PART FOUR COMPENSATION C H A P T E R T T w e l v e Pay for Performance And Financial Incentives 12 Lecture Outline Strategic Overview Money and Motivation: An Introduction Performance and Pay Motivation and Incentives Behavior Modification / Reinforcement Theory Incentive Pay Terminology Individual Employee Incentives and Recognition Piecework Plans Merit Pay as an Incentive Merit Pay Options Incentives for Professional Employees Recognition—based Awards Supporting Incentives and Recognition Programs with Technology Incentives for Salespeople Salary Plan Commission Plan Combination Plan Setting Sales Quotas Strategic Sales Incentives Team or Group Variable Pay Incentive Plans How to Design Team Incentives Pros and Cons of Team Incentives Organization-Wide Incentive Plans Profit-Sharing Plans Employee Stock Ownership Plan (ESOP) Scanlon and Other Gainsharing Plans At-Risk Variable Pay Plans Incentives for Managers and Executives Short-Term Incentives: The Annual Bonus Long-Term Incentives Other Executive Incentives Strategy and Executive Compensation Designing Effective Incentive Plans Why Incentive Plans Fail How to Implement Incentive Plans Research Insight Incentive Plans in Practice In Brief: This chapter gives an overview of money and motivation, and then outlines different incentive programs that are used for different types of employees. It also discusses organization-wide incentive plans. Interesting Issues: There is tension between the concept of providing employees with a secure, stable income (which some feel allows them the ability to be entrepreneurial and take appropriate risks for the company), and the idea of linking pay directly to performance. Improved employee performance must be linked to improved organizational performance if incentive pay is to be more than just another labor cost. ANNOTATED OUTLINE I. Money and Motivation: An Introduction Frederick Taylor made three contributions in the late 1800s: standards of output defining a fair day’s work, the scientific management approach which emphasized improvement of work methods, and the use of financial incentives for those whose output exceeded standards. A. Performance and Pay – Compensation, shareholder value, and turbulence are factors that characterize business today, and they have produced a renaissance for financial incentive/pay-for-performance plans. B. Motivation and Incentives – The law of individual differences means that people differ in personality, abilities, values, and needs. They therefore react to different incentives in different ways. Several theorists have contributed relevance to designing incentive plans. 1. Frederick Herzberg - hygiene—motivator theory divides needs into two factors. Hygiene factors include such things as working conditions, salary and incentives. Motivators include those factors that make the job more intrinsically motivating, like challenge, feedback and recognition. 2. Edward Deci – found that extrinsic rewards could at times actually detract from the person’s intrinsic motivation 3. Victor Vroom.- says a person’s motivation to exert some level of effort is a function of three things: the person’s expectancy (in terms of probability) that his or her effort will lead to performance; instrumentality, or the perceived connection (if any) between successful performance and actually obtaining the rewards; and valence, which represents the perceived value the person attaches to the reward. C. Behavior Modification / Reinforcement Theory – Psychologist B.F. Skinner proposed that to understand behavior one must understand the consequences of that behavior. Behavior modification means changing behavior through rewards or punishments that are contingent upon performance. D.. Incentive Pay Terminology - Pay for performance plans are those which pay all employees based on the employees’ performance. Variable pay generally refers to a group incentive plan that ties pay to some measure of the firm’s (or facility’s) overall profitability. Know Your Employment Law: Incentives – the employer must comply with the overtime provisions of the Fair Labor Standards Act when designing and administering its incentive plans. Certain bonuses are excludable from overtime pay calculations. The problem is that many other types of incentive pay must be included. ➢ NOTES Educational Materials to Use II. Individual Employee Incentive and Recognition Programs A. Piecework Plans – Piecework is where you pay the worker a sum (piece rate) for each unit he/she produces. Straight piecework entails a strict proportionality between results and rewards regardless of output. With a standard hour plan, the worker gets a premium equal to the percent by which his/her performance exceeds the standard. B. Merit Pay As An Incentive – Merit pay or raise is any salary increase the firm awards to an employee based on his/her individual performance. It is different from a bonus in that it usually becomes part of the employee’s base salary, whereas a bonus is a one-time payment. C. Merit Pay Options – Traditional merit pay plans have two basic characteristics: (1) merit increases are usually granted to employees at a designated time of the year in the form of a higher base salary, and (2) the merit raise is usually based exclusively on individual performance. Two adaptations of merit pay plans are: (1) one awards merit raises in one lump sum once a year and (2) merit awards are tied to both individual and organizational performance (see Table 12-2). D. Incentives for Professional Employees – Professional employees are those whose work involves the application of learned knowledge to the solution of the employer’s problems, such as lawyers, doctors, economists, and engineers. Making incentive pay decisions for professional employees can be challenging because they’re usually paid well anyway. E. Recognition-Based Awards – The term “recognition program” usually refers to formal programs such as employee-of-the-month programs. “Social recognition” programs are more informal manager-employee exchanges, including praise and approval. “Performance feedback” is similar, but provides quantitative or qualitative information on performance in order to change the performance or maintain it. Most employers combine both financial and non-financial incentives to motivate employees. F. Supporting Incentives and Recognition Programs with Technology – There are many reasons to use internet sites to manage awards programs. The sites can offer a much broader range of