1. PowerPoint Presentation by Charlie Cook Copyright © 2004 South-Western. All rights reserved.

2. 10–2 Objectives After studying this chapter, you should be able to: 1.Discuss the basic requirements for successful implementation of incentive programs. 2.Identify the types of, and reasons for implementing, individual incentive plans. 3.Explain why merit raises may fail to motivate employees adequately and discuss ways to increase their motivational value. 4.Indicate the advantage of each of the principal methods used to compensate salespeople.

3. Copyright © 2004 South-Western. All rights reserved.10–3 Objectives (cont’d) After studying this chapter, you should be able to: 5.Differentiate how gains may be shared with employees under the Scanlon, Rucker, Improshare, and earnings-at-risk gainsharing systems. 6.Differentiate between profit-sharing plans and explain advantages and disadvantages of these programs. 7.Describe the main types of ESOP plans and discuss the advantages of ESOP to employers and employees.

4. Copyright © 2004 South-Western. All rights reserved.10–4 Strategic Reasons for Incentive Plans Variable Pay  Tying pay to some measure of individual, group, or organizational performance. Incentive Pay Programs  Establish a performance “threshold” to qualify for incentive payments.  Emphasize a shared focus on organizational objectives.  Create shared commitment in that every individual contributes to organizational performance and success.

5. Copyright © 2004 South-Western. All rights reserved.10–5 Advantages of Incentive Pay Programs Incentives are most useful when:  Focused on key performance targets that produce employee and organizational gains.  Variable costs of payouts are linked to the achievement of competitively important results.  Directly relating payouts to achieving operating performance objectives (quantity and/or quality).  Teamwork and unit cohesiveness are fostered by basing payments to individuals on team results.  Used to distribute success among those responsible for producing that success. Figure 10.1 Presentation Slide 10–1

6. Copyright © 2004 South-Western. All rights reserved.10–6 Employee Opposition to Incentive Plans Production standards are set unfairly. Incentive plans are really “work speedup.” Incentive plans create competition among workers. Increased earnings result in tougher standards. Payout formulas are complex and difficult to understand. Incentive plans cause friction between employees and management. Presentation Slide 10–2

7. Copyright © 2004 South-Western. All rights reserved.10–7 Types of Incentive Plans INDIVIDUALGROUPENTERPRISE PieceworkTeam compensationProfit sharing Standard hour planScanlon PlanStock options BonusesRucker PlanEmployee stock Merit pay Improshare ownership plans Lump-sum merit payEarnings-at-risk plans (ESOPs) Sales incentives Incentives for professional employees Executive compensation Figure 10.1 Presentation Slide 10–3

8. Copyright © 2004 South-Western. All rights reserved.10–8 Successful Incentive Plans Employees have a desire for an incentive plan. Employees are encouraged to participate. Employees see a clear connection between the incentive payments they receive and their job performance. Employees are committed to meeting the standards. Standards are challenging but achievable. Payout formulas are simple and understandable. Payouts are a separate, distinct part of compensation.

9. Copyright © 2004 South-Western. All rights reserved.10–9 Assessing Incentive Program Effectiveness HRM 1 Source: Christian M. Ellis and Cynthia L. Paluso, “Blazing a Trail to Broad-Based Incentives,” WorldatWork Journal 9, no. 4 (Fourth Quarter 2000): 33–41. Used with permission, WorldatWork, Scottsdale, Arizona.

10. Copyright © 2004 South-Western. All rights reserved.10–10 Setting Performance Measures—the Keys Managers or supervisors should:  Ensure that performance measures are consistent with the strategic goals of the organization.  Define the intent of performance measures and champion the cause relentlessly.  Involve employees at all levels.  Consider the organization’s culture and workforce demographics.  Widely communicate the importance of performance measures. HRM 2 Source: Source: Adapted from Christian M. Ellis, “Improving the Impact of Performance Management,” Workspan 45, no. 2 (February 2002): 7–8.

11. Copyright © 2004 South-Western. All rights reserved.10–11 Effective Incentive Plan Administration Grant incentives based on individual performance differences. Have the financial resources to reward performance. Set clearly defined, accepted, and challenging yet achievable performance standards. Use an easily understood payout formula Keep administrative costs reasonable. Do not “ratchet up” performance standards.

12. Copyright © 2004 South-Western. All rights reserved.10–12 Individual Incentive Plans Straight Piecework  An incentive plan under which employees receive a certain rate for each unit produced. Differential Piece Rate  A compensation rate under which employees whose production exceeds the standard amount of output receive a higher rate for all of their work than the rate paid to those who do not exceed the standard amount.

13. Copyright © 2004 South-Western. All rights reserved.10–13 Computing the Piece Rate hourper units 5 unit)per time(standard minutes 12 hour)(per minutes 60 = unitper $1.50 hour)(per units 5 rate)(hourly $7.50 =

14. Copyright © 2004 South-Western. All rights reserved.10–14 Piecework drawbacks Problems with piecework systems:  Piecework standards can be difficult to develop.  Individual contributions can be difficult measure.  Not easily applied to work that is highly mechanized with little employee control over output.  Piecework may conflict with organizational culture (teamwork) and/or group norms (“rate busting”).  When quality is more important than quantity.  When technology changes are frequent.  When cross-training is required for scheduling flexibility.

