Recent studies show that employers want to pay for the best efforts of their workers, but their strategies for making that happen may not be working well enough.
By Tom Starner
On paper, paying for performance makes perfect sense. After all, it stands to reason that the best performers deserve the highest rewards.
Unfortunately for employers, it seems that paying for performance is easier said than done. According to some experts, and recent reports from Mercer and Towers Watson, companies say they have a less-than-positive view of pay-for-performance program success.
Most organizations in the Mercer survey, for example, advocate a pay-for-performance culture, but hurdles such as economic realities, reduced pay increase budgets, shareholder activism and emerging government regulations make true pay-for-performance difficult to achieve.
In that survey, more than half (55 percent) of participating organizations report they strive to a great extent to create a pay-for-performance culture for their executives, managers and sales professionals. More than one-third aim to do so for non-professional sales and hourly employees (46 and 36 percent, respectively). Yet, almost half (45 percent) of organizations indicate their pay-for-performance programs "need work."
"That organizations are not satisfied with their pay-for-performance programs suggests that traditional financial incentives -- the most common approaches -- may be overused in situations or contexts where they are not the best choice," says Brian Levine, partner and Workforce Analytics & Planning leader for Mercer's North American Region. "There are several approaches to pay-for-performance. Some companies may benefit by expanding their view of how pay-for-performance is implemented and considering other models that may be more effective."
Mercer's 2013 Pay-for-performance Survey examined pay-for-performance practices, including overall structure, effectiveness, and talent and reward strategies. The survey includes responses from more than 570 employers across all industries throughout the United States and Canada.
The survey found most organizations focus on financial incentives for rewarding performance. Base salary increases and annual or short-term incentives remain the rewards most often linked to performance, reported by more than 85 percent of participating organizations. Other rewards include promotions and recognition (63 and 51 percent, respectively).
Levine notes that, despite the popularity of financial incentives for rewarding performance, there are a variety of challenges with performance measures tied to these incentives. Survey findings reveal base pay and short-term incentives for top performers are approximately two times the increase and two times the payout compared to average performers. Furthermore, nearly two-thirds (63 percent) of organizations indicate they are working to increase differentiation of pay based on performance, compared to just 2 percent trying to minimize it.
"Companies are linking pay to employee performance as part of their strategy for growing their business in an uncertain economy," says Jeanie Adkins, partner and co-leader of Mercer's rewards practice. "Since talent costs are a large portion of a company's spending, emphasis on pay that varies by employee and company performance helps control costs, focus on spending for results and retain top employees."
San Francisco-based Laurie Bienstock, North America practice leader for rewards at Towers Watson, says that, while her firm's 2013 study on talent management and rewards in North America asked different questions, its conclusions also support the idea that pay-for-performance initiatives are not being optimized and there are ways to improve that situation.
For example, the Towers Watson study found that a quarter of respondents continue to give merit increases and bonus payouts to employees who fail to meet performance expectations while, at the same time, those employers are unable to hit their target payout levels for high performers.
"That would be one key reason why it's not working," Bienstock says.
But mainly, she says, a disconnect exists within manager skills. Specifically, they lack the basic tools to make pay-for-performance programs work properly.
"Managers lack communication skills, the need to learn to use the system to not give increases to those who are not performing," she says. "They need the right tools, because managers are the first line to making the programs work. It's not enough to just say pay-for-performance is important. To make it work, you need to have an effective front-line delivery strategy."
Bienstock says two ways to do that include reinvigorating career management strategies, because career advancement opportunities are one of the most often cited reasons for joining -- or leaving -- an organization.
Also, employers must rethink managers' roles and equip them to succeed.
"As the primary point of contact for setting performance expectations, conducting career development discussions, assessing results and communicating pay decisions, managers are important drivers of employee engagement -- negatively or positively," she says.
Mercer's survey reports that attracting and retaining the right employees ranks highest (86 percent) among expected outcomes of pay-for-performance programs, followed closely by motivating employees to focus on the right things and perform at higher levels. Additional priorities are encouraging specific behaviors and promoting employee engagement.
"Clearly, workforce capability and motivation are two areas that companies can focus on to drive performance," says Adkins. "By investing more time in assessing employee needs, determining where critical talent lies and identifying factors that influence employee behaviors, companies can improve their pay-for-performance programs and enhance their overall success."
Robin Ferracone, CEO of the executive compensation consulting firm Farient Advisors and author of "Fair Pay, Fair Play," says pay-for-performance success is especially difficult to achieve when economic times are tough.
"It's easier when company performance is good and bigger bonus and merit pools exist," she says. "But where it is difficult is when overall performance is low and there is not much of an incentive or merit pool."
In those cases, she agrees that alternatives to direct financial rewards, including retention equity grants or promotions, may be a more effective alternative. Also, employers can use additional development opportunities such as special assignments and/or special recognition programs, offering incentives such as gift cards or free weekend vacations.
Linda Henman, author of Landing in the Executive Chair and president of the Henman Performance Group, in Chesterfield, Mo., believes the main problem with typical pay-for-performance programs is business leaders leave it to HR, but in her view it is not really an HR initiative.
"This is a strategy/culture issue and only functional leaders can oversee what results they want in their areas," she says.
Henman also believes too many pay-for-performance programs measure the wrong things, gauging "activities" rather than meaningful results.
"CEO pay-for-performance programs differ for a reason," she says. "The people evaluating CEOs don't care how they spend their time; they care only about the results the company achieved.
"Business leaders would do well to take a lesson," she adds. "Deliverables should be an outlawed word, replaced by objectives. In other words, what should the person accomplish? How will you know? And most importantly, what good will it do?"