products than most employers could catalog and offer themselves. And perhaps most importantly, the whole process is expedited— it’s much easier to bestow and deliver the awards. ➢ NOTES Educational Materials to Use III. Incentives for Salespeople A. Salary Plan – offered by some firms. Straight salary makes it simple to switch territories or to reassign salespeople, and it can foster loyalty among the sales staff. A disadvantage is that it can constrict sales and de-motivate potentially high- performing salespeople. B. Commission Plan – pays salespeople for results, and only for results; thus, they tend to attract high-performing sales people who see that effort clearly leads to rewards. But it may cause them to neglect non-selling duties like servicing small accounts, cultivating dedicated customers, and pushing hard-to-sell items. C. Combination Plan – Most companies pay salespeople a combination of salary and commissions, usually with a sizable salary component. Combination plans give salespeople a floor to their earnings, and still provide an incentive for superior performance. But they can become complicated, and misunderstandings can result. D. Setting Sales Quotas – Setting effective quotas is an art. In today’s fast-changing business scene, sales quotas must become more flexible than they have been in the past. 1. An Example: Auto Dealers – Compensation for car salespeople ranges from a high of 100 percent commission to a small base salary with commission accounting for most of total compensation. E. Strategic Sales Incentives – Sales commissions remain popular, but employers increasingly link them to non-volume-based measures. IV. Team / Group Incentive Plans A. How to Design Team Incentives – There are three approaches: 1. Members are paid based on one of three formulas – all members receive the pay (a) earned by the highest producer, (b) earned by the lowest producer, or (c) equal to the average pay earned by the group. 2. Set a production standard based on the final output of the group as a whole. 3. Tie rewards to goals based on some overall standard of group performance. B. Pros and Cons of Team Incentives – A lot of our work today is organized around teams, so team incentives make sense to encourage cooperation and training. But exceptionally hard working employees do not get paid according to their efforts, which may reduce motivation. When You’re On Your Own, HR for Line Managers and Entrepreneurs: Incentives Supervisors Can Use – Most supervisors would not want to rely simply on the employer’s incentive plans to motivate his or her employees. There are a wide variety of things that a supervisor can do. A few are listed in the textbook. ➢ NOTES Educational Materials to Use Teaching Tip – Discuss: If college classes were more like business, what kinds of group incentives could be used to improve student performance in the classroom? What kinds of measures would be needed to implement such incentives? V. Organization-Wide Incentive Plans A. Profit-Sharing Plans involves employees receiving a share of the company’s annual profits. There are several types of profit-sharing plans: cash plans, Lincoln Incentive system, and deferred profit-sharing plans. B. Employee Stock Ownership Plans (ESOP) are company-wide plans in which a firm contributes shares of its own stock or cash to purchase the stock to a trust established to purchase shares of the firm’s stock for employees. C. Scanlon and Other Gainsharing Plans 1. Scanlon Plan – is an incentive plan developed in 1937 by Joseph Scanlon. The basic features of the plan include: philosophy of cooperation, identity, competence, involvement system, and sharing of benefits formula. 2. Gainsharing Plans are incentive plans that engage many or all employees in a common effort to achieve a company’s productivity objectives, with any resulting cost-savings gains shared among employees and the company. Implementing a Plan – The basic eight steps are: 1) establish general plan objectives; 2) define specific performance measures; 3) decide on a funding formula; 4) decide on a method for dividing and distributing the employees’ share of the gains; 5) make the disbursement significant enough to get participants’ attention and to motivate their behavior; 6) choose the form of payment; 7) decide how often bonuses are to be paid; and 8) develop the involvement system. D. At-Risk Variable Pay Plans - are plans that put some portion of the employee’s weekly pay at risk, subject to the firm meeting its financial goals. ➢ NOTES Educational Materials to Use VI. Incentives for Managers and Executives A. Short-Term Incentives: The Annual Bonus – is aimed at motivating the short-term performance of managers and executives. 1. Eligibility usually includes both top and lower level managers. 2. Fund Size refers to the total amount of bonus money the firm makes available. A nondeductible formula is where they use a straight percentage (usually of the company’s net income) to create the short-term incentive fund. A deductible formula assumes that the fund should start to accumulate only after the firm has met a specified level of earnings. 3. Individual Awards – Typically, a target bonus (as well as maximum amount) is set for each eligible position, and the actual award reflects the person’s performance. The HR Scorecard, Strategy and Results: The New Incentive Plan – The Hotel Paris did not have an incentive pay program at all. Lisa Cruz set about creating and implementing an incentive plan that uses many of the concepts listed in this book. B. Long-Term Incentives - are used to inject a long-term perspective into executives’ decisions. 1. Stock Options - account for over half of executives’ compensation. A stock option is the right to purchase a specific number of shares of company stock at a specific price during a specific period of time; the executive thus hopes to profit by exercising his/her option to buy the shares in the future but at today’s price. 2. Broad-based Stock Options – Many companies have implementing broad- based stock option plans in which the potential appreciation is relatively modest, but in which all or most employees can participate. With companies now having to show options as an expense when awarded, some firms are now awarding stock rather than options. 