Performance-based compensation

Performance-based compensation

Given continued market volatility and economic pressure, every CEO is looking for ways to drive better outcomes. Improving employee performance is arguably the best way for business leaders to drive better organisational performance. One of the strategies more organisations worldwide are considering is performance-based compensation.

Performance-related compensation is a system that decides how an employee is paid based on how well they perform. Naturally, employers will need to pay each employee a base wage or salary that, at the very least, complies with the national minimum wage or the regulated minimum for their sector. But on top of that, they could offer variable payment or rewards that depend on performance.

There are many ways to approach paying for performance, ranging from variable pay based on monthly performance to quarterly or annual bonuses, profit-sharing and non-financial incentives, such as extra paid leave. Companies can offer pay-for-performance to individuals for exceeding their KPIs or special achievements, or to teams or even the whole company based on reaching organisational targets.

Here are some of the pros and cons of paying for performance, summed up from several expert sources:

Advantages

  • It can motivate your employees to do their best. One study found that over 85% of employees felt more motivated when the employer recognised their effort and rewarded it financially.
  • It may attract and retain high-performing talent. Many ambitious, hard-working people thrive in environments where they are rewarded for surpassing KPIs or expectations.
  • It can help poor performers to do better. In constantly measuring performance, a business can identify people who need help to reach their potential.
  • It can improve employee output. Incentives tied to performance can drive higher productivity and quality in the workforce.

Disadvantages 

  • Low-performing employees may become less motivated. Employees who don’t meet their targets may become depressed, anxious or demotivated, feeling that they cannot deliver what is expected of them.
  • It could turn the focus onto quantity rather than quality. Often, performance is measured with metrics that emphasise speed or quantity rather quality. Think of rewarding a call centre agent for speed of resolving a call rather than customer satisfaction for instance.
  • It may increase workforce stress at a time when mental wellness matters. The uncertainty of not knowing how they will earn each month or year may affect employees’ mental wellbeing.
  • It could harm teamwork. It might cause incentivised employees to focus on their own goals rather than those of the team.

As a post on Perkbox notes, the devil is in the details with performance-based compensation. The strategy might not be suitable for every role or organisational culture. Plus, a compensation-based payment strategy needs to be carefully designed to meet its objectives. It will not work if employees feel it is biased, sets unrealistic goals or measures them on factors beyond their control.

Getting it right demands that a CEO shows that they can measure performance in an objective way, plus that they are willing to coach and support people to help them achieve their KPIs. Pay-for-performance is a complex cultural shift not to be undertaken lightly, but we may see more companies add pay-for-performance elements to their compensation strategies to get an edge in the years to come.

References:

https://www.perkbox.com/uk/resources/blog/a-controversial-guide-to-performance-related-pay

https://www.easymetrics.com/benefits-of-pay-for-performance/

https://www.indeed.com/career-advice/pay-salary/pros-and-cons-of-pay-for-performance

https://www.letsdeel.com/blog/performance-based-pay

https://societyinsurance.com/blog/increasing-employee-motivation/#:~:text=Incentives%20that%20are%20important%20will%20be%20the%20greatest%20motivator.&text=A%20recent%20study%20by%20Genesis,when%20an%20incentive%20was%20offered.

https://www.perkbox.com/uk/resources/blog/a-controversial-guide-to-performance-related-pay