I began a discussion on compensation here by addressing 2 of the 3 primary objectives I believe compensation should have: 1) attract, 2) retain and 3) motivate talent. In this post, I would like to focus on the last point.
Most compensation can be divided up into salary, bonus and benefits. Salary doesn’t motivate much beyond showing up each day for work since it is a fixed amount that is only tenuously connected to performance (perform, get a raise, don’t perform, lose your job). I would argue that the base salary really serves best to attract and retain talent with a secure source of income.
Benefits, a.k.a. perks including health insurance and beyond, are also key to attract and retain talent, especially since an innovative combination of benefits can provide employees with more satisfaction at lower cost to the employer. I don’t want to spend a lot of time now trying to make the case for what kinds of benefits an employer should offer (although that could be something worth mulling over). Instead, I want to focus on how bonuses could be better used to motivate people.
Bonuses can be an effective tool for performance based compensation. The better you do, the more you get paid as a bonus (something extra). So what are the behaviors a company should try to motivate?
Start with the company’s strategic objectives and success metrics then solve back to the individual drivers of that success. Objectives and metrics must be clear and mutually understood. Sales commissions are an easy example, although sometimes they misalign to individual’s success rather than company’s collective success. Remember, optimizing for the components does not necessarily optimize the system so there needs to be a balance between incentives for the individual, smaller organizational units and the entire firm.
The more closely a company can tie a bonus to a behavior, the more effective it will be as a motivator. Bonus schemes also need to guard against people gaming the system, e.g. options backdating, so only true performance is being rewarded.
The familiar bonus yearend schemes are too blunt an instrument. The most basic is the yearend bonus, paid in cash, stock or some combination. In most cases, the individual’s performance is diluted by the company’s overall performance, which in turn can depend on the economic environment.
I think bonuses can be much more effective and targeted. What about using peer financial awards? Empower your employees to award a coworker $10 for lending a hand on a tough challenge. Let them give out $50 once every so often to someone who consistently goes the extra mile and defines team player. The actual amount doesn’t have to be much to have an impact, and recipients can enjoy the concomitant satisfaction of peer esteem.
Don’t wait for year end. Make it easy to give an award when the behavior to be rewarded is first observed. Enter a sentence or two for a small award, a longer description for a larger one, then systematically send a notification to the individuals and managers involved. At the end of the year, these award can be additional data points going into the usual year end performance review process.
Yearend bonuses still make sense since companies operate on a yearlong fiscal calendar, but these should reward collective success. Use the individual yearend performance review for promotions and raises. (Then again, why wait until yearend, why not assess promotions quarterly?) Also, consider using something other than profitability to measure collective success. Employees may feel profitability is too far out of their control. When Gordon Bethune wanted to take Continental from Worst to First, he created an ontime bonus that everyone shared in, not just the ground crew or the gate agents.
Some companies, such as Netflix, have completely eschewed bonuses, but I don’t entirely agree with this. A well designed bonus scheme can help make wages more flexible and responsive (in economic terms, less sticky), effectively cutting wages when the going gets tough and averting the need to lay off staff. What’s needed is a more targeted combination of salary, benefits and bonuses aligning the success vectors of the individuals, organizational teams, and the company.