3. Other Plans – Stock appreciation rights permit the recipient to exercise the stock option (by buying the stock) or to take any appreciation in the stock price in cash, stock, or some combination of these. A performance achievement plan awards shares of stock for the achievement of predetermined financial targets. In a restricted stock plan shares are usually awarded without cost to the executive, but selling the stock is restricted for a specified time period. The New Workforce: Long-term Incentives for Overseas Executives – This segment discusses long term incentives and potential tax implications. The message is that firms cannot assume that incentive programs can simply be exported. C. Other Executive Incentives – Companies provide various incentives to persuade executives to remain with the firm, such as golden parachutes and loans. D. Strategy and Executive Compensation – Few HR practices have as profound or obvious an impact on strategic success as the company’s long-term incentives. In creating the compensation package you should: 1) define the strategic context for the executive compensation program, including the internal and external issues that face the company, and the firm’s business objectives; 2) shape each component of the executive compensation package based on your strategic aims, and then group the components into a balanced plan that makes sense in terms of these aims; 3) create a stock option plan that gives the executive compensation package the special character it needs to meet the unique needs of the executives and the company, and its strategy; 4) check the executive compensation plan for compliance with all legal and regulatory requirements and for tax effectiveness; and 5) install a process for reviewing and evaluating the executive compensation plan whenever a major business change occurs. ➢ NOTES Educational Materials to Use VII. Designing Effective Incentive Plans A. Why Incentive Plans Fail – Some explanations include: performance pay can’t replace good management; you get what you pay for; “pay is not a motivator;” rewards punish; rewards rupture relationships; rewards can unduly restrict performance; rewards may undermine responsiveness; rewards undermine intrinsic motivation; and people work for more than money. B. How to Implement Effective Incentive Plans – Some guidelines to follow to make your plan more effective: use common sense; link the incentive with your strategy; make sure effort and rewards are directly related; make the plan easy for employees to understand; set effective standards; view the standard as a contract with your employees; get employees’ support for the plan; use good measurement systems; emphasize long-term as well as short-term success; take the corporate culture into consideration; and adopt a comprehensive, commitment-oriented approach. C. Research Insight: The Impact of Financial and Non-Financial Incentives – In a study of the fast food industry in the Midwest, researchers compared performance over time in stores that had financial and non-financial incentives with those that did not. The results showed that the incentives improved employee and store performance and that the improvements were sustained over time. D. Incentive Plans in Practice – Most companies have several incentive plans. Nucor, the largest steel producer in the United States has the highest productivity, highest wages and lowest labor cost per ton of steel in the American steel industry. ➢ NOTES Educational Materials to Use DISCUSSION QUESTIONS 1. Compare and contrast six types of incentive plans. Various types of incentive plans were presented in the text, including piecework plans, straight and guaranteed plans, standard hour plans, plans for salespersons (commissions and combination plans), and group incentive plans. With the piecework plans, earnings are tied directly to what the individual worker produces, and are more appropriate in a manufacturing organization. Commissions are more appropriate for salespeople in situations where they are largely unsupervised. In-group incentive plans like the Scanlon Plan, all workers involved in developing and implementing cost savings share in the benefits of the suggestions. 2. Explain five reasons why incentive plans fail. When incentive plans fail, it can be for a variety of reasons like: employees do not believe that effort will obtain the reward, bad management overrides the plan, rewards tied to the wrong measures, plan is complicated and difficult for employees to understand, or standards are too high or too low. 3. Describe the nature of some important management incentives. Two widely used management incentive plans are merit pay and profit sharing plans. Merit pay is any salary increase that is awarded to an employee on his or her individual performance. Advocates argue that only pay tied directly to performance can motivate improved performance. Profit sharing plans distribute a portion of the company's profits to employees in the form of a bonus. Research shows that benefits are more subtle than increased productivity—benefits are possibly in the form of better worker commitment. There might also include long-term incentives. 4. When and why would you pay a salesperson a salary and commission combined? Salary plans work well when your objective is prospecting work or where the salesperson is primarily involved in account servicing. They are often found in industries that sell technical products. A commission plan is appropriate when sales costs are proportional to sales. This can reduce the selling investment for fixed costs. The straight commission also provides salespeople with the greatest possible incentive and there is a tendency to attract high-performing people. Combination plans are used when the firm wants to direct its salespeople's activities by detailing what services the salary component is being paid for while the commission component provides a built-in incentive. 5. What is merit pay? Do you think it's a good idea to award employees merit raises? Why or why not? Merit pay is a salary increase that is awarded to an employee based on his or her individual performance. It is a good idea to award merit raises when you have a good performance appraisal system and employees' individual effort can be fairly and accurately evaluated or measured. 6. In this chapter, we listed a number of reasons experts give for not instituting a pay-for- performance plan (such as "rewards punish"). Do you think these points (or any of them) are valid? Why or why not? All of these reasons are, or can be, valid. There will also be organizational situations where one or more of them will not be valid. Students should describe situations in which the reason is (or is not) valid. Some points, like "rewards punish," can be valid if the performance metrics are unclear or unrealistic, leading to employee frustration. However, with well-designed, transparent systems, pay-for- performance can effectively motivate and reward high achievers without negative consequences. 