Pay-for-Performance:

Incentive Rewards
Human Resource
Managing
Human Resources
Management
14 edition
Bohlander Snell

14th edition

Snell Bohlander
2007 Thomson/South-Western.
All rights reserved.

PowerPoint Presentation by Charlie Cook

The University of West Alabama

Objectives
After studying this chapter, you should be able to:
1. Discuss the basic requirements for successful
implementation of incentive programs.
2. Identify the types of, and reasons for
implementing, individual incentive plans.
3. Explain why merit raises may fail to motivate
employees adequately and discuss ways to
increase their motivational value.
4. Indicate the advantage of each of the
principal methods used to compensate
salespeople.
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Objectives

(contd)
After studying this chapter, you should be able to:
5. Differentiate how gains may be shared with
employees under the Scanlon, Rucker, and
Improshare gainsharing systems.
6. Differentiate between profitsharing plans and
explain advantages and disadvantages of
these programs.
7. Describe the main types of ESOP plans and
discuss the advantages of ESOP to
employers and employees.

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Strategic Reasons for Incentive Plans

Variable Pay
Tying pay to some measure of individual, group, or
organizational performance.

Incentive Pay Programs

Establish a performance threshold to qualify for
incentive payments.
Emphasize a shared focus on organizational
objectives.
Create shared commitment in that every individual
contributes to organizational performance and
success.
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Figure 101

Types of Incentive Plans

INDIVIDUAL

GROUP

ENTERPRISE

Piecework

Team compensation

Profit sharing

Standard hour plan

Scanlon Plan

Stock options

Bonuses

Rucker Plan

Merit pay

Improshare

Lump-sum merit pay

Earnings-at-risk
plans

Employee
stock
ownership
plans (ESOPs)

Incentive awards
Sales incentives
Incentives for
professional
employees
Executive
compensation

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Incentive Plans as Links to

Organizational Objectives
Incentive Plan Purposes
Encourage employees to assume ownership of their
jobs, thereby improving effort and job performance.
Motivate employees to expend more effort than under
hourly and/or seniority-based compensation systems.
Support a compensation strategy to attract and retain
top-performing employees.

Incentive Plan Effectiveness

There is evidence of a relationship between incentive
plans and improved organizational performance.
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Figure 102

Advantages of Incentive Pay Programs

Incentives focus employee efforts on specific performance targets. They

provide real motivation that produces important employee and
organizational gains.
Incentive payouts are variable costs linked to the achievement of results.
Base salaries are fixed costs largely unrelated to output.
Incentive compensation is directly related to operating performance. If
performance objectives (quantity and/or quality) are met, incentives are
paid. If objectives are not achieved, incentives are withheld.
Incentives foster teamwork and unit cohesiveness when payments to
individuals are based on team results.
Incentives are a way to distribute success among those responsible for
producing that success.
Incentives are a means to reward or attract top performers when salary
budgets are low.

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Employee Opposition to Incentive

Plans

Production standards are set unfairly.

Incentive plans are really work speedup.
Incentive plans create competition among
workers.
Increased earnings result in tougher standards.
Payout formulas are complex and difficult to
understand.
Incentive plans cause friction between
employees and management.
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Successful Incentive Plans

Employees have a desire for an incentive plan.
Employees are encouraged to participate.
Employees see a clear connection between the incentive
payments they receive and their job performance.
Employees are committed to meeting the standards.
Standards are challenging but achievable.
Payout formulas are simple and understandable.
Payouts are a separate, distinct part of compensation.

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Highlights in HRM 1
Assessing Incentive Program Effectiveness

Source: Christian M. Ellis and Cynthia L. Paluso, Blazing a Trail to Broad-Based Incentives, WorldatWork
Journal 9, no. 4 (Fourth Quarter 2000): 3341. Used with permission, WorldatWork, Scottsdale, Arizona.

