Weighing pay incentives: Incentive plans should motivate employees to perform at a higher level, not encourage them to engage in questionable behavior

HR Magazine, June, 2007 by Joanne Sammer

There is an old story of a volunteer fire department that offered its firefighters incentives for responding to emergencies, only to see one of its members turn to arson in an effort to increase his incentive payout. Whether true or not, the story highlights an underlying concern among HR executives whenever they introduce a new incentive plan or modify an existing one: Will the plan yield better employee performance? Or, will it unintentionally encourage inappropriate behavior?

As more companies look for new ways to pay for performance and to extend incentive programs beyond the senior management ranks, these questions become ever more important.

Incentives that are administered effectively are useful tools for companies that want to encourage higher levels of performance from employees without increasing the fixed cost of base pay.

"When salary increases are running 3 percent to 4 percent, it can be difficult to differentiate between performers," says Steven Gross, rewards practice leader for Mercer HR Consulting in Philadelphia. As a result, a growing number of employers are adopting incentive plans to help reward top performers. According to the 2006 WorldatWork Salary Budget Survey, 79 percent of the nearly 2,800 companies that responded are using some form of variable pay, up from 66 percent in 2001. These numbers do not include sales force incentives.

However, companies that don't carefully devise and execute their incentive plans run the risk of including disincentives that can jeopardize high-quality performance and adversely affect the company, its employees and its customers.

Rewarding Quality Work

Avoiding subpar work was of paramount importance when MarineMax Inc., a recreational boat dealer based in Clearwater, Fla., rolled out its incentive plan for service technicians. The company's incentive plan pays service technicians a flat rate for each service or repair they perform based on the manufacturers' standard for the amount of time each type of job should take.

For example, if the manufacturer's standard for a boat propeller replacement is three hours, the technician will be paid for three hours of work for that repair job no matter how long it actually takes him to do the job. This way, skilled and efficient technicians have an incentive to complete their work as quickly as possible. If an efficient technician is able to replace the propeller in two hours and 10 minutes, he saves 50 minutes that he can use for another repair. But if he takes three and a half hours to replace the propeller, his pay could be affected if he doesn't catch up.

"Some technicians are so good that they can achieve 120 percent to 150 percent or even double the standard output" and, therefore, significantly increase their pay, says Jay Avelino, SPHR, vice president of team development.

Of course, without appropriate safeguards, this type of incentive plan can result in poor performance, with technicians rushing through repairs to maximize their incentive payout. To prevent that, MarineMax requires technicians to redo incomplete or improper repairs for no additional pay. "This makes sure they are penalized for shoddy work," says Avelino. "If the work is done right the first time, it doesn't come back." Although it hasn't been an issue for MarineMax, companies interested in implementing this sort of incentive must take care that any penalties for having to redo work do not bring employee pay below applicable minimum wage laws.

This checks and balances system is only one of several reasons why the MarineMax plan has achieved its desired results. In addition, the plan is closely tied to the company's business goals, such as providing fast and reliable service to customers, and employees can see a clear link between better performance and higher incentive payouts.

Unfortunately, not every company's incentive plan is as successful as MarineMax's. The following suggestions can help employers craft an incentive plan that sets employees and the company up for success without incorporating disincentives that can reduce the plan's effectiveness.

Laying the Groundwork

The first step in devising an effective incentive plan is to determine whether incentives are right for your company and your employees.

"It is important to dig deep and determine what the company really wants to accomplish before designing an incentive plan," says D. Kevin Berchelmann, president of HR consultancy Triangle Performance LLC, in Spring, Texas. "It sounds simple, but it is important to articulate the ultimate goal of the incentive plan." If the company is not able to articulate why it needs an incentive plan, it becomes more difficult to design a plan that will be successful.

The following actions can help ensure that employers don't implement an incentive plan that is unnecessary or ineffective:

* Involve employees. To get a sense of whether and what kind of incentives will help the company meet its goals, "It makes sense to get a few managers and employees together to discuss what the company wants to accomplish and how an incentive can support that," says Berchelmann. "Line employees generally have a better view of how to do that than we give them credit for."