7. What is a Scanlon plan? Based on what you've read in this book so far, what features of a commitment-building program does the Scanlon plan include? This is an incentive plan that was developed in 1937 by Joseph Scanlon. It includes features such as a philosophy of cooperation, identity, competence, involvement, and sharing of benefits. All these are features of a commitment- building program. The Scanlon plan is actually an early version of what today is known as a gainsharing plan. 8. Give four examples of when you would suggest using team or group incentive programs rather than individual incentive programs. Students should review the sections in the chapter on team or group incentive programs and individual incentive programs, and think about situations where they would prefer one incentive plan over the other. Team or group incentive programs are ideal when promoting collaboration, achieving collective goals, improving team-based projects, or fostering a sense of shared responsibility. These programs encourage unity and mutual support, driving group performance over individual achievement. DESSLER COMPANION WEB SITE We invite you to visit the Dessler homepage (http://www.prenhall.com/dessler) on the Prentice Hall Web site for the best online business support available. This site provides professors with a customized course Web site, including new communication tools, one-click navigation of chapter content, and great resources, such as Internet Resources, an HRCI Exam Prep Guide, assessment exercises, and more. INDIVIDUAL AND GROUP ACTIVITIES 1. Working individually or in groups, develop an incentive plan for the following positions: chemical engineer, plant manager, used-car salesperson. What factors did you have to consider in reaching your conclusions? I would give the chemical engineer a merit raise system because he or she has little perceived control or impact over the production or profitability of the company. The plant manager should receive an annual bonus tied to the profitability of the plant, as well as a stock option plan to encourage long-term planning as well. The used-car salesperson would likely receive a straight commission plan because sales are more directly dependent on his or her ability to sell those cars to prospective customers. 2. A state university system in the southeast recently instituted a "Teacher Incentive Program" (TIP) for its faculty. Basically, faculty committees within each university’s college were told to award $5,000 raises (not bonuses) to about 40% of their faculty members based on how good a job they did teaching undergraduates and how many they taught per year. What are the potential advantages and pitfalls of such an incentive program? How well do you think it was accepted by the faculty? Do you think it had the desired effect? This program would put a premium on undergraduate teaching as opposed to research or graduate teaching. If it were to work, the best teachers would be motivated to teach at the undergraduate level in order to increase their earnings. The pitfalls are many. Some research or graduate faculty may actually make more through consulting or other outside means, thus they will not be motivated by this system. If research is important to this organization, or the graduate programs are vital, this incentive plan could damage those programs. The awarding of the moneys is likely to be inconsistent because specific guidelines have not been spelled out. More likely, the rewarding of the raises may become more political as the committees who have other values determine the awards. It is very likely that the system was met with great opposition by the faculty. 3. The HRCI “Test Specifications” appendix at the end of this book lists the knowledge someone studying for the HRCI certification exam needs to have in each area of human resource management (such as in Strategic Management, Workforce Planning, and Human Resource Development). In groups of four to five students, do four things: (1) review that appendix now; (2) identify the material in this chapter that relates to the required knowledge the appendix lists; (3) write four multiple choice exam questions on this material that you believe would be suitable for inclusion in the HRCI exam; and (4) if time permits, have someone from your team post your team’s questions in front of the class, so the students in other teams can take each others’ exam questions. 4. In March 2004, the pension plan of the Utility Workers Union of America proposed changing the corporate bylaws of Dominion Resources, Inc., so that in the future, management had to get shareholder approval of executive pay exceeding $1 million, as well as detailed information about the firm’s executive incentive plans. Many unions—most of which have pension funds with huge investments in U.S. companies—are taking similar steps. They point out that, usually, under Internal Revenue Service regulations, corporations can’t deduct more than $1 million in pay for any of a company’s top five paid executives. Under the new rules the unions are pushing, boards of directors will no longer be able to approve executive pay above $1 million; instead, shareholders would have to vote on it. In terms of effectively running a company, what do you think are the pros and cons of the unions’ recommendations? Would you vote for or against the unions’ recommendation? Why or why not? Most students may support this recommendation, but they need to be able to clearly state rational reasoning as to why. Hopefully you will have some students who oppose it in order to clearly give both sides to the argument. You may want to make sure both sides are well represented. Experiential Exercise: Motivating the Salesforce at Express Auto EXPERIENTIAL EXERCISES & CASES This exercise presents a fictional auto dealership and problems that they are experiencing with customer satisfaction and quality. Students are to analyze the current compensation system to see if it contributes to the problem. 