15. Copyright © 2004 South-Western. All rights reserved.10–15 Individual Incentive Plans: Standard hour plan  An incentive plan that sets pay rates based on the completion of a job in a predetermined “standard time.”  If employees finish the work in less than the expected time, their pay is still based on the standard time for the job multiplied by their hourly rate.

16. Copyright © 2004 South-Western. All rights reserved.10–16 Bonuses Bonus  Incentive payment that is supplemental to the base wage for cost reduction, quality improvement, or other performance criteria. Spot bonus  Unplanned bonus given for employee effort unrelated to an established performance measure.

17. Copyright © 2004 South-Western. All rights reserved.10–17 Merit Pay Merit Pay Program (merit raise)  Links an increase in base pay to how successfully an employee achieved some objective performance standard. Merit Guidelines  Guidelines for awarding merit raises that are tied to performance objectives.

18. Copyright © 2004 South-Western. All rights reserved.10–18 Merit Pay Guidelines Chart HRM 3 QUINTILE (POSITION IN RANGE),% PERFORMANCE LEVEL12345 Outstanding (5)99876 Superior (4)77654 Competent (3)55433 Needs improvement (2)00000 Unsatisfactory (1)00000 MERIT PAY GUIDE CHART

19. Copyright © 2004 South-Western. All rights reserved.10–19 Problems with Merit Raises Inadequate funding for merit increases. Vagueness in how to define and measure performance. Employees not believing that merit compensation is tied to effort and performance Allowing organizational politics to influence merit pay decisions. Failing to differentiate between merit pay and other types of pay increases. Mistrust between management and employees. An “overall” merit pay plan that does not motivate.

20. Copyright © 2004 South-Western. All rights reserved.10–20 Motivation Through Merit Raises Develop employee confidence and trust in performance appraisal. Establish job-related performance criteria. Separate merit pay from regular pay. Distinguish merit raises from cost-of-living raises. Withhold merit payments when performance declines. Presentation Slide 10–4

21. Copyright © 2004 South-Western. All rights reserved.10–21 Lump-Sum Merit Pay Lump-sum Merit Program  Program under which employees receive a year-end merit payment, which is not added to their base pay.  Advantages  Provides financial control by maintaining annual salary expenses and not escalating base salary levels.  Contains employee benefit costs for levels of benefits normally calculated from current salary levels.  Provides a clear link between pay and performance.

22. Copyright © 2004 South-Western. All rights reserved.10–22 Sales Incentives Straight Commission Sales Incentive Plans Straight Salary Salary and Commission Combinations

23. Copyright © 2004 South-Western. All rights reserved.10–23 Incentive Plans for Salespersons Straight Salary Plan  Compensation plan that permits salespeople to be paid for performing various duties that are not reflected immediately in their sales volume.  Encourages building customer relationships.  Provides compensation during periods of poor sales.  May not provide sufficient motivation for maximizing sales volume.

24. Copyright © 2004 South-Western. All rights reserved.10–24 Incentive Plans for Salespersons Straight Commission Plan  Compensation plan based upon a percentage of sales.  Disadvantages  Emphasis is on sales volume rather than on profits.  Customer service after the sale is neglected.  Earnings tend to fluctuate widely between good and poor periods of business.  Temptation to grant price concessions to get sales.

25. Copyright © 2004 South-Western. All rights reserved.10–25 Incentive Plans for Salespersons Combined Salary and Commission Plan  A compensation plan that includes a straight salary and a commission component (“leverage”).  Advantages  Combines the advantages of straight salary and straight commission forms of compensation.  Offers greater design flexibility to develop the most favorable ratio of selling expense to sales.  Motivates sales force to achieve specific company marketing objectives in addition to sales volume.

26. Copyright © 2004 South-Western. All rights reserved.10–26 Incentives for Professional Employees Profit sharing and stock ownership Double-track wage systems Managerial and Executive Incentives Bonuses and merit increases Performance incentive bonuses Executive perquisites (perks)

27. Copyright © 2004 South-Western. All rights reserved.10–27 Executive Compensation The Executive Pay Package  Base salary  Short-term incentives or bonuses  Long-term incentives or stock plans  Perquisites (perks)

28. Copyright © 2004 South-Western. All rights reserved.10–28 Types of Long-Term Incentive Plans Figure 10.3a Stock Price Appreciation Plans Stock Options Stock Appreciation Rights (SARS) Stock Purchase Phantom Stock Restricted Stock/Cash Plans Restricted Stock Restricted Cash Performance-Based Plans Performance Units Performance Shares Formula-value Grants Dividend Units

29. Copyright © 2004 South-Western. All rights reserved.10–29 Types of Long-Term Incentive Plans Figure 10.3b

30. Copyright © 2004 South-Western. All rights reserved.10–30 Types of Long-Term Incentive Plans (cont’d) Figure 10.3c

31. Copyright © 2004 South-Western. All rights reserved.10–31 Types of Long-Term Incentive Plans (cont’d) Figure 10.3d

32. Copyright © 2004 South-Western. All rights reserved.10–32 Criticisms of Executive Incentive Plans Incentive payments are excessive compared with return to stockholders. Time periods for judging and rewarding performance are too short. Quarterly earnings growth is emphasized at the expense of research and development. Emphasis is placed upon equaling or exceeding executive salary survey averages. Benefits do not relate closely to individual performance. Presentation Slide 10–5

