Why a strong incentive programme brings genuine ROI to your company
Incentive or ‘pay for performance’ programmes provide a disciplined way to motivate staff to achieve their best, they add to the overall proposition for attracting and retaining talent and they enable companies to optimise the value and cost of their workforce, according to Eungchang Lee, Senior Consultant in Rewards at Willis Towers Watson.
Yet not everyone is in agreement. More than 20 years ago the Harvard Business Review (HBR) published a series of articles on this very topic and drew the conclusion that rewards do not create a lasting commitment. So does that still hold? And isn’t the type of rewards programme the key issue?
Here at Willis Towers Watson we see time and time again that a well-designed incentive plan is a useful tool for driving performance and improving business success. What makes the difference is the thought and planning that goes into the design of the incentive scheme.
The obvious objective of incentives is to motivate employees to perform to the best of their ability and, therefore, to contribute to the overall success of the company. But there are other benefits, more subtle than simply ‘bribing’ employees to try their best. As shown in the Willis Towers Watson 2016 Long-term Incentives, Policies and Practices report, which is based on a survey of 900 organisations, the majority of companies use incentives to fulfil five main objectives:
1. Retain key employees:
Salary alone is not always enough to make your top talent feel their continued efforts are worthwhile. Other factors come into play, such as opportunities for learning and development or an inspiring working environment. So a reward scheme that makes your key employees feel valued can be very effective in preventing them from looking elsewhere for the next challenge.
2. Align rewards with shareholder expectations:
Each company has multiple levels of values, goals and objectives–whether they are those of the employee, the department, or the organisation as a whole. Incentives encourage employees to look beyond their own silo and understand the importance of their role within the company. This gives genuine meaning to the company’s vision and objectives at every level, by creating a clear line of sight between those objectives and each employee’s own performance.
3. Link personal reward to organisational success:
By providing that clear line of sight between the company’s objectives and the employee’s role in achieving them, employees are encouraged to share in the successes and failures of the organisation, which in turn helps to encourage desired behaviours. An attractive base salary with no rewards for performance can lead to a culture of entitlement, with employees believing that they deserve full pay whether or not they meet their objectives. By shifting to a more performance-related cost structure, this ‘entitlement mentality’ is diminished.
4. Provide wealth accumulation opportunities:
As well as giving employees the power to control their earnings, incentive schemes provide companies with greater financial flexibility to substantially reward ‘star’ performers.
5. Deliver market competitive total compensation:
Reward programmes, when added to other compensations such as salary and commission, can be used to increase the competitiveness of a company’s total compensation package, and thus help to attract top talent. In addition to the rewards promised for high achievement, top talent will be attracted by companies that are seen to be encouraging excellence, so the very existence of an incentive scheme is attractive.
Getting the most from incentives
How can you design your incentive scheme so that it aptly recognises employee efforts and ensures business success? Here are my five top tips:
1. Build on theory:
We often ask our clients to approach their incentive planning by first considering a series of theoretical questions, such as: what are the necessary preconditions for incentives to be successful? Can incentives generate behavioural change in your business, or would they merely be a tool for communication and an opportunity to introduce variability to employee costs? When would incentives be appropriate versus other programmes?
Questions like these can really help to define the role incentives could play in your company and how they can contribute to its success. This brings us nicely to tip number two.
2. Define success:
Incentive plans should be designed to support the success of the company, but what exactly is success? You should define this for the organisation and your employees, because the definition is unique to both.
Acknowledging expectations helps to decide what design approach is most appropriate and may even cause a fundamental shift in how you decide to measure and recognise employee performance. For example, if the definition of success is very quantifiable, a more value-based approach may be required. However, where success is defined more by strategic and qualitative measures, a more traditional approach to incentive design could be used.
3. Tailor it:
The optimal design of an incentive depends on factors within the company, such as business priorities and talent mix, but also within the market, such as its competitiveness and expected best practices. When tailoring, it is sometimes easier to consider potential pitfalls within certain incentive themes. For example:
- Compensation – how do you make sure incentives differentiate meaningfully for high performers?
- Financial – what do you do if the return on investment into incentives is below expectations?
- Strategic – what happens if the business strategy changes and the incentives no longer support it?
4. Mix it up:
Don’t hang everything on one type of incentive, but instead consider a mix of the following:
- Base pay – develop a base pay offering that aligns with the job type and provides a clearly defined salary structure. It’s advisable to keep these in line with market trends.
- Short-term incentives (annual) – these should aim to maintain employee engagement, align the employee performance goals with business objectives, and reward employees for both individual and company success throughout the year. As a general rule, a short-term incentive plan should award average performers with a total cash incentive that is within the 50th percentile. Reserve the 75th percentile for high performers. You can also help the employee’s line of sight by being clear on the financial performance measures. The most common ones, according to our 2015-2016 Global Executive Incentive Design Survey (GEIDS), are pre-tax bottom-line (53 per cent), post-tax bottom line (39 per cent) and top line (36 per cent).
- Long-term incentives (LTI) – these should aim to keep the employee and business goals aligned over the long run, while also attracting talent that is critical to meeting future business needs. To do this, develop a diverse strategy that uses a mix of long-term incentives to recognise performance even when times are tough. Also keep awards consistent to the individual’s role. As an example, in the 2015-2016 GEIDS, 56 per cent of the average LTI portfolio for CEOs was performance-based (shares or cash), but for the professional employees this dropped to 27 per cent. These workers were far more likely to be offered a fixed stock. But keep in mind that this greatly affects the value of the award being offered. After all, a fixed number of shares could significantly vary in value, depending on a rise or fall in share price.
5. Maintain flexibility:
The previous example highlights the need for companies to maintain the right to keep incentives reasonably flexible. For example, there may be a need to substantially reward ‘star’ employees during times of unforeseen shifts in the business environment that make it difficult for them to achieve the desired performance. This practice appears fairly common. The 2015-2016 GEIDS found that 11 per cent of employers had ‘overridden’ their incentive plans to allow a bonus to be paid or even increased, even though the desired performance was not met.
The complete reward package
There is plenty of evidence to support the belief that a well-designed incentive programme can bring great success to a business, but it’s important to remember that incentives are just one element of a total compensation package. Cash isn’t the only motivator. The type of employee who will be most beneficial to your business is concerned about a wider range of factors, including health insurance, perks and the working environment.
It is this combination of attributes that serves to retain and attract talent – and it’s talent that ultimately brings success.