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Abstract
The purpose of this paper is to show the different categories of pay for performance plans, as well as how their effectiveness can be measured. It will also discuss the disadvantages of such plans from both an employee and an employer perspective. The paper will include information from two studies. The first was done by The National Academic Press and helps define the different types of plans (Milkovich & Wigdor, 1991). The second pulls information from a study done by Sibson Consulting and discusses the issue of employee entitlement(Miller, 2010). There will also be use a specific example involving Hewlett Packard in the 1990’s (Lagace, 2003).
Keywords: pay-for-performance-plans, employee entitlement
Pay for performance plans have become increasingly popular in the business world, leading some to believe that they are a feasible option for all workplace environments. However, although pay for performance plans have several benefits there are several disadvantages for both employers and employees. For this reason, it is necessary to closely examine the effectiveness of such plans as they relate to specific organizational structures.
According to research done by The National Academic Press, pay for performance plans can general be placed into one of four sub categories. These are individual plans with compensation added to base pay, individual plans with compensation not added to base pay, group plans with compensation added to base pay, and group plans with compensation not added to base pay (Milkovich & Wigdor, 1991). For example, a commission based system would fall under the sub category of individual plans with compensation not added to base pay. Yes, the employee does make extra money in this case, but it is not a permanent addition to their base pay. This can be seen more accurately in the chart found in Appendix A. For organizations wishing to use a pay for performance plan it is important for leadership to know the difference between these sub categories in order to determine which type, if any, would work the best.
Regardless of which type of plan an organization uses those in charge need to find some way of measuring its effectiveness. According to Jim Kochanski, senior vice president at Sibson Consulting, “The effective application of pay-for-performance vehicles produces a higher return on investment from compensation by rewarding top performers. This approach begins to eliminate the entitlement mentality” (Miller, 2010). From this we can extrapolate two different criteria for measuring pay for performance plans. The first being, are the employees being paid the most actually the top performers, and is the organization making a larger profit from their work. This is easy enough to measure just by looking at the numbers.
The second measurement is determining if employees still feel they should be rewarded solely based on their time at the company? If employees still feel this sense of entitlement, then the performance plan is not fully effective. In order for a pay for performance plan to work all members must understand that only hard workers will receive extra pay. Simply showing up to work will not be good enough. This is unfortunately very hard to measure in any type of mathematical sense. It is possible to gather the necessary information through anonymous surveying of the employees, but there will never be any guarantee that the information gathered is one hundred percent accurate.
Hewlett-Packard employees faced many of these problems at the companies San Diego site in the 1990’s. Teams were becoming frustrated by factors that were out of their control. High-performance teams were also reluctant to bring in and train lower performing members, because they did not want it to effect their overall production. Due to this hesitancy, cross team cooperation dropped, and many teams became angry with each other. Also, some employees were reluctant to transfer to new teams, even if it was the next step in their career path, because they did not want to rick taking a cut in pay (Lagace, 2003).
There are also several disadvantages to pay for performance plans from an employer’s perspective. These disadvantages can become quite clear when examining the companies bottom line. Introducing a new pay structure takes time and money, and this startup costs can sometimes be higher than a company originally intended. Also, if the plan is not structured correctly the company may end up paying out more bonus money than it expected, and possibly more than it could afford.
In the case of the Hewlett-Packard too many employees reached at least the bottom reward level, with many of them making it as far as the top tier reward level, leading to unexpected additional costs to the company. This forced the company to restructure the program, leading to an increase in employee complaints, therefore destroying the effectiveness of the program (Lagace, 2003). Managers eventually decided that they were spending too much time trying to revamp the new system to make it work, and they did not feel a pay for performance system would be sustainable over time. Employee complaints also made it clear that the plan was not motivating them in the way it should, and in fact was doing just the opposite. (2003).
Despite their many advantages, the disadvantages of pay for performance plans can make them infeasible for many organizations. Their effectiveness is difficult to measure given that employee motivation must be taken into account, these plans have a tendency to anger employees, and they often cost companies more than they would like due to unexpected employee performance. It is possible that additional planning could offset some of these difficulties, but it is unlikely that it would take care of all of them. Overall, it is clear that many companies need to put more thought and planning into their incentive plans prior to putting them into action.
References
Lagace, M. (2003, April 14). Pay-for-Performance Doesn't Always Pay Off. Retrieved January 28, 2016, from http://hbswk.hbs.edu/item/pay-for-performance-doesnt-always-pay-off
Milkovich, G. T., & Wigdor, A. K. (1991). Read "Pay for Performance: Evaluating Performance Appraisal and Merit Pay" at NAP.edu. Retrieved January 27, 2016, from http://www.nap.edu/read/1751/chapter/7.
Miller, S. (2010, December 15). Study: Keys to Effective Performance Pay Programs ineffective when managers avoid confronting mediocre performers with low salary increases. Retrieved January 27, 2016, from http://www.shrm.org/hrdisciplines/compensation/articles/pages/effectivepfp.aspx
Appendix A
According to research done by The National Academic Press, pay for performance plans can general be placed into one of four sub categories. These are individual plans with compensation added to base pay, individual plans with compensation not added to base pay, group plans with compensation added to base pay, and group plans with compensation not added to base pay (Milkovich & Wigdor, 1991).