1. In what ways might your group’s compensation plan contribute to the customer services problems? Sales force: pay is based almost entirely on commission. The salesperson has no motivation to assist customers who they do not believe will result in a sale. Finance office: bonuses for getting customers to use the company financing encourage finance people to coerce people into making that choice. Detailing: pay is based entirely on the number of cars detailed per day. There is no measure of quality, nor requirement of it regarding pay. Mechanics: pay is based almost entirely on number of cars serviced as well as servicing them faster than the standard estimated repair time. There is no measurement of quality or accuracy of repairs. Receptionist/phone service people: straight hourly rate does not have any performance rewards. 2. What recommendations would you make to improve the compensation system in a way that would likely improve customer satisfaction? The dealership already has a customer satisfaction survey in place. They need to link results from quality measures to the incentives that their employees receive. Examples are: Sales force: one might decrease the commission somewhat and place that amount in a pool that is distributed based on customer comments about specific sales personnel. Finance office: bonuses for using company financing should be no more than bonuses based on customer satisfaction ratings. Detailing: there must be a measure of quality and detailers should be docked for any problem that results from their lack of attention to detail. Mechanics: re-works should dock a mechanics pay and mechanics whose work results in no complaints should receive a significant bonus. Receptionist/phone service people: those who answer the phone should be able to gain either performance increases in pay, or bonuses based on customer satisfaction ratings. In general, the approach should be like “teaching to the test.” If you want test scores to improve, you teach what will be on the test. If you want measures of customer satisfaction to improve, you reward (or punish) people for those measures. Case Application: Inserting the Team Concept into Compensation – Or Not Sandy Caldwell, the new Human Resources Manager for Hathaway manufacturing, wanted to improve teamwork at every level of the organization. As part of the process of implementing cultural change, Sandy introduced a new pay for performance system. The reaction to the change was immediate and “100 % negative”. 1. Does the pay-for-performance plan seem like a good idea? Why or why not? Management wants to provide incentive for team performance. Their motives are fine. Properly crafted (and with employee involvement) a pay for performance system may add value at Hathaway. 2. What advice would you give Regina and Sandy as they consider their decision? Most scholars suggest that pay for performance works best (in the US), when it has both an individual and a team component. Further, Regina and Sandy need to consider ways of engaging the workforce in the design/decision process. This involvement will likely provide better ideas, identify potential problem areas with proposed systems before they are implemented and aid in the implementation process. 3. What mistakes did they make in adopting and communicating the new salary plan? How might Sandy have approached this major compensation change a little differently? Sandy failed to involve significant stakeholders in the process. Their input would likely have identified potential weaknesses in her system. Further, by not involving others, the change in pay came largely as a surprise. Employees take their pay seriously; surprises are not welcome. Sandy already had agreement on some issues like the mission and the vision. She could have used that agreement to begin a dialog on linking compensation more directly to effectively accomplishing the mission. 4. Assuming the new pay plan was eventually accepted, how would you address the fact that in the new performance evaluation system, employees’ input affects their peers’ pay levels? Typically, plans have two levels – a team component and an individual component. It is important for the team to realize that the company does best when the whole team succeeds, and that team success also requires individual performance. Continuing Case: Carter Cleaning Company The Incentive Plan 1. Should this plan in its present form be extended to pressers in the other stores? No, not in its present form. While the piece-rate plan does make more effective use of Walt’s time and save the company energy money, the quality control issue is a problem. There needs to be an included incentive for quality. 2. Should other employees (cleaner-spotters, counter people) be put on a similar plan? Why? Why not? If so, how, exactly? It makes sense for some positions but not for others. Cleaner-spotters are production employees who could also benefits from a similar plan. It would have to have a quality incentive that makes sure they actually get the garments cleaned correctly! An incentive plan that focuses on customer satisfaction makes more sense for the counter people. 3. Is there another incentive plan you think would work better for the pressers? Some ideas might include combination plans (salary plus piece-rate), profit-sharing, or merit pay (higher pay for those who produce more. 4. A store manager’s job is to keep total wages to no more than 30% of sales and to maintain the fuel bill and the supply bill at about 9% of sales each. Managers can also directly affect sales by ensuring courteous customer service and by ensuring that the work is done properly. What suggestions would you make to Jennifer and her father for an incentive plan for store managers? Profit-sharing, gainsharing, performance plans, annual bonus, recognition, and merit pay are all options. Translating Strategy into HR Policies and Practice Case: The Hotel Paris The New Incentive Plan – The continuing case study of Hotel Paris is discussed here. In this segment HR manager Lisa Cruz must find a way to link pay to performance. 1. Discuss what you think of the measurable criteria Lisa and the CFO set for their new incentive plan. Having a large percentage of employees eligible for merit or incentive is good, but will also be expensive. A 10% difference in reward level will likely motivate improved performance. In order to justify the expense there should be some proof that the behaviors which will be rewarded are linked to improved organizational financial performance. Lisa will need to track and communicate these links. It is also important the Hotel Paris find ways to measure what they plan to reward. 