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Picking a bonus plan for your company

During the past decade, companies of all sizes have migrated away from the traditional compensation model of seniority pay and annual raises. Instead, they now depend more on variations of performance-based pay and incentive bonus programs. Many view the move as essential to reducing fixed costs while still remaining flexible enough to attract top talent.

Here are some of the common structures for effective incentive bonus programs:

  • Broadbanding: Organizations where a lot of people do similar things use broadbanding to break down the intricate hierarchical structure in narrow bands of compensation.
    Advantages: Pays the person, not the job; flexibility to bring high performers up rapidly without breaking the broadband; flexibility on merit raises.
    Disadvantages: May hinder motivation (no rungs to the ladder); allows for disparity in compensation; could stretch compensation levels to uncomfortable levels; possible discrimination actions if not closely documented.

  • Small-group incentive: Rewards performance of a specific group, department, division, etc.
    Advantages: Reinforces group objectives; encourages teamwork and collaboration.
    Disadvantages: Disproportionate rewards; doesn't reward top performers.

  • Blended-group incentive: Combines small-group and corporate goals.
    Advantages: Promotes teamwork; prompts interest in corporate performance.
    Disadvantages: Employees may feel penalized for underperformance of other divisions, no individual recognition

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  • Merit-based pay: Links individual directly to performance. Very clear objectives, often a matrix of goals and corresponding rewards.
    Advantage: High performers love it.
    Disadvantages: Average or poor performers loathe it; may promote competition within ranks instead of teamwork; may contribute to turnover.

  • Competency-based pay: Compensation based on reaching levels of reliability and predictability on the job.
    Advantages: Promotes cross-training; can help build management skills.
    Disadvantages: May reward the wrong competencies; employees may not see value in it; can be hard to measure.

  • Skill-based pay: Employees are paid a higher wage for possessing certain skills. Primarily for line-level employees and defined-skill industries.
    Advantages: Helps build staff core competencies; meet production schedules.
    Disadvantage: Not particularly useful at management level.

  • Profit sharing: Employees are paid a percentage of corporate profit.
    Advantages: Engenders employees to the company, ties their fate to the fate of the company.
    Disadvantages: Dramatic fluctuations; can involve complex measurements as company accountants are trained to minimize profit.

  • Gain sharing: Rewards nonfinancial performance, such as faster turnarounds, fewer defects.
    Advantages: Pride in work; better customer service; improved quality control.
    Disadvantages: Disproportionate; does not reward top employees.

  • Recognition awards: Employee of the month, special awards, etc.
    Advantages: Can motivate employees, promote overall performance.
    Disadvantage: Creates ill will if not sincere.

If you're in a fast-moving industry or experience considerable turnover, you may want to offer quarterly bonuses to encourage retention.

When determining whether your company can afford an incentive bonus plan, don't forget to consider overtime laws. Under certain circumstances, the Fair Labor Standards Act requires that you include bonus pay in the base salary of employees when calculating overtime. If your employees regularly work overtime, the increased cost could break your bonus budget.

Jay MacDonald is a contributing editor based in Mississippi.

-- Updated: Aug. 14, 2003


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