Series Part 3: Dangling The Carrot – Performance Based Compensation

Now It’s Time To Implement The Plan:

  1. Establish the performance compensation plan around exceeding expectations of your business plan at various levels.
    1. See and share what someone could earn.
    2. See what you, as a stockholder, could additionally earn.
  2. Define how it will be paid.  Payments quarterly or semi-annually with a portion deferred to the year end is preferable to a plan that only pays out at year end.
    1. Remember, target a payout after completion of the year end financials.
    2. Remember before determining the final amounts for employees, the stockholders must define in total what they want in salary and return.
    3. Remember to consider seasonal cash flow in establishing the date.  You may have cyclical trends as to liquidity that should be addressed (bank covenants, work in progress, inventory build-up’s, etc.).
    4. Remember your deferred portion beyond the current year (Golden Handcuffs).  Deferral within the incentive year and beyond is as important to a successful plan as paying a portion of the incentives during the year.
    5. Remember never pay an interim (prior to the end of the year) incentive earned in full.  Employees won’t ever pay back to you if they don’t succeed for the remainder of the year, and some activities are not complete within the interim period.  Pay something, but not the largest portion of the incentive earned to date, prior to the year end.
  3. Implement your “Top Grading” process.
    1. If you continually carry “C” and “B” people, your “A’s” will become frustrated, and ultimately the plan will not perform as intended or ultimately fade away or fail.
  4. Modify the plan.
    1. Don’t be afraid to correct an issue within the year.  For example, mainly in the construction or job shop manufacturing industries the concern is that the employees can’t be held accountable to mistakes by sales, estimating, or commodity fluctuations in long-term contracts with price sensitive materials.  If the targeted incentive is for something the person can’t control, they shouldn’t be directly incentivized for gain or loss with respect to that (material pricing or buy-out gain or loss).  However, the person estimating and purchasing should.

After A Year of Success:

After you have some positive experiences with your plan, market the results in an effective hand out when you are interviewing for new “A” employees.  Create a process wherein your “A” employees participate in an effective way of reaching out to friends and competitor company employees to “talk up” the way your company treats employees.  Good employees want good employees around them always.  No one wants to be dragged down by poor performers.  If they can replace someone that’s holding them back by finding someone better or “selling” the company to an interviewee, they will.

In summary, get control of your company operations.  Follow that with a simple and targeted performance compensation system.  Incorporate deferral of a portion of the bonuses via “Golden Handcuffs”.  Use Score Cards that are accurate and timely.  Market the results to find new “A” players when needed, and you’ll build profit and value of your company more than your top competitors that don’t address these basics concepts of Performance Compensation Systems that work.

If you thought before that you couldn’t afford the most productive and knowledgeable employees, think about all the money you would have made had you had an effective performance compensation system.


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