2. Given what you know about the Hotel Paris’ strategic goals, list 3-4 specific behaviors you would incentivize for each of the following groups of employees: front desk clerks; hotel managers; valets; housekeepers. Answers will vary but may include: Front desk clerks – speed of check-in, number of positive comments by guests, decrease in number of complaints Hotel Managers – decrease in absenteeism, process improvements Valets – time taken to deliver luggage from curb to room, decrease in number of wrong deliveries, positive feedback received Housekeepers – decrease in number of complaints, decrease in number of deliveries to room of forgotten items, increase in number of rooms available for early check-in 3. Lay out a complete incentive plans (including all long and short term incentives) for the Hotel Paris’ hotel managers. KEY TERMS law of individual The fact that people differ in personality, abilities, values, and needs. differences expectancy A person’s expectation that his or her efforts will lead to performance. instrumentality The perceived relationship between successful performance and obtaining the reward. valence The perceived value a person attaches to the reward. variable pay Any plan that ties pay to productivity or profitability, usually as one-time lump payments. piecework A system of pay based on the number of items processed by each individual worker in a unit of time, such as items per hour or items per day. straight piecework An incentive plan in which a person is paid a sum for each item he or she makes or sells, with a strict proportionality between results and rewards. standard hour plan A plan by which a worker is paid a basic hourly rate, but is paid an extra percentage of his or her base rate for production exceeding the standard per hour or per day. Similar to piecework payment, but based on a percent premium. merit pay (merit raise) Any salary increase awarded to an employee based on his or her individual performance. team or group incentive A plan in which a production standard is set for a specific work group, plan and its members are paid incentives if the group exceed the production standard. profit-sharing plan A plan whereby most employees share in the company's profits. employee stock A corporation contributes shares of its own stock to a trust in which ownership plan (ESOP) additional contributions are made annually. The trust distributes the stock to employees on retirement or separation from service. Scanlon plan An incentive plan developed in 1937 by Joseph Scanlon and designed to encourage cooperation, involvement, and sharing of benefits. gainsharing plan An incentive plan that engages employees in a common effort to achieve productivity objectives and share the gains. at-risk variable pay plans Plans that put some portion of the employees’ weekly pay at risk, subject to the firm meeting its financial goals. annual bonus Plans that are designed to motivate short-term performance of managers and are tied to company profitability. stock option The right to purchase a stated number of shares of a company stock at today's price at some time in the future. golden parachutes Payments companies make in connection with a change in ownership or control of a company. financial incentives financial rewards paid to workers whose production exceeds some predetermined standard fair day’s work standards of output which employers should devise for each job based on careful, scientific analysis scientific management A management approach that emphasized improving work methods movement through observation and analysis. Behavior modification Changing behavior through rewards or punishments that are contingent upon performance. Organization wide Plans in which all or most employees can participate, and which incentive plans generally tie the reward to some measure of company-wide performance. PowerPoint Presentation by Charlie Cook The University of West Alabama 1 Human Resource Management ELEVENTH EDITION G A R Y D E S S L E R Pay for Performance and Financial Incentives Chapter 12 Part 4 | Compensation 12–2 After studying this chapter, you should be able to: 1. Discuss the main incentives for individual employees. 2. Discuss the pros and cons of incentives for salespeople. 3. Name and define the most popular organizationwide variable pay plans. 4. Describe the main incentives for managers and executives. 5. Outline the steps in developing effective incentive plans. 12–3 Motivation, Performance, and Pay • Incentives ➢Financial rewards paid to workers whose production exceeds a predetermined standard. • Frederick Taylor ➢Popularized scientific management and the use of financial incentives in the late 1800s. ❖Systematic soldiering ❖Fair day’s work 12–4 FIGURE 12–1 Employee Preferences for Noncash Incentives Source: Darryl Hutson, “Shopping for Incentives,” Compensation and Benefits Review, March/April 2002, p. 76. Reprinted with permission of Sage Publications, Inc. 12–5 Motivation and Incentives • Herzberg’s Hygiene–Motivator theory ➢Hygienes (extrinsic job factors) ❖ Inadequate working conditions, salary, and incentive pay can cause dissatisfaction and prevent satisfaction. ➢Motivators (intrinsic job factors) ❖ Job enrichment (challenging job, feedback, and recognition) addresses higher-level (achievement, self-actualization) needs. ➢The best way to motivate someone is to organize the job so that doing it helps satisfy the person’s higher- level needs. 12–6 Motivation and Incentives (cont’d) • Edward Deci ➢Intrinsically motivated behaviors are motivated by the underlying need for competence and self- determination. ➢Offering an extrinsic reward for an intrinsically- motivated act can conflict with the acting individual’s internal sense of responsibility. ➢Some behaviors are best motivated by job challenge and recognition, others by financial rewards. 12–7 Motivation and Incentives (cont’d) • Victor Vroom’s Expectancy Theory ➢Motivation is a function of: ❖ Expectancy: that effort will lead to performance. ❖ Instrumentality: the connection between performance and the appropriate reward. ❖ Valence: the value the person places on the reward. ➢Motivation = E x I x V ❖ If any factor (E, I, or V) is zero, then there is no motivation to work toward the reward. ❖ Employee confidence building and training, accurate appraisals, and knowledge of workers’ desired rewards can increase employee motivation. 