Should we Pay for Performance? What do you think?

Dan, a reader of LSS Academy, recently emailed me this excellent question.  I was hoping to get your help as I formulated a response.  Here is Dan’s question.

Ever since I studied process improvement at BYU I learned about E. Deming and learned that he was a catalyst in the change that occurred in Japan.

One of Deming’s points or teachings is about rewards or pay for performance. Deming has been asked what the alternative is for merit pay increases and his response has been anything else would be better.

Well, that doesn’t really help me out. I am a supervisor for a manufacturing company and our current system of performance reviews and pay increases needs an overhaul. I have two challenges:

1. What is a better alternative?
2. How do I help my management buy into it?

Any ideas? Thanks for your help.

What do you think?

10 Comments

  1. John Hunter

    October 3, 2010 - 5:40 pm

    Pay people a fair wage based on skills. Give increases for longevity. Provide some profit sharing. See pages 330-334 of the Leader’s Handbook (and the rest of the book too).

  2. James Considine

    October 4, 2010 - 6:48 am

    I’ve seen this done a few ways – invariably, sizeable performance-based incentives leads to myopically looking at whatever levers generate the biggest bonus for the individual – often at the expense of the whole. Not to mention gaming metrics for the purposes of bonus enhancement (see Wall Street).

    I’d be more in favor of a gainshare program where the incentives are tied to the overall company performance, vs. individuals, departments, cells, etc. That way there’s at least a tie-in to the organization as a whole, which at the end of the day is the only performance that matters.

  3. David Ellison

    October 4, 2010 - 6:51 am

    We do pay for performance. We use a balanced scorecard that is made mostly of leading indicators and allows the employees to be bonused at 3 levels – min, target, and max.

    We work very hard to make sure these leading indicators can be influenced by the employee. We also play “catch ball” with the employee when setting the scorecards up each quarter to make sure they are bought in to the goals.

    It’s not perfect but this system has been serving us very well the past few years.

  4. Mark Welch

    October 4, 2010 - 7:45 am

    I agree wholeheartedly with James Considine above. I’ve seen very nasty gamesmanship and the creation of kingdoms/silos warring with each other under individual pay for performance plans, especially with they are competitive vs. cooperative, like G.E’s system where there can only be a few top performers, a large group in the middle, then the bottom 10% who are let go. When we think about it, doesn’t most everyone work within a system? Do we want to reward heroism or promote teamwork? Public recognition (and even private) and praise is much more meaningful for the most part.

  5. Janar Eit

    October 5, 2010 - 10:44 am

    Measure improvements instead of performance and pay for that. Improvement does not have to be 10% of OEE increase of course:)

    Number of small improvements instead perhaps? Share from saved costs, share from improved performance, bonus for reduced safety risks, etc.

  6. Alex

    October 5, 2010 - 12:32 pm

    It sounds like you are looking for an overhaul of your system of performance reviews and pay increases. I suggest the book “Abolishing Performance Appraisals: Why They Backfire and What to Do Instead” by Coens and Jenkins.

    In it, the authors deconstruct the appraisal and merit pay systems in place at most organizations by revealing the unhealthy assumptions inherent in the practice. They addresses the two key questions you ask above.

    And yes, the title is likely to shock anyone who sees the book on your desk – just as Deming’s comments would.

  7. Adam Schwartz

    October 12, 2010 - 6:52 am

    You may find some of your answer in another blog post here on LSSAcademy: https://blog.gembaacademy.com/2010/07/23/what-motivates/.

    Enough pay to take money off the table and then provide people a purpose, opportunity to master something, and autonomy. Why do performance reviews at all? As the video in the other post says, sounds kinda socialist, but just because it flies in the face of traditional wall-street management thinking doesn’t make it wrong.

  8. Jay Godse

    October 30, 2010 - 9:44 pm

    This is a tough question. Measuring up is the best way to gauge rewards. i.e. Give rewards based on team performance. Performance metrics should be related to operating profit of the unit. The unit has to be small enough that individuals can feel that their efforts will pay off. The team should also be able to get rid of low performers who are dragging down performance and refuse to improve their skills or work products.

    However, the scheme above only works for companies that have stable and low marketing and sales costs per person, and steady demand for the products. Otherwise, sales and marketing costs can eat through profit margins very quickly and a productive and efficient team can have their bonuses eaten up by unpredictable sales and marketing costs.

    For sales folks, the best compensation scheme is one that bases commissions as a percentage of the profit, where profit is the product price less the product cost, marketing cost, and sales cost. That leaves the sales person free to do whatever he wants to make the sale, as long as he is profitable. If the product is sold at less than the costs of product, marketing, and sales, then there is a negative commission which carries forward until profitable sales cancel it, or the salesman is fired. The costs of account management should also come off the commissions. This gives sales people strong incentives to price products properly, find good long-term customers that are high profit and low-maintenance.

    For product development folks, don’t offer any bonuses. Their work is too unpredictable for bonuses to have any meaning. We’ve all seen mediocre product people make great money because they were a part of a great organization, and we have seen product development superstars make no bonuses because they built great products that the company couldn’t sell. For product development people, offer company stock as a part of their compensation package so that they have an immediate vested interest in the corporate valuation.

  9. Dan McCrory

    January 9, 2011 - 9:12 am

    There’s a book called ‘Drive’ by Dan Pink. This youtube video sums it up nicely: http://www.youtube.com/watch?v=u6XAPnuFjJc

    We saw the video first which got us interested enough so that a bunch of us at our company read his book. After a lot of discussion we ended up changing our compensation system.

    The premise of the book is that there is a wealth of scientific proof that rewarding people for performance actually has a negative effect. You need to tap into people’s intrinsic motivation, make sure they have opportunity for autonomy, mastery, and purpose.

    Watch the video, read the book…if you have questions about it feel free to ask!