Variable pay is, more than most compensation applications, an approach by which organizations can align employee behaviors and efforts to the business plan and operating model; the quantum being an outcome variable. It can help employees understand what is expected of them and why, thus communicating business priorities to the workforce.
The instability of the global economy has led companies to re-examine their variable pay programs in many ways:
- Shift in balance between fixed and variable pay, with stronger ties to performance
- Increased board-level involvement
- Linking bonuses to longer-term targets
- Balancing individual and enterprise performance in designing bonuses
- Simplifying programs by reducing the number and variety of bonus schemes
Apart from the slowdown, Hay Group research has found that the following are the top three drivers of change to variable pay programs, going forward: better alignment with business strategy; improving company or team performance; and creating better alignment or line-of-sight between corporate and individual performance.
As organizations look to the change process, there are three things they must keep in mind:
- Balance Stimuli and risk: If a bonus scheme fails to pay out in a bad year, employees can become disengaged at a time when the company needs them most. Conversely, a bonus scheme that pays out regardless of corporate performance will not drive discretionary effort. The challenge for companies is to not only identify the right measure, but the right targets. Should the target be absolute or relative? Should it be in line with this year’s budget or with last year’s performance? At which level should performance targets be set? Should average performance be awarded, or only excellent performance? There is no one correct answer: The best programmes are those that reflect the company’s particular business model and culture, rather than those which are copied from ‘best practice’ or industry standards.
- Employee Engagement is paramount: Employees will no longer be happy ‘just to have a job’ and companies need to find effective ways to prevent loss of talent as market conditions improve. Hay Group Insight research has shown that companies with the most engaged employees report revenue growth at a rate two-and-a-half times greater than their competitors with the lowest level of engagement. Furthermore, companies who effectively combine employee engagement and enablement report significantly improved revenue growth, staff retention and employee performance.
- Measuring effectiveness is critical…: More and more CEOs are focusing on the ROI from their reward spend, and we see this trend continuing strongly in the future.
- As is communication!: Effective communication has a significant role to play in the success and buy-in for reward programmes. Here, companies are realising the crucial role of the line managers in communicating variable pay schemes. A variable pay strategy will not drive performance if the objectives and link to company strategy are not clear. The message must flow from the top, with strong leaders who can set out a coherent strategy and help employees understand their role in it. Leaders must also rise to the challenge of demonstrating and communicating externally the link between reward strategy and company performance.
The best organizations are using variable pay not purely as a cash flow tool but as a support mechanism for their performance management strategy.
Some of the most successful variable pay programs are those which reflect the company’s business model and work culture; take into account the impact different employee groups have on performance; are tailored to employee preferences and demographic profiles; and are fully integrated with the overall reward programme.
In a challenging business environment, companies must make the right call on strategy and performance if they are to take full advantage of their variable pay programs. A strategic approach to variable pay is critical to remaining competitive in a challenging market.