Incentive Compensation Tidbits and Thinking

For incentive compensation geeks (of which “I are one”), to quote Charles Dickens: “It was the best of times, it was the worst of times.”

Not only has emphasis been placed on compensation strategies that link pay to performance recently, but I predict it will continue and intensify. By an order of magnitude…

An Incentive, of course, is the payment for an “if-then” statement. If you do this, then I’ll pay you that. If you exceed an EBITDA target, then we’ll pay you xx% of your annual salary. I know what I did to get it, and presumably know what to do to get it again. And incentives are expected. We had an agreement, and I expect you to honor it with payment.

So, if we want to encourage behavior with compensation, it’s clearly going to be through Incentives. But we must use caution; it’s easy for the “law of unintended consequences” to creep into incentive efforts. So, what makes an appropriate, effective Incentive Plan (regardless of payment medium – cash, deferred, stock, etc.)?

First, it must reward correctly. In the compensation world, it’s not what you want, wish for, hope for, or manage to; it’s what you pay for. Many an incentive plan short-circuited when it was discovered it promoted behavior we did not want just to get to results we did.

Next, it must influence behavior. By that I mean a couple of things:
1. It must be understandable, e.g., I must realize what I can do to reach the incentive, and
2. It must be sufficient to warrant a behavior change. Make it chump change if you want, but don’t expect your best and brightest to get on board. Realize that, if you get it right, it doesn’t really matter anyway, does it?

Finally, it must, must, must be kept simple. Complicated plans create two significant issues: One, they become too onerous for people to comprehend. No understanding, no change in behavior. Two, employees –of all levels – believe that complicated plans are simply corporate subterfuge.

Incentive/bonus plans work when organizational needs are aligned with employee needs and capability. Anything else and the “Law of Unintended Consequences” rears its ugly head…

Let’s avoid that last part, shall we?


Kevin Berchelmann

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