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The Role of Reward Systems

A recent study finds that bonuses and certain types of reward systems have little effect on long-term organizational performance. Still, most experts say reward systems are necessary, and urge HR leaders to have a hand in developing -- and communicating -- a system that's appropriate for their organizations.

Friday, January 13, 2012
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A new study suggests bonuses and certain reward systems have little impact on long-term organizational performance.

This finding may or not be on the mark, but experts say having an appropriate reward system in place is still a must, and HR leaders should be instrumental in tailoring that system to fit their organizations and effectively communicate it to the workforce.

The two-phase study, conducted by the HPO Center, a global research organization, aimed to identify the factors that determine an organization's sustainable success. The first phase consisted of a literature review that focused on identifying characteristics of high performance and excellence -- characteristics that were subsequently tested in an empirical study in the second phase.

The study found that the use of bonuses and some reward systems are a "hygiene factor" for many organizations that have no substantial effect on long-term organizational performance, according to the HPO Center, which has its U.S. headquarters in Concord, Mass.

"The practical implication of our study is that organizations should not spend a lot of time on designing and implementing elaborate and sophisticated reward systems to improve performance," says Andre de Waal, academic director at the HPO Center, a consultant with Arthur Andersen Business Consulting, and co-author of the study.

"They just have to make sure an appropriate reward system is installed that is considered to be fair and equitable by employees," he says.

The effects of bonuses on performance and the role of rewards systems have long been debated. But most experts agree that an appropriate reward system -- with or without bonuses -- is a necessity.

Defining an appropriate reward system is difficult, says Marc Stockwell, a principal and national practice leader with Findley Davies' compensation and rewards management consulting practice in Toledo, Ohio.

In his experience, he says, "every high-performing organization I have worked with has an effective reward system in place," defining an effective system as one that "is consistent with the organization's mission and allows employees to work together to achieve success."

"In every case, the reward system addresses both financial and non-financial factors, celebrates success and appropriately differentiates compensation," Stockwell says.

"The HR leader's role in this is critical, because reward systems are never perfect and must change and evolve with the organization. The HR leader must take responsibility to ensure that reward systems are understood by all, and manage changes to keep the reward systems effective."

Generally speaking, de Wall says, the criteria for a suitable reward system include clarity -- to communicate to employees the type of achievements that will lead to additional rewards; fairness -- to explain that workers won't receive preferential treatment; and transparency -- to ensure that the manner in which rewards are calculated and allotted are clear.

HR should be closely involved in developing and implementing a system based on those tenets, and should "have the knowledge to design reward systems that are fair, and safeguard them to stay that way," de Waal says.

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In addition, he says, a reward system can be deemed "appropriate" in the sense that it doesn't deviate from others in your industry or from similar types of organizations.

HR executives also need to differentiate between rank-and-file employees and executives, says Jack Dolmat-Connell, CEO of DolmatConnell and Partners, a Waltham, Mass.-based executive-compensation consulting firm.

"For the broad employee base, most individuals farther down in the organization do not have the ability, by and large, to impact broader organizational-performance measures such as profitability, cash flow and revenue growth," he says. "These are the measures at the core of building longer-term shareholder value in most companies."

While reward systems for such employees may not be linked to higher organizational performance, potential bonuses should be attainable, and workers should feel that the measures they are evaluated on "are within their control or their day-to-day job responsibilities," Dolmat-Connell says.

A substantial part of the plan, he says, should be based on either individual or group metrics that an individual can impact, and that the system should be externally competitive and internally equitable.

Whatever components and specific rewards the system ultimately includes, HR executives must be most careful to avoid having the same plan structure throughout the organization, Dolmat-Connell says.

"Many believe this is what drives alignment across the organization," he says. "But what alignment really means is that everyone is rowing in the same direction, rather than everyone being on exactly the same plan."

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