At least 98% of company’s today state that they have a pay for performance compensation philosophy. Pay for performance is so commonplace that it has become absolutely meaningless to employees and does not give companies a competitive advantage when it comes to attracting or motivating talented employees. Yes, I believe pay for performance is dead and has been for a long time! I believe this is true even in companies that purport to have it and use it effectively. Why is this true?The following four paragraphs explain why pay for performance just does not engage today’s top talent to drive business results.
In most companies today, the highest rewards go to those employees who are best at predicting what they can achieve, rather than the employees who achieve the greatest positive impact on the business. Put another way, managers and employees who set real stretch goals and miss are often penalized because they fell short on their goals. Whereas, managers and employees who set low goals increase their chances of exceeding expected performance and receiving significant rewards.
We have seen numerous top executives receive extremely high pay even when their companies go out of business. Most top executives believe they should be paid top dollar for their past performance and potential to impact their new company. Thus, many executives receive guaranteed cash flow from annual incentive plans and equity awards that are not based on their individual positive results. They receive highly competitive pay for any level of performance, so they are not really motivated to take risks and drive positive results.
Traditional base pay practices reward mediocrity because they focus on annual merit not the on-going value of an employee. Traditional base pay programs reinforce mediocrity by giving almost everyone a small base pay increase every year. At best, top performers get 1% to 2% more than average performers which is not enough to differentiate. These traditional approaches treat everyone the same regardless of importance to the success of the company, thus mediocre employees stay with the company, whereas top talent leave after a short stay because they do not feel valued by the company.
In many companies, sales incentive plans are designed to rewards sales professionals for achieving their assigned quota, which is usually determined by the top sales leader. Top sales leaders are usually more concerned with maximizing their own pay than company performance. Thus, many sales professionals receive target cash compensation while the company achieves mediocre performance.
How can we fix this problem?
A good starting place is establishing a dynamic compensation philosophy aligned with the company’s vision and business strategies, which would rejuvenate true pay for performance. You also need to develop meaningful rewards strategies and guiding principles that bring your philosophy to life with your employees. Your rewards strategies and guiding principles need to articulate to employees how they will be rewarded for their achievements that impact the success of the business. You need to develop a unique compensation philosophy, rewards strategies and guiding principles that give your company a competitive advantage. When you articulate your compensation philosophy supported by meaningful rewards strategies and guiding principles, you also make your employment brand more robust and attractive to talented employees.
The following is an example of a new-era compensation philosophy, rewards strategies and guiding principles.
A dynamic compensation philosophy should be something like “Reward Success” or “Pay for Results”. To support a new-era compensation philosophy the following chart displays six vital rewards strategies and accompanying guiding principles necessary to make it meaningful for employees and your employment brand.
Once you establish your compensation philosophy, rewards strategies and guiding principles, you need to design your performance and rewards practices to bring them to life throughout your company. No more one-size fits all traditional compensation practices. Managers need to be empowered with a new paradigm for engaging their employees to drive business results. Goal completion should not be used as the ultimate criteria for success and rewards. Goals need to be tied to specific metrics and outcomes that truly predict the future success of the company.
For more details regarding the design of effective performance and rewards practices, look for my upcoming blogs titled, Performance Optimization… and Reward People Right!
I completely agree on this one Tim! Mostly it is an exercise that
looks good on paper to those who really do not understand driving
engagement across/throughout the business, but rewarding on a more superficial “one-off” basis.
I wonder about the impact on your “average” employees. Is there any risk of backfiring and de-motivating the “B” players who still come to work every day and get the basic work done?
Is the idea that this will motivate those people to move them out of their complacency?
I also think that companies need to be ready to handle the drive they unleash (and that is a good thing!)
Brent, this is a great question. The following points will set up my answer to your question.
1. The Mckinsey Global Institute published a study a few months ago titled, The Changing fortunes of American Workers. The study stated that seventy-one percent of US workers are in jobs for which there is low employer demand, an over supply of qualified workers, or both. What this tells me is that for a large population of jobs, we have low demand and high supply.
2. To ensure we are using the same language about employees, I place employees into 3 groups:
A Players = Top performers who deliver business results.
B Players = Aspire to be A Players
C Players = Mediocre employees
3. We have all heard that the top 20% of your employees do 80% of the work. The next 50% of your employees must do the remaining 20% of the work. So, what is the bottom 30% of your workforce really doing? I bet they are creating more work for the top 70% of your workforce.
So, my answer to your question is “yes”, if you design and implement effective performance and reward practices you will not de-motivate your A or B Players. With a pay for results philosophy, everyone has a chance to win and get fulfillment and rewards from their work and great results. If you hire A and B Players and move out the C Players you have a great chance of building a high-performance and accountable culture. Once you get your high-performance culture revved up, it becomes contagious. I actually believe some C Players will get the message too…
I agree that companies that adopt a pay for results philosophy need to be ready to handle the drive they unleash. I have actually seen a mediocre company become a high-performing company in a very short time frame. And, you better make sure your middle managers are ready for the challenge!
Let me close by saying that a pay for results philosophy is not for every company…
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