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Highlights in HRM 2
Setting Performance MeasuresThe Keys
Performance measuresat all organizational levels
must be consistent with the strategic goals of the
organization.
Define the intent of performance measures and
champion the cause relentlessly.
Involve employees.
Consider the organizations culture and workforce
demographics when designing performance measures.
Widely communicate the importance of performance
measures.
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Effective Incentive Plan Administration

Grant incentives based on individual
performance differences.
Have the financial resources to reward
performance.
Set clearly defined, accepted, and challenging
yet achievable performance standards.
Use an easily understood payout formula
Keep administrative costs reasonable.
Do not ratchet up performance standards.
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Individual Incentive Plans

Straight Piecework
An incentive plan under which employees receive a
certain rate for each unit produced.

Differential Piece Rate

A compensation rate under which employees whose
production exceeds the standard amount of output
receive a higher rate for all of their work than the rate
paid to those who do not exceed the standard
amount.

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Computing the Piece Rate

60 minutes (per hour)

12 minutes(standard time per unit)

$7.50 (hourly rate)

= 5 units per hour

= $1.50 per unit

5 units (per hour)

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Piecework: The Drawbacks

Problems with piecework systems:
Is not always an effective motivator
Piecework standards can be difficult to develop.
Individual contributions can be difficult measure.
Not easily applied to work that is highly mechanized
with little employee control over output.
Piecework may conflict with organizational culture
(teamwork) and/or group norms (rate busting).
When quality is more important than quantity.
When technology changes are frequent.
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Individual Incentive Plans:

Standard Hour Plan
An incentive plan that sets pay rates based on the
completion of a job in a predetermined standard
time.
If employees finish the work in less than the expected
time, their pay is still based on the standard time for
the job multiplied by their hourly rate.

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Bonuses
Bonus
Incentive payment that is supplemental to the
base wage for cost reduction, quality
improvement, or other performance criteria.

Spot bonus
Unplanned bonus given for employee effort
unrelated to an established performance
measure.

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Merit Pay
Merit Pay Program (merit raise)
Links an increase in base pay to how successfully an
employee achieved some objective performance
standard.

Merit Guidelines
Guidelines for awarding merit raises that are tied to
performance objectives.

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Highlights in HRM 3
Merit Pay Guidelines Chart
A merit pay guidelines chart is a lookup table for awarding merit increases
on the basis of
(1) employee performance,
(2) position in the pay range,
(3) time since the last pay increase.
Concerns:
What should unsatisfactory performers be paid?
What should average performers be paid?
How much should superior or outstanding performers be paid?

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Problems with Merit Raises

Money available for merit increases may be inadequate to
satisfactorily raise all employees base pay.
Managers may have no guidance in how to define and measure
performance; there may be vagueness regarding merit award
criteria.
Employees may not believe that their compensation is tied to
effort and performance; they may be unable to differentiate
between merit pay and other types of pay increases.
The performance appraisal objectives of employees and their
managers are often at odds.
There may be a lack of honesty and cooperation between
management and employees.
Merit pay plans do not necessarily motivate higher levels of
employee performance.

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Motivation Through Merit Raises

Develop employee confidence and trust in
performance appraisal.
Establish job-related performance criteria.
Separate merit pay from regular pay.
Distinguish merit raises from cost-of-living
raises.
Withhold merit payments when performance
declines.
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Lump-Sum Merit Pay

Lump-sum Merit Program
Program under which employees receive a year-end
merit payment, which is not added to their base pay.
Advantages

Provides financial control by maintaining annual salary

expenses and not escalating base salary levels.

Contains employee benefit costs for levels of benefits

normally calculated from current salary levels.

Provides a clear link between pay and performance.

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Incentive Awards and Recognition

Awards
Often used to recognize productivity gains, special
contributions or achievements, and service to the
organization.
Employees feel appreciated when employers tie
awards to performance and deliver awards in a timely,
sincere and specific way.

Noncash Incentive Awards

Are most effective as motivators when the award is
combined with a meaningful employee recognition
program.
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Sales Incentives
Sales Incentive Plans
Straight Salary
Straight Commission
Salary and Commission
Combinations

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Incentive Plans for Salespersons

Straight Salary Plan
Compensation plan that permits salespeople to be
paid for performing various duties that are not
reflected immediately in their sales volume.

Encourages building customer relationships.

Provides compensation during periods of poor sales.

May not provide sufficient motivation for maximizing

sales volume.