12–8 Motivation and Incentives (cont’d) • Behavior Modification/Reinforcement Theory ➢B. F. Skinner’s Principles ❖ To understand behavior one must understand the consequences of that behavior. ❖ Behavior that leads to a positive consequence (reward) tends to be repeated, while behavior that leads to a negative consequence (punishment) tends not to be repeated. ❖ Behavior can be changed by providing the properly scheduled rewards (or punishments). 12–9 Employee Incentive Plans Individual Employee Incentive and Recognition Programs Sales Compensation Programs Organizationwide Incentive Programs Executive Incentive Compensation Programs Team/Group-based Variable Pay Programs Pay-for-Performance Plans 12–10 Individual Incentive Plans • Piecework Plans ➢The worker is paid a sum (called a piece rate) for each unit he or she produces. ❖Straight piecework ❖Standard hour plan 12–11 Individual Incentive Plans (cont’d) • Pros and Cons of Piecework ➢Easily understandable, equitable, and powerful incentives ➢Employee resistance to changes in standards or work processes affecting output ➢Quality problems caused by an overriding output focus ➢Possibility of violating minimum wage standards ➢Employee dissatisfaction when incentives either cannot be earned or are withdrawn 12–12 Individual Incentive Plans (cont’d) • Merit Pay ➢A permanent cumulative salary increase the firm awards to an individual employee based on his or her individual performance. • Merit Pay Options ➢Annual lump-sum merit raises that do not make the raise part of an employee’s base salary. ➢Merit awards tied to both individual and organizational performance. 12–13 TABLE 12–1 Lump-Sum Award Determination Matrix (an Example) To determine the dollar value of each employee’s incentive award: (1) multiply the employee’s annual, straight-time wage or salary as of June 30 times his or her maximum incentive award and (2) multiply the resultant product by the appropriate percentage figure from this table. Example: if an employee had an annual salary of $20,000 on June 30 and a maximum incentive award of 7% and if her performance and the organization’s performance were both “excellent,” the employee’s award would be $1,120 ($20,000 × 0.07 × 0.80 = $1,120). The Company’s Performance (Weight = 0.50) The Employee’s Performance Rating (Weight = .50) Outstanding Excellent Good Marginal Unacceptable Outstanding 1.0 0.9 0.8 0.7 0.0 Excellent 0.9 0.8 0.7 0.6 0.0 Good 0.8 0.7 0.6 0.5 0.0 Marginal — — — — — Unacceptable — — — — — 12–14 Individual Incentive Plans (cont’d) • Incentives for Professional Employees ➢Professional employees are those whose work involves the application of learned knowledge to the solution of the employer’s problems. ❖Lawyers, doctors, economists, and engineers • Possible Incentives ➢Bonuses, stock options and grants, profit sharing ➢Better vacations, more flexible work hours ➢Improved pension plans ➢Equipment for home offices 12–15 Individual Incentive Plans (cont’d) • Recognition-Based Awards ➢Recognition has a positive impact on performance, either alone or in conjunction with financial rewards. ➢Day-to-day recognition from supervisors, peers, and team members is important. • Ways to Use Recognition ➢Social recognition ➢Performance-based recognition ➢Performance feedback 12–16 Individual Incentive Plans (cont’d) • Online Award Programs ➢Programs offered by online incentives firms that improve and expedite the awards process. ❖ Broader range of awards ❖ More immediate rewards • Information Technology and Incentives ➢Enterprise incentive management (EIM) ❖ Software that automates planning, calculation, modeling, and management of incentive compensation plans, enabling companies to align their employees with corporate strategy and goals. 12–17 Incentives for Salespeople • Salary Plan ➢Straight salaries ❖ Best for: prospecting (finding new clients), account servicing, training customer’s salesforce, or participating in national and local trade shows. • Commission Plan ➢Pay is a percentage of sales results. ❖ Keeps sales costs proportionate to sales revenues. ❖ May cause a neglect of nonselling duties. ❖ Can create wide variation in salesperson’s income. ❖ Likelihood of sales success may be linked to external factors rather than to salesperson’s performance. ❖ Can increase turnover of salespeople. 12–18 Incentives for Salespeople (cont’d) • Combination Plan ➢Pay is a combination of salary and commissions, usually with a sizable salary component. ➢Plan gives salespeople a floor (safety net) to their earnings. ➢Salary component covers company-specified service activities. ➢Plans tend to become complicated, and misunderstandings can result. 12–19 Specialized Combination Plans • Commission-plus-Drawing-Account Plan ➢Commissions are paid but a draw on future earnings helps the salesperson to get through low sales periods. • Commission-plus-Bonus Plan ➢Pay is mostly based on commissions. ➢Small bonuses are paid for directed activities like selling slow-moving items. 12–20 Setting Sales Quotas • Should quotas be locked in for a period of time? • Have quotas been communicated to the salesforce within one month of the start of the period? • Does the salesforce know exactly how its quotas are set? • Do you combine bottom-up information (like account forecasts) with top- down requirements (like the company business plan)? • Do 60% to 70% of the salesforce generally hit their quota? • Do high performers hit their targets consistently? • Do low performers show improvement over time? • Are quotas stable through the performance period? • Are returns and debookings reasonably low? • Has your firm generally avoided compensation-related lawsuits? • Is 10% of the salesforce achieving higher performance than previously? • Is 5% to 10% of the salesforce achieving below quota performance and receiving coaching? 12–21 Team/Group Incentive Plans • Team (or Group) Incentive Plans ➢Incentives are based on team’s performance. • How to Design Team Incentives ➢Set individual work standards. ➢Set work standards for each team member and then calculate each member’s output. ➢Members are paid based on one of three formulas: ❖ All receive the same pay earned by the highest producer. ❖ All receive the same pay earned by the lowest producer. ❖ All receive the same pay equal to the average pay earned by the group. 