Improving profits by enhanced management incentives.

Improving profits by enhanced management incentives

Many owners and chief executives of small and mid-sized, closely held companies are turning to incentive compensation programs for middle management as one way to increase performance and profits.

The keys to successful incentive

Why the focus on middle management? Middle managers have a very significant effect on company performance because they control many day-to-day operations and their cumulative decisions greatly affect profits. They implement strategic business objectives.

Streamlining and restructuring the ranks of middle management in many companies increased their importance. However, reports indicate that many middle managers are discouraged because they are not seeing reward for their greater efforts and importance.

An incentive compensation program can help resolve such morale problems. But from the perspective of an owner or executive, a good incentive compensation program also can:

* motivate managers to make the best and most

profitable decisions in their daily activities;

* effectively control management

compensation expense; and

* identify and reward high performers.

Defining incentive compensation

An incentive compensation program measures the performance of individual managers or groups of managers against pre-established goals. Available incentive compensation awards are predetermined and each manager earns this compensation based on the level of achievement toward meeting his or her goals.

The key points for an effective incentive program are:

* measuring individual performance;

* establishing measurable criteria;

* predetermining specific goals and

* predetermining compensation.

Historically, many companies have used profit-sharing programs in hopes of providing employees with the incentive to work harder and smarter. Unfortunately, profit sharing is not an effective incentive, as executives at the seminar agreed unanimously, since profits cannot be directly related to individual performance in most cases.

Benefits of an effective program

Effective incentive compensation programs are not easy to establish. Top management must be committed over the long-term to creating an environment in which excellence is pursued, recognized and rewarded. The program relies on trust, fairness and communication to succeed -- standards that must be set at the top.

An incentive program can help create an achievement-oriented working environment in which those managers who contribute most toward the success of the company receive the greatest rewards. The rewards will help attract and retain top performers, including those in positions for which the competition for talent is greatest. (Conversely, the measurement of individual performance will allow senior management to objectively identify and then reduce the number of below-average performers.)

It may take several years or more for a good incentive program to evolve. The cultural change that a program of this type can help bring about will provide many long-term benefits in productivity and profitability.

Elements of a successful program

Owners and executives should start with a business plan, clearly setting the company's goals, objectives and strategies. An incentive plan can help the company reach its goals by rewarding employee performance relative achievements toward those goals. Incentive programs are tools in the implementation of the company's business strategies.

Understanding what motivates and discourages people is the basis of a successful incentive program. People are more likely to work harder when they believe the system is fair and that they can control the criteria on which their performance is being measured. These beliefs are enhanced when managers are involved early in the design and implementation of the program. A key to acceptance of the program is that each manager must believe that he or she can control their destiny by the decisions or actions they take.

Who should participate? The number of managers involved should be substantial to achieve the cultural change desired. In many organizations, all management positions are included in the plan. Consider the negative impact on those who aren't included, especially if they are at the same level on the organization chart as others who are participating.

Goals must be realistic. Goals that are too high can discourage participants. On the other hand, goals that are too low encourages mediocrity. Step goals allow people to earn incentive dollars on a graduated basis as their performance improves. This can be a strong motivator for people to continue to work harder and smarter to reach higher goals and greater rewards.

Performance criteria must relate to each manager's responsibility, decision-making authority and impact on the business. Whenever possible, criteria must be objectively measurable. Subjective criteria must be clearly defined and communicated.

How does incentive pay fit within a compensation package? Incentive pay should not become an extension of the participants' salaries. People don't always meet their goals, so won't always earn incentive pay. The base salary should be competitive, though not necessarily at the high range and should not put the manager's current financial security at risk. A low base salary will make it hard for you to attract quality people to the job, regardless of the higher potential pay under the incentive program.

Rewards should be linked to individual performance. A mechanism should be in place to assure incentive pay is available to individuals who meet their goals even in lean years.

Pride and camaraderie

The benefits of non-monetary incentives shouldn't be overlooked. Awards for performance create pride and camaraderie. Perks such as cars, office position and other benefits can be effective elements of an incentive program.

Finally, the quality of the organizational structure of the company and its information systems will affect the success of an incentive compensation program.

If the organizational structure is poorly defined and lines of authority are unclear, it is virtually impossible to establish goals and set criteria within a participant's ability to control.

Information systems must be adequate to record the data necessary to effectively measure performance. Before the program is implemented, information systems should be reviewed to make sure they can provide the required reporting of performance criteria.

Conclusion

An incentive program can help bring about positive cultural changes in your company that will help boost profits. But it won't be a cure-all. Owners and top executives must have certain qualities -- fairness, communications, respect, clear direction -- in place for an incentive program to be a success.