“Pay-for-performance systems are the way to strike the balance,” says Joel Adams, CEO and founder of Devon Consulting. “Tying pay to the value of the output decreases the risk that the employer is paying too much or too little.”
Smart Business talked to Adams about the importance of fair compensation in the workplace.
How can employers decide the best way to compensate their employees?
Every company does it differently, and most companies keep tweaking their plan. Every plan seems to have its benefits and weaknesses. And everyone is paid for performance in one way or another.
Even if everyone is on a straight salary, you pay your best and most experienced people more money because you expect them to accomplish more. The problem with straight salary systems is that the connection with productivity and overall company performance is too loose. Companies can find themselves granting everyone an annual increase while the company is losing money.
What other options do employers have?
In almost every industry, commissions are the norm for the sales staff, while piecework has been used in many production jobs. But for office workers, the service sectors and the entire knowledge-based economy, those models don’t fit very well.
Companies can connect everyone’s compensation to the bottom-line results of the company through profit-sharing plans and stock grants and options. But the weakness there is that employees rarely feel that they, personally, can affect the bottom line enough to make a difference. So those plans have little effect on productivity.
On what kind of performance should we compensate people?
People are complex with multiple needs and motivations. For the most part, they are trying to do what management wants them to do. And compensation is a greater communication tool than a motivational tool.
Say it’s 4:45 p.m. and I really want to get home on time. Which project do I work on? Which piece absolutely must be completed and which one can wait until the next morning? Employees assume that what management is willing to pay for is probably more important than something management is not willing to pay for. The compensation system helps me set priorities.
People also need to be compensated for something they have control over, or at least something that they can affect in a significant way. If they are compensated for something they don’t have control over, then the system is seen as unfair. And the communication tool has been wasted.
So we are constantly looking for things the employee should be doing to help the company achieve its goals, how to measure those things and how we should tie the compensation to them.
Should all pay be based on performance?
No. In fact, the compensation for most jobs needs to have multiple components.
Outside of sales, most people receive the majority of their income from an hourly wage or a base salary. But many people also have a bonus piece in their compensation package. Even if the amount of the bonus is small in relation to the salary, it can be huge as a communication and motivational tool. And getting the bonus piece right or wrong can have an impact on the bottom line far in excess of the amount of the actual bonus.
Your compensation system must support your company’s culture as well as support the process that makes your business model work. For example, if you need great individual performance, the bonus or commission is probably going to be based on the individual hitting his or her goals. Where you have high commission plans, you usually find some star performers. But a high commission plan may not foster a lot of teamwork.
If, on the other hand, you have a development effort such as developing a new product or doing research, where everyone must work as a team, then salary will probably account for most of the compensation and the pay-for-performance piece needs to focus more on team goals and team performance. In many cases, compensation for individual performance can destroy teamwork.
How do you know if your compensation system is a good one?
The company is hitting its goals and the employees are happy. Turnover is low and, probably, at least some of your people are making a whole lot more than their industry peers.
JOEL ADAMS is CEO and founder of Devon Consulting. Reach him at (610) 964-5703 or firstname.lastname@example.org.