12–22 Team/Group Incentive Plans (cont’d) • Pros ➢Reinforces team planning and problem solving ➢Helps ensure collaboration ➢Encourages a sense of cooperation ➢Encourages rapid training of new members • Cons ➢Pay is not proportionate to an individual’s effort ➢Rewards “free riders” 12–23 Organizationwide Incentive Plans • Profit-Sharing Plans ➢Cash plans ❖ Employees receive cash shares of the firm’s profits at regular intervals. ➢The Lincoln incentive system ❖ Profits are distributed to employees based on their individual merit rating. ➢Deferred profit-sharing plans ❖ A predetermined portion of profits is placed in each employee’s account under a trustee’s supervision. 12–24 Organizationwide Incentive Plans (cont’d) • Employee Stock Ownership Plan (ESOP) ➢A firm annually contributes its own stock—or cash (with a limit of 15% of compensation) to be used to purchase the stock—to a trust established for the employees. ➢The trust holds the stock in individual employee accounts and distributes it to employees upon separation from the firm if the employee has worked long enough to earn ownership of the stock. 12–25 Advantages of ESOPs • The Company ➢Can take a tax deduction equal to the fair market value of the shares transferred to the ESOP trustee. ➢Gets an income tax deduction for dividends paid on ESOP-owned stock. ➢Can borrow against ESOP in trust and then repay the loan in pretax rather than after-tax dollars. 12–26 Advantages of ESOPs (cont’d) • Employees ➢Develop a sense of ownership in and commitment to the firm. ➢Do not pay taxes on ESOP earnings until they receive a distribution. • Shareholders of Closely-Held Corporations ➢Can place assets into an ESOP trust which will allow them to purchase other marketable securities to diversify their holdings. 12–27 Gainsharing Plans Philosophy of Cooperation Involvement Identity System Scanlon Plan Competence Sharing of Benefits Formula 12–28 Implementing a Gainsharing Plan 1. Establish general plan objectives. 2. Choose specific performance measures. 3. Decide on a funding formula. 4. Decide on a method for dividing and distributing the employees’ share of the gains. 5. Choose the form of payment. 6. Decide how often to pay bonuses. 7. Develop the involvement system. 8. Implement the plan. 12–29 At-Risk Variable Pay Plans • Put some portion of the employee’s weekly pay at risk. ➢If employees meet or exceed their goals, they earn incentives. ➢If they fail to meet their goals, they forgo some of the pay they would normally have earned. 12–30 Incentives for Managers and Executives • Short-Term Incentives: The Annual Bonus ➢Plans that are designed to motivate short-term performance of managers and are tied to company profitability. • Issues in Awarding Bonuses ➢Eligibility basis ➢Fund size basis ➢Individual awards 12–31 TABLE 12–2 Multiplier Approach to Determining Annual Bonus Company’s Performance (Based on Sales Targets, Weight = 0.50) Individual Performance (Based on Appraisal, Weight = .50) Excellent Good Fair Poor Excellent 1.0 0.9 0.8 0.7 Good 0.8 0.7 0.6 0.5 Fair 0.0 0.0 0.0 0.0 Poor 0.0 0.0 0.0 0.0 Note: To determine the dollar amount of a manager’s award, multiply the maximum possible (target) bonus by the appropriate factor in the matrix. 12–32 Creating an Executive Compensation Plan 1. Define the strategic context for the executive compensation program. 2. Shape each component of the package to focus the manager on achieving the firm’s strategic goals. 3. Check the executive compensation plan for compliance with all legal and regulatory requirements and for tax effectiveness. 4. Install a process for reviewing and evaluating the executive compensation plan whenever a major business change occurs. 12–33 Why Incentive Plans Fail • Performance pay can’t replace good management. • You get what you pay for. • “Pay is not a motivator.” • Rewards punish. • Rewards rupture relationships. • Rewards can have unintended consequences. • Rewards may undermine responsiveness. • Rewards undermine intrinsic motivation. 12–34 Incentives for Managers and Executives (cont’d) • Long-Term Incentives ➢Cash ➢Stock options ➢Stock appreciation rights ➢Performance achievement plans ➢Restricted stock plans ➢Phantom stock ➢Golden parachutes ➢Guaranteed loans 12–35 How to Implement Effective Incentive Plans 1. Ask: Is effort clearly instrumental in obtaining the reward? 2. Link the incentive with your strategy. 3. Make sure effort and rewards are directly related. 4. Make the plan easy for employees to understand. 5. Set effective standards. 6. View the standard as a contract with your employees. 7. Get employees’ support for the plan. 8. Use good measurement systems. 9. Emphasize long-term as well as short-term success. 10. Adopt a comprehensive, commitment-oriented approach. 12–36 HR Activities that Build Commitment • Clarifying and communicating the goals and mission of the organization. • Guaranteeing organizational justice. • Creating a sense of community by emphasizing teamwork and encouraging employees to interact. • Supporting employee development by emphasizing promotion from within, developmental activities, and career-enhancing activities. • Generally committing to being supportive of employees. 12–37 TABLE 12–3 Express Auto Compensation System Express Auto Team Responsibility of Team Current Compensation Method 1. Sales force Persuade buyer to purchase a car. Very small salary (minimum wage) with commissions. Commission rate increases with every 20 cars sold per month. 2. Finance office Help close the sale; persuade customer to use company finance plan. Salary, plus bonus for each $10,000 financed with the company. 3. Detailing Inspect cars delivered from factory, clean, and make minor adjustments. Piecework paid on the number of cars detailed per day. 4. Mechanics Provide factory warranty service, maintenance, and repair. Small hourly wage, plus bonus based on (1) number of cars completed per day and (2) finishing each car faster than the standard estimated time to repair. 5. Receptionists/phone service personnel Primary liaison between customer and salesforce, finance, and mechanics. Minimum wage. 12–38 K E Y T E R M S financial incentives fair day’s work scientific management expectancy instrumentality valence behavior modification variable pay piecework straight piecework standard hour plan merit pay (merit raise) team or group incentive plan organization wide incentive plans profit-sharing plan employee stock ownership plan (ESOP) Scanlon plan gainsharing plan at-risk variable pay plans annual bonus stock option golden parachutes Solution Manual for Human Resource Management Gary Dessler 9780133029864, 9789353942205, 9780135226803, 9780136089964, 9780134235455, 9780130141248, 9780131746176
Download
Close
Close
