Radford Compensation 101

Chapter 5: Variable Incentives

Design Philosophy and Considerations

 

When making an offer to a prospective hire, base salary is only the beginning of a total rewards package. Variable incentives in the form of an enticing cash bonus or robust equity package will more often than not be the deciding factor and can likely sway the decision to accept vs. reject a job offer.

What are Variable Incentives?

Variable incentives or variable pay can be defined as any compensation opportunity where payment is not guaranteed, and the amount is determined on the basis of short- or long-term performance. In general, variable incentives can be categorized as either short-term (typically given in cash) or long-term (usually given in equity).  

Short-Term Incentives
  • Provided in return for performance measured over a period of up to one year
  • Rewards actions with results in the current year
  • Typically given in cash
Long-Term Incentives
  • Provided in return for performance measured over a multi-year period
  • Designed to get employees to think about how the decisions they make today impact long-term results
  • Usually given in equity

Why We Use Incentives

Employees expect it. Your competitors offer it.
Offering incentives can help you:

  • Attract and retain candidates, especially as the next payment or bonus approaches;
  • Achieve goals to keep the company growing, healthy and innovative;
  • Focus on what gets measured and done;
  • Focus employee attention on critical goals; and
  • Unite different people to a single cause, connecting an employee's tactical goals to the increasingly strategic goals of higher-level managers.

Designing Incentives

Done right, incentives reward employees who benefit the company, and can play a role in contributing to a success-oriented culture. But not every job requires a variable pay component, so it’s important to consider all possible benefits and trade-offs before deciding which groups to include in an incentive plan.

Negative consequences can arise as a result of incentives that are not carefully thought out. For example, a customer call center agent who’s measured by volume of calls may attempt to get people off the phone instead of spending time to solve their problems.

Country-specific company culture and social norms also play a role in determining the use of incentives, so it's important to look at each case individually to determine whether the use of incentive compensation is appropriate.

Considering Design Philosophy

Should a company offer broad incentive eligibility with a limited number of recipients or offer limited eligibility with a high likelihood of incentive receipt?

  • Broad eligibility – Everyone is potentially eligible to receive a reward, but a limited number of people actually receive a bonus. This may result in larger payments to fewer people, but it also means that plan eligibility is not a true measure of planned participation.
  • Limited eligibility – Fewer people are eligible to receive an award, but among this group most will receive a bonus. A consequence of this approach could be that high performers who are not eligible will not be able to receive a bonus.

There’s no right or wrong answer. Every company is different and will approach plan design in a way that best suits them; however, the common underlying thread needed for success is communication.

Other considerations to consider when using incentives include:

  1. Results are better when employees have a clear line of sight into the connection between actual rewards and goals/objectives.
  2. Well-designed incentives reinforce pay philosophy to help build employee engagement, trust, loyalty and culture.
  3. Incentive plans provide the company an alternative to delivering employee compensation in a fixed amount.
  4. Linking goals to short- and long-term incentive plans helps motivate employees to act appropriately and in the best interest of the company.

 

Creating an Ideal Environment

Prior to designing incentives, an organization must be set up to measure performance, have a clear purpose, understand how success is defined and communicate expectations. Those who are selected to receive incentives must be in jobs that are designed appropriately with measurable tasks, goals and objectives, as well as the means available to deliver results. Employees included in the plan must be able to easily understand the job at hand, their purpose and role in achieving it, and see a direct link between their work and the results that come from it.

Company Culture

  • Organization is positioned to accept a pay-for-performance
    platform
  • Success is defined

Job Design

  • Job duties are clearly defined and employee performance can be easily measured
  • Success is linked to job

Employee Temperament

  • Workers understand the goal and accept the pay-for-results proposition
  • Success is rewarding

When designing pay programs — salary, cash or equity incentives — it’s critical to understand a company’s market position. Some companies want to rely mostly on salary for compensation and may want to pay above market. Other companies want to rely mostly on incentives and target salaries below competitive levels, while their bonus and stock amounts may be greater than that of their competitors. Taking a step back to understand your company’s philosophy and objectives as well as defining what the competitive labor market looks like will be key.

Dive Deeper: Linking to the Radford Trends Survey

According to the data from our Radford Trends Survey, the companies we asked all said they wanted to match the market and pay both salaries and incentives at the median. The problem with this is every company defines the market differently, with different peers, regional considerations, industries and the like. That’s why pay isn’t exactly the same for all companies because people look at different markets. Therefore, it’s really important for you to understand your pay objective and the data you use for your analysis needs to be appropriate for that task.

Learn more about how the Radford Trends Survey, now known as the Salary Increase and Turnover Study, can help your company approach compensation planning for the coming year.


Chapter 5: Key Takeaways

  • Variable incentives are any compensation opportunity where payment is not guaranteed and the amount is determined on the basis of short- or long-term performance.
  • Short-term awards are often given in cash while long-term awards are given in equity. 
  • Incentives can help to attract and retain employees, and to help them achieve business goals and drive innovation.
  • Incentives are most effective when employees are motivated by the plan and can directly impact business results.
  • Incentives can be broad or limited in eligibility depending on your company goals. 
  • The first critical decision when designing pay programs is to understand your philosophy and objectives as well as define your competitive labor market.

 

Go to Chapter 6

 

General Disclaimer
The information contained herein and the statements expressed are of a general nature and are not intended to address the circumstances of any particular individual or entity. Although we endeavor to provide accurate and timely information and use sources we consider reliable, there can be no guarantee that such information is accurate as of the date it is received or that it will continue to be accurate in the future. No one should act on such information without appropriate professional advice after a thorough examination of the particular situation.

Terms of Use
The contents herein may not be reproduced, reused, reprinted or redistributed without the expressed written consent of Aon, unless otherwise authorized by Aon. To use information contained herein, please write to our team.



Ready to Learn More?

We're ready to tackle your biggest talent & rewards challenges. Let us know how best to reach you and a member of our team will be in touch shortly.


The Rewards Solutions practice at Aon and other Aon group companies will use your personal information to contact you from time to time about other products, services and events that we feel may be of interest to you. All personal information is collected and used in accordance with our privacy statement.

If you do not wish to receive these communications, please check here: