Many employers offer compensation packages that include a mix of both base compensation (guaranteed wages or salary) and incentive compensation (at-risk variable compensation). While base pay tends to be relatively straightforward, incentive compensation presents unique challenges and planning opportunities.
Some companies spend considerable time and effort considering whether (and demonstrating that) their compensation programs, and the mix of base and incentive compensation opportunity provided to employees, are consistent with industry trends and averages. There is certainly a place for this type of benchmarking, but it sheds no light on the question of whether the employer is receiving meaningful value for its investment in incentive programs. Accordingly, in addition to understanding whether an incentive program is competitive, it is critical that an employer understands (1) whether its program provides meaningful incentives, and (2) how the various components of the employer’s compensation program coordinate, whether any such coordination is intentional or accidental, and whether the employer recognizes value as a result of any such coordination.
To help kick start this analysis, here are a few thoughts on how to get the most out of an incentive compensation design:
On the flip side, programs that make the “threshold” or “target” bonus too difficult to achieve, such that the program effectively provides an incentive only if the employee produces extraordinary results, may demotivate employees. Further, since incentive programs might be affected by conditions and events beyond the control of the employee — for example, economic conditions or an industry downturn — it is conceivable that in any particular performance period, the “target” performance result might effectively be out of reach, such that the incentive program arguably provides no real incentive for that period.
Thus, employers need to undertake a comprehensive (and holistic) review and evaluation of their compensation and benefits programs. Such a review might uncover surprises as to whether the program is effectively motivating employees and how the various components of the employer’s program coordinate with each other and shine a light on how to get the most out of this investment.