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Incentive Plans for Salespersons

Straight Commission Plan
Compensation plan based upon a percentage of
sales.

Draw is a cash advance that must be paid back as

commissions are earned.

Disadvantages of straight commission incentive

Emphasis is on sales volume rather than on profits.

Customer service after the sale is neglected.

Earnings tend to fluctuate widely between good and poor

periods of business.

Temptation to grant price concessions to get sales.

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Incentive Plans for Salespersons

Combined Salary and Commission Plan
A compensation plan that includes a straight salary
and a commission component (leverage).
Advantages

Combines the advantages of straight salary and straight

commission forms of compensation.

Offers greater design flexibility

Can be used to develop the most favorable ratio of

selling expense to sales.

Motivates sales force to achieve specific company

marketing objectives in addition to sales volume.

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Incentives for Professional Employees

Managerial
Managerial and
and Executive
Executive Incentives
Incentives
Bonuses
Bonusesand
and merit
merit increases
increases
Double-track
Double-trackwage
wagesystems
systems
Performance
Performanceincentive
incentivebonuses
bonuses
Profit
Profit sharing
sharingand
and stock
stockownership
ownership
Executive
Executiveperquisites
perquisites(perks)
(perks)
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Executive Compensation
The Executive Pay Package
Base salary
Short-term incentives or bonuses
Long-term incentives or stock plans
Perquisites (perks)

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Types of Long-Term Incentive Plans

Stock Price
Appreciation Plans

Performance-Based
Plans

Stock Options

Performance Units

Stock Appreciation
Rights (SARS)

Performance Shares

Stock Purchase

Formula-value Grants
Dividend Units

Phantom Stock
Restricted
Stock/Cash Plans
Restricted Stock
Restricted Cash

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Figure 103

Types of Long-Term Incentive Plans

Stock options
Stock appreciation rights
(SARs)
Stock purchase
Phantom stock
Restricted stock
Performance units
Performance shares
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Executive Compensation: Ethics and

Accountablility
Incentive payments are excessive compared with
return to stockholders.
Time periods for judging and rewarding performance
are too short.
Quarterly earnings growth is emphasized at the
expense of research and development.
Emphasis is placed upon equaling or exceeding
executive salary survey averages.
Benefits do not relate closely to individual
performance.

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Highlights in HRM 4
The Sweetness of Executive Perks
Company car

Spouse travel

Company plane

Physical exams

Executive eating facilities

Mobile phones

Financial consulting

Large insurance policies

Company-paid parking

Income tax preparation

Personal liability insurance

Country club membership

Estate planning

Luncheon club membership

First-class air travel

Personal home repairs

Home computers

Loans

Chauffeur service

Legal counseling

Childrens education

Vacation cabins

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Executive Compensation Reform

Current Reform Measures
The Internal Revenue Service (IRS) is looking for taxcode violations in executive pay packages and will
make executive pay a part of corporate audit.
The Securities and Exchange Commission ruled that
companies on the New York Stock Exchange and
NASDAQ must obtain shareholder approval before
granting stock options and other equity compensation
to executives and employees.
The Financial Accounting Standards Board (FASB)
now requires that stock options be recognized as an
expense on income statements.
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Executive Compensation Reform

(contd)
Possible Future Reform Measures

Sophisticated formulas that peg executive

compensation to organizational benchmarks other
than stock price to align pay more closely with
performance.
Corporate policy changes governing how
compensation committees structure executive pay
packages.
Restraints on stock options making it harder for
executives to cash out and receive windfall cash
sums.
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Group Incentive Plans

Team Incentive Plans
Compensation plans where all team members receive
an incentive bonus payment when production or
service standards are met or exceeded.

Establishing Team Incentive Payments

Set performance measures upon which incentive
payments are based
Determine the size of the incentive bonus.
Create a payout formula and fully explain to
employees how payouts will be distributed.

