities.
Awareness of performance difficulties before
they reach crisis proportions.
Correction of performance problems before they
impact financial performance negatively.
Rewards for executives and managers who
identify opportunities and/or methods for prudent and profitable new
business ventures.
Accurate prediction of business variables, so
as to out-perform competitors during both upward and downward
business cycles.
Separating the Best from the Rest
Study after study has shown us that those organizations that have
well designed " incentive plans outperform their competitors. Common
elements of the designs they use are:
An " incentive plan that rewards participants
in direct relation to their contribution to the success of the
organization and their individual performance.
Incentive payouts that are scaled according to levels of impact
on success at the corporate, unit and individual level.
A system that is designed to allow the manager
to measure their own performance.
The design is based on the knowledge that
individual managers like and want to be compensated on the basis of
their own performance.
These organizations know that executives and managers, as well as
sales people, will attach greater importance to identified goals if
they know that a portion of their compensation is based on their
performance in reaching those goals.
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