A bonus plan can be an extremely effective tool to drive behavioral change and increase business performance, but only if it is focused on the measures that really count. This article outlines the primary design issues that need to be considered in developing an effective bonus arrangement. Clarifying the objective of the bonus arrangement The most rigorous bonus plans should be designed to ensure that every penny is based on performance that has a measurable impact on the bottom line. Who should participate To exclude individuals from any form of incentive arrangement may prove divisive and negate the effects of having such arrangements elsewhere, particularly if the organization is seeking to develop a team culture. Organizations should ensure that participants include those people who can make a difference, and this does not always mean solely management. In some organizations, the most customer-focused individuals are those on the lowest salaries, but they are the very people who help to shape that organization’s reputation in the market – for example, sales assistants. Nature of the bonus Stay bonuses – cash lump sum, payable if the individual remains with the organization until a specified date or event Milestone bonuses – payable on achievement of pre-agreed milestones Performance related incentives – special one-off incentive for key contributors, tied to specific achievements such as reducing costs or meeting project milestones Pension benefits – extension of existing retirement arrangements Forfeitable shares – award of free shares, held in trust and released subject to time constraints and, often, company performance conditions. Frequency of bonus payments Targets and maxima Weightings and objective setting Communication In other words, communication should answer the questions ‘what do I need to do?’ and ‘how much do I get?’ Reprinted with permission from PeopleMatters © 2004 Watson Wyatt Worldwide. For more information, visit www.watsonwyatt.com
The first consideration must be: ‘What is the bonus for?’ It can be anything from a core element of overall remuneration, designed to attract, motivate and retain key individuals (for example, a highly-geared profit and performance-based annual plan) to a ‘nice to have’, for example, a relatively small Christmas bonus for employees, to show appreciation for work done during the year.
In general, those organizations that wish to create a collaborative, inclusive and team-based culture tend to benefit from bonus or other short-term incentive arrangements that are cascaded throughout the organization, albeit to varying degrees, depending on factors such as:
The annual cash bonus continues to be the most common short-term incentive, equity tending to be reserved for more senior levels of management. Increasingly, however, short-term incentives are taking more innovative forms, such as:
It may be appropriate to consider paying bonuses more frequently than annually (for example, quarterly) at certain levels within the organization, in order to motivate staff more effectively at no extra cost. Obviously, sales commissions are typically paid monthly or quarterly.
We would expect each group of participants to have a target and maximum bonus level – it is unusual, although not unknown, for companies in the UK to introduce uncapped bonuses.
Organizations need to determine an appropriate pay philosophy as to where they set base salary and total cash against the market. This requires an analysis of both market base pay and total cash data as well as the target bonus levels that will be required to position employees appropriately
There should be an appropriate mix of corporate financial, divisional, strategic and individual objectives, tailored according to the individual, team or division concerned. Team and individual objectives should take account of ‘line of sight’ issues – the extent to which an individual is really able to influence the outcome of objectives against which he or she is to be measured.
The nature, frequency, quantum and extent of bonus payments are influenced to a large extent by market practice. However, it is important to adopt a holistic approach to managing reward, viewing bonuses in the context of the organization’s needs, stage of development, and total reward strategy. Arguably, this is more important than whether the package offered is completely in line with those offered by comparator companies, some of which may have different ownership, recruitment and retention concerns or be at different stages in their business cycle.
In our experience, communication of bonus plans is often inadequate, focusing too much on plan mechanics. For an incentive arrangement to actually incentivise –to influence behaviors and performance through reward –participants must understand and appreciate:
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