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Group Incentive Plans (contd)

Gainsharing Plans
Programs under which both employees and the
organization share the financial gains according to a
predetermined formula that reflects improved
productivity and profitability.
Scanlon
Rucker
Improshare

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Figure 104

The Pros and Cons of Team Incentive Plans

PROS
Team incentives support group planning and problem
solving, thereby building a team culture.
The contributions of individual employees depend on group
cooperation.
Unlike incentive plans based solely on output, team
incentives can broaden the scope of the contribution that
employees are motivated to make.
Team bonuses tend to reduce employee jealousies and
complaints over tight or loose individual standards.
Team incentives encourage cross-training and the acquiring
of new interpersonal competencies.

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Figure 104

The Pros and Cons of Team Incentive Plans (contd)

CONS
Individual team members may perceive that their efforts
contribute little to team success or to the attainment of the
incentive bonus.
Intergroup social problemspressure to limit performance
(for example, team members are afraid one individual may
make the others look bad) and the free-ride effect (one
individual puts in less effort than others but shares equally
in team rewards)may arise.
Complex payout formulas can be difficult for team members
to understand.

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Employee Bonus and Gainsharing

Plans
Rewards come from employee participation in

Rewards
Rewards come
come from
from employee
employee participation
participation in
in
Scanlon
Plan
Scanlon Plan improving
improvingproductivity
productivityand
andreducing
reducingcosts.
costs.

Rucker
RuckerPlan
Plan
(SOP)
(SOP)

Shared
Sharedrewards
rewardscome
comefrom
fromthe
thedifference
differencebetween
between
labor
laborcosts
costsand
andsales
salesvalue
valueof
ofproduction.
production.

Improshare
Improshare

Gainsharing
Gainsharingbased
basedon
onincreases
increasesin
inproductivity
productivityof
of
the
standard
hour
output
of
work
teams.
the standard hour output of work teams.

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Figure 105

Scanlon Plan Suggestion Process

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Highlights in HRM 5
Lessons Learned: Designing Effective Gainsharing
Programs
Enlist total managerial support for the gainsharing effort.
When developing new programs, include representatives from all
groups affected by the gainsharing effortlabor, management,
employees.
Prevent political games in which involved parties are more
interested in preserving their self-interests than in supporting the
group effort.
Bonus payout formulas must be seen as fair, must be easy for
employees to calculate, must offer payouts on a frequent basis, and
must be large enough to encourage future employee effort.
Establish effective, fair, and precise measurement standards.
Be certain that employees are predisposed to a gainsharing reward
system.
Launch the plan during a favorable business period.

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Enterprise Incentive Plans

Profit Sharing
Any procedure by which an employer pays, or makes
available to all regular employees, in addition to their
base pay, current or deferred sums based upon the
profits of the enterprise.
Challenges:

Agreement over division of profits between company

and employees.

Possibility of no payout due to financial condition of

company.

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Enterprise Incentive Plans (contd)

Stock Options
Granting employees the right to purchase a specific
number of shares of the companys stock at a
guaranteed price (the option price) during a
designated time period.
The value of an option is subject to stock market
conditions at the time that option is exercised.

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Enterprise Incentive Plans (contd)

Employee Stock Ownership Plans (ESOPs)
Stock plans in which an organization contributes
shares of its stock to an established trust for the
purpose of stock purchases by its employees.

The employer establishes an ESOP trust that qualifies as

a tax-exempt employee trust under Section 401(a) of the
Internal Revenue Code

Stock bonus plans are funded by direct employer

contributions of its stock or cash to purchase its stock.

Leveraged plans are funded by employer borrowing to

purchase its stock for the ESOP.

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Employee Stock Ownership Plans

Rewards
Rewards and
and Risks
Risks of
of ESOPS
ESOPS

Advantages
Advantages

Disadvantages
Disadvantages

Retirement
Retirement benefits
benefits

Liquidity
Liquidityand
and value
value

Pride
Prideof
ofownership
ownership

Single
Singlefunding
fundingbasis
basis

Deferred
Deferredtaxes
taxes

Not
Notinsured
insured

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Key Terms
bonus
combined salary and
commission plan
differential piece rate
employee stock
ownership plans (ESOPs)
gainsharing plans
Improshare
lump-sum merit program
merit guidelines
perquisites
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profit sharing
Rucker Plan
Scanlon Plan
spot bonus
standard hour plan
straight commission plan
straight piecework
straight salary plan
team incentive plan
variable pay

1047