33. Copyright © 2004 South-Western. All rights reserved.10–33 The “Sweetness” Of Executive Perks HRM 4

34. Copyright © 2004 South-Western. All rights reserved.10–34 Group Incentive Plans Team Incentive Plans  Compensation plans where all team members receive an incentive bonus payment when production or service standards are met or exceeded. Establishing Team Incentive Payments  Set performance measures upon which incentive payments are based  Determine the size of the incentive bonus.  Create a payout formula and fully explain to employees how payouts will be distributed.

35. Copyright © 2004 South-Western. All rights reserved.10–35 Group Incentive Plans Gainsharing Plans  Programs under which both employees and the organization share the financial gains according to a predetermined formula that reflects improved productivity and profitability.

36. Copyright © 2004 South-Western. All rights reserved.10–36 The Pros of Team Incentive Plans Team incentives are effective when:  They support group planning and problem solving, thereby building a team culture.  The contributions of individual employees depend on group cooperation.  They broaden the scope of the contribution that employees are motivated to make.  They reduce employee jealousies and complaints over “tight” or “loose” individual standards.  They encourage cross-training and the acquiring of new interpersonal competencies. Figure 10.4a

37. Copyright © 2004 South-Western. All rights reserved.10–37 The Cons of Team Incentive Plans Team incentives are ineffective when:  Individual team members perceive that “their” efforts contribute little to team success or to the attainment of the incentive bonus.  Intergroup social problems—pressure to limit performance and the “free-ride” effect— arise.  Complex payout formulas are difficult for team members to understand. Figure 10.4b

38. Copyright © 2004 South-Western. All rights reserved.10–38 Lessons Learned: Designing Effective Gainsharing Programs Enlist total managerial support. Include all groups—labor, management, employees. Prevent political gamesmanship. Bonus formulas must be fair, precise and easily calculated, offer frequent payouts, large enough to encourage employee effort, and create a pay-for- performance environment. Be certain that employees are predisposed to a gainsharing reward system. Launch the plan during a favorable business period. HRM 5

39. Copyright © 2004 South-Western. All rights reserved.10–39 Scanlon Plan Rewards come from employee participation in improving productivity and reducing costs. Rucker Plan (SOP) Shared rewards come from the difference between labor costs and sales value of production. Improshare Gainsharing based on increases in productivity of the standard hour output of work teams. Employee Bonus and Gainsharing Plans Earnings-at- risk Encourages employees to achieve higher output and quality standards by placing a portion of their base salary at risk of loss.

40. Copyright © 2004 South-Western. All rights reserved.10–40 Bonus and Gainsharing Plans Scanlon Plan  Employee and management committees cooperate in cost-reduction improvements. Rucker Plan  Bonus based on the relationship between the total earnings of hourly employees and the production value created by the employees. Improshare  Gainsharing program for bonuses are based upon the overall productivity of the work team.

41. Copyright © 2004 South-Western. All rights reserved.10–41 Scanlon Plan Suggestion Process Figure 10.5

42. Copyright © 2004 South-Western. All rights reserved.10–42 Earnings-at-Risk Plans Profit Sharing  Any procedure by which an employer pays, or makes available to all regular employees, in addition to their base pay, current or deferred sums based upon the profits of the enterprise.  Agreement over division of profits between company and employees.  Possibility of no payout due to financial condition of company.

43. Copyright © 2004 South-Western. All rights reserved.10–43 Earnings-at-Risk Plans Earnings-at-Risk Incentive Plans  A portion of the employee’s base pay is placed at risk, but employees are given the opportunity to earn income above base pay when goals are met or exceeded.

44. Copyright © 2004 South-Western. All rights reserved.10–44 Earnings-at-Risk Incentive Plans Stock Options  Granting employees the right to purchase a specific number of shares of the company’s stock at a guaranteed price (the option price) during a designated time period.  The value of an option is subject to stock market conditions at the time that option is exercised.

45. Copyright © 2004 South-Western. All rights reserved.10–45 Earnings-at-Risk Incentive Plans Employee Stock Ownership Plans (ESOPs)  Stock plans in which an organization contributes shares of its stock to an established trust for the purpose of stock purchases by its employees.  The employer establishes an ESOP trust that qualifies as a tax-exempt employee trust under Section 401(a) of the Internal Revenue Code  Stock bonus plans are funded by direct employer contributions of its stock or cash to purchase its stock.  Leveraged plans are funded by employer borrowing to purchase its stock for the ESOP.

46. Copyright © 2004 South-Western. All rights reserved.10–46 Employee Stock Ownership Plans Rewards and Risks of ESOPS AdvantagesAdvantagesDisadvantagesDisadvantages Liquidity and value Pride of ownership Deferred taxes Single funding basis Not insured Retirement benefits