Managing Variable Pay

Well designed and implemented variable reward or incentive plans, used in the right areas, can be an effective tool for communicating the organisation’s vision and strategy, helping to align organisational and individual employee interests by driving a focus on the key priorities at an organisational, team and individual level.

Badly designed incentive plans, however, or those used in the wrong areas, can have very negative consequences – the opposite of what was intended.

Read on for an overview of our approach to designing and managing effective short term incentive plans that drive individual and organisational performance.

The Role of Short Term Incentives

The form and function of executive and employee reward continues to be the subject of much debate.   Unless fortunate enough to have found our true calling or to be financially independent, most of us do not have the liberty to  present for work without asking for a reasonable salary in return.  From an employers’ perspective, offering a fair level of fixed remuneration makes good sense – in so far as one would hope that the employee then feels obliged to turn up for work on a consistent basis if nothing else!

But what about the role of incentives and variable reward?  So much has been written in recent years about the often counter-intuitive impact of incentive plans, with strong cases made both for and against their use in different circumstances.    Indeed our own research amongst remuneration and reward professionals across Australia found that:

  • 60% of those surveyed believe that a significant incentive opportunity is needed to attract and retain talent; BUT….
  • Few respondents believed that incentive plans are implemented effectively (only 20% agreed); AND….
  • The majority (58%) believe that an overhaul of incentive-based rewards is needed

For a greater insight to the best practice principles click below for further reading.


Desigining Incentive Plans That Work

The prominent traditional way of thinking is that dangling the carrot (the incentive) will drive motivation to achieve desired outcomes.  This thinking is challenged by a growing body of contemporary research which is highlighting a much more complex range of factors impacting human motivation and which may require what we currently consider to be counter-intuitive strategies to positively influence.

We’ve summarised some of the typical types of and objectives of short term incentives below which may assist in determining what type of plan is most likely to suit your specific situation.

Short Term Incentive

Short Term Incentive

  • Based on performance against set  expectations
  • Usually a combination of measures – Corporate, Unit & Individual
  • Goals are communicated in advance

Commission Plan

Commission Plan

  • Rewards individuals and teams for generating sales
  • Usually highly leveraged and paid regularly (monthly, quarterly)
  • Tied into the cost of sales

Gainsharing

Gainsharing

  • Improve productivity & share a portion of gains with employees
  • Builds operational model of performance & business acumen

Profit Share

Profit Share

  • Agreed percentage of profit set in advance
  • Distribution is automatic where a set proportion is delivered
  • Hurdles usually apply and may be incremental profit

Project Incentives

Project Incentives

  • Reward project teams for delivering against specific timelines & outcomes,
  • Often used in construction, infrastructure, IT, product development. etc
  • Usually underpinned by measures of quality, time &  costs

Discretionary Bonuses

Discretionary Bonuses

  • Delivered for past performance based on contribution
  • Enables employees to identify with organisational success
  • Rewards individuals based on the discretion of leaders

There are several design elements that should be worked through when developing incentive plans.  We’ve found that work-shopping each element with a small project team made up of key stakeholders is most effective during the initial development phase, ensuring a rounded and comprehensive view of what’s important and what will be most likely to have the desired impact.

Principles and Objectives

What is it that we’re trying to achieve as a business, business unit or team?  This has to be drawn from a higher order strategic-level review of the function – perhaps it’s to improve the customer experience or to drive operational efficiency for example.

Simply saying that we want to increase sales won’t cut it – don’t we all!

Scope and Participation

Who will participate in the plan and, more importantly, why?  Research shows that in certain circumstances (such as where innovation or creative thought is required) typical incentive plans have the opposite impact of what’s intended.

Priorities and Success Factors

What measures, metrics, checks and balances do we need to consider in the plan design?  What are the priorities and how do the potential measures work together?  What might be considered ‘core’ deliverables, non-negotiables and over-achievements?

We like to use three categories to capture potential inputs which can then be ranked and prioritised;

  • Volume: measures of productivity and output.
  • Value: typical financial measures such as sales results, revenue and profit.
  • Quality: measures such as process compliance and customer satisfaction can fit here.

Process and Administration

The practical side of operating the plan is often overlooked during the design phase and only considered when it comes time to implement.  Do we have the tools and systems in place to enable the reporting and number crunching we’ll need to do or to test the quality-related measures we want to build in?

Implementation Planning

A wise man once said, “Spend 20% of the time in development and 80% on implementing the plan”.  We can’t stress enough the importance of clear and consistent communication, ensuring everyone involved understands the rationale and objectives of what’s being put in place and offering plenty of time to digest the new arrangements before going live.

Think also of post-implementation reviews –  an extension of both the implementation AND design phases.  Depending on the scenario it can be prudent to review after 3, 6 and 12 months to consider whether the plan is in fact having the desired impact.  Qualitative input from the key stakeholder groups should be paired with meaningful quantitative analysis (noting that you’ll likely be looking for correlations to intended performance outcomes rather than expecting to prove a direct impact).

In Summary

Whilst incentive plans may not be the magic bullet for organisations looking to increase productivity or drive performance improvements, we believe there is a genuine benefit to be seen from well-designed and positioned plans.

The best message we can offer is to ensure from the outset that the incentive plan is not seen as a proxy for effective leadership.

Too often, we’ve seen organisations attempt to over-engineer incentive plans expecting to ‘set and forget’ and have the plan cater for all manner of situations that may arise in practice.  The role of incentive plans should be to provide focus on what’s really important from an organisational point of view and to provide a mechanism for those involved to be rewarded.

It’s as simple, and as complicated, as that.

We know that desiging and implementing effective incentive plans can be challenging – we’re here to help.

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