The Secret to Optimizing ROI on Compensation, Commission and Bonus Programs

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What is the ROI that your company expects from its compensation, commission and bonus programs?

In business, ROI (return on investment) is routinely calculated, planned and monitored. Many organizations’ expectations of these monetary rewards programs include employee retention as well as achievement of critical goals and targets.  But, the greater value of these programs can best be gained and measured in the achievement of the business strategy — in particular, the company’s competitive differentiation.

Designing compensation, commission and bonus programs that aren’t tied to competitive differentiation can have costly unintended consequences.  Let’s look at two examples that are typical in today’s organizations.

Company A provided all employees with quarterly incentive bonuses.  The criteria for earning the bonuses included targets such as EBIT, Operating Cash and Sales Revenue.  Management’s intention was that employees would focus on quality, preventing rework and scrap, limit spending to essential items, continue efforts to improve operating efficiency and more.

However, many employees interpreted their responsibility toward achieving the targets differently.  To help earn bonuses, people focused on avoiding purchasing items such as supplies, tools, and equipment and on reducing travel and associated expenses; and supervisors deployed mandatory overtime to manage headcount and avoid hiring additional people. There were several unintended consequences, such as the following:

– Increased customer returns due to quality defects
– Increased scrap due to tooling issues
– Longer production times due to unmaintained equipment and tooling
– Late shipments

Bonuses were earned and paid out, even as customer complaints and departures increased.

Company B paid its sales force commission only (no salaries) and annual bonuses. Commission scales were based on total volume sold and the criteria to earn annual bonuses included overall corporate performance against revenue and profit goals plus individual performance on sales revenue and operating cash. Management’s intentions were for Sales professionals to find opportunities to sell across product lines to meet additional, previously unleveraged customer needs.  But, many sales people used a goal achievement strategy that was aligned with selling the products they knew best, instead of cultivating new business with existing customers.  There were a number of unintended consequences:

– Sales employees created opportunities to give discounts to existing customers for increased order quantities
– They spent a higher percentage of time visiting established customers to maintain relationships and to obtain repeat orders
– Sales people avoided prospecting, which requires additional time with reduced short term results
– They ignored taking the time to learn and sell the new and different products in different product lines than they had sold in the past

As a result, most Sales employees achieved their targets and received the associated monetary rewards, while new business and expansion in selected industries was not happening.

As you can see, the biggest shortfalls in performance for these companies were strategic — the monetary rewards programs failed to focus performance on what is most important:

Delivery of the company’s unique value or competitive differentiation, the reason their customers buy from them in the first place
– Achieving strategic objectives for growth of the customer base or market penetration

Company A: Their Value Proposition was on-time delivery of high quality, precision metal parts. With employees focusing on dollars instead of on quality and on-time-delivery, the company’s performance was causing customers to be disappointed time and again. Company A’s failure to align compensation and bonuses with the business strategy was causing the loss of new and existing customers.

Company B: The company’s strategy included selling across product lines, new business development and growth in specific industries. When employees stuck to selling products they already knew, to customers they already had, progress on achieving the strategy was not a priority.  In addition, Company B’s Value Proposition was service by sales employees who were experts in the products and the way they are used in the customers’ industries. Since employees frequently did not spend time and money to travel to attend company training in various product lines and industries, their expertise was limited as a result. Further, the lack of focus on prospecting prevented new business from being developed and inhibited the company’s growth into specific industry markets.

In order to maximize the ROI on compensation, commission and bonus programs, these programs need to be effectively aligned with your strategy, rooted in your competitive differentiation.  Managers can help prevent these types of unintended consequences by more effectively anticipating the actions employees could take that might undermine the strategy for short term gains.

Today’s Challenge: Many companies are not realizing full benefit from their compensation, commission and bonus programs. Is your company one of these? How well aligned are your monetary rewards programs with your business strategy? Are these rewards structured to help employees to focus on what’s most important?