PERFORMANCE BASED AWARD SCHEME
by Ashit K. Sarkar
3E, Palmtree Place, 23 Palmgrove Road, Bangalore - 560047 Ph: (080)25540393
E-mail: [email protected]
(An article discussing the concept, and explaining a possible methodology
with a practical working example - for the above recent way of rewarding)
The after effect of post liberalization era in India has brought in greater job opportunities and strong competition amongst organizations, which necessitates far greater attention to manager motivation to attract and/or to retain the high performing Managers. Recognition and rewarding for performance has been identified as one of the most important prime motivator in all organizations striving for excellence. Other factors and stimulators (including ESOP's, or general review of terms necessary to remain competitive) are not being discussed here in this article, as only Performance Award is being focused here. Granting promotion as a reward is often no longer possible in today's flatter organizations with lesser number of management levels and clearly defined & approved structures, unless the job enlarges with the upgrade. With the lifting of the managerial Salary ceilings imposed by the Government earlier for Directors, the salary differential expectations for good performance has now become possible, and more importantly since generally larger salary increases have now become a general practice, as compared to the past. However, it may be noted that the operative word for satisfaction is the "differential", and not necessarily just the increase!
The earlier practice was generally to give increases to all within a narrow range, with usually a larger increment in the basic salary to the high performing individual, or to give a grade promotion, which attracted higher allowances & benefits. Any increase in the total salary became the base for the next year and continued for the rest of the service period. Therefore, a large amount of additional increase had substantial long term cost impact, and was generally restricted with Salary ceilings being operational.
Difficulties were often experienced with the Basic Salaries of high performers reaching the scale maximum quickly, and the low differentials in the increments not satisfying good performers. Therefore, once off Performance Award or Bonus is now getting to be one of the more effective methods of a reward for performance - which is visibly substantial, and is a non-recurring cost in future years (unless of course, the future performance levels entitle the individual to such awards). The large lump sum Performance Award amount is perceived as much more satisfying, often at no extra cost or even at a lower total cost to the organization in the long run. At the same time it encourages managers to continue striving for even better awards in the coming years - a very desirable outcome for the organization. It also focuses the efforts of the managers & teams to the key results required during the year with the Award amounts being known targets to be achieved!
Better appraisal systems are now generally being used, which are transparent, and reflect mainly on objectives achieved during the year against agreed targets in advance, rather than mostly on general capabilities and strengths of the individual. The reward methodology has become more performance and result oriented, rather than reflecting on effort, capability and potential factors. With regular review systems, the consequent improved gains to the organization as a result of meeting such targets in the key result areas are also clearly evident to the performer, and to all others, and are certainly considered to be more fair and objective.
A combination of an Award and a better increment is possibly the best solution for the high performing managers. For the Average performer, a nominal increase over the inflation and for Poor performers little or no increase may be given, resulting in cost savings from the more generous increases to all - as in the past, which now contributes to the Award costs. With improved organizational results due to better performance levels, there will also be more money available for distribution.
ESSENTIAL PRE-REQUISITES BEFORE INTRODUCING AN AWARD SYSTEM:
However, any Award system requires great care and thought, and also heavily depends on a good appraisal system and other support facilities. Further, the organization plans have to be detailed and outcome results must be planned for carefully, and individual and group performance targets have to be agreed and communicated. The periodic review system must also be fair and robust. They need to be transparent, open and accepted as fair, which provide a reasonably fair opportunity to each manager to be able to get awards with high performance. This necessitates balanced allocation of achievable major objectives for each manager individually, and also as a team member. There could be some awards shared by all for overall performance (e.g. increased profitability or growth), or for all in a function, or section, meeting their general targets or objectives. The rewards must be balanced between the main contributor of the result, and the team members. Without this, overall performance will suffer, as individuals will only pursue their personal objectives, and the team effort is likely to be ignored. It is important that all managers in the same grade have reasonable opportunity to get similar maximum award amounts with high performance. Since all performances cannot be measured accurately, some degree of judgment will have to be accepted, and to avoid any ad-hocism, contributions towards long term benefits as against immediate results will also have to be balanced. These factors will need care and review before finalization of the Awards. It may also be understood that the Award system has to be lasting - it cannot be changed often or easily, and the amounts are expected to increase with time, and not be reduced! Therefore clear-cut policies have to be framed first.
While the overall increase may be seen in %age - which is an accounting tool, the actual increases should mostly be in "Amounts" - usually same amount for each sub-group (minor part may be linked to individual gross or salary, only if considered essential). It may be noted that %age based method increases the differentials between individuals, which may not be for performance, and be counter productive.
POSSIBLE EXAMPLE OF A VERY BASIC SIMPLIFIED METHODOLOGY:
Let us plan in the following imaginary scenario (for one level of managers):
· All costs in CTC (Cost to Company) basis per month
· Assume there are 100 Jr. Mgrs., at an Avg. gross CTC @ Rs. 10000 p.m.
· Appraisal rates them as: 5% Poor; 75% Avg.; 15% Above Avg. & 5% Outstanding
· The Board or the Top Management approves a modest gross overall recurring cost increase @ 12%, including general improvement due to inflation & towards matching the competitive market, for the previous year's results, & for any AWARD costs (converted to recurring figure), permitting a larger immediate lump-sum cash flow for this purpose.
· To improve market competitiveness, a minimum compensation improvement of Rs 500 p.m. is considered to be essential, and the inflation has been 8% in the previous year.
A POSSIBLE METHODOLOGY:
§ To meet the general increase (& remain competitive), increase of Rs 500 p.m. (5% of Avg CTC) all round – possibly in Grade Allowances - along with extension of grade scale may be carried out.
§ Thereafter, in order to remain at 12% increase, distribute the balance 7% of Avg. CTC in the following manner: NIL for Poor performance; @ 5% to'Avg'.; @7% (+3% towards Award) to 'Above Avg.'; & @10% (+25% towards Award) to 'Outstanding' performers. (The latter Award %age figure of the increase for 'Above Avg.'. & 'Outstanding' is for only for conversion to Once Off Lump Sum Award Amount, and it is NOT AN INCREASE in the monthly Salary package). The basis for computing the Once off Gross amount will be using a multiplier factor (X) to the Award, as explained below.
§ While this example does not include Team or Group Awards, provision from total permitted increase may be planned for distribution, using similar methodology.
It may be noted that for Avg. Performance, the increase has been more than the inflation by 2%, making it 10%, i.e. Rs 1000 p.m. TOTAL INCREASE for all the Managers in this performance level category (the actual percentage increase for individuals will vary depending on their actual Salaries in relation to the Average Salary for the group).
Those performing poorly have still been granted the general increase of 5% (Rs 500), which could be given in the Allowances and not in the Basic Salary.
The following matrix may help in understanding the above figures, methodology & the outcome, along with the calculations:
HEADINGS (against Performance Ratings)
Number of Jr. Managers:
General Grade Allowance Increase (Rs)
Perf Increment CTC / p.m. (Rs) NOTE #
MONTHLY ACTUAL GROSS INCREASE (Rs)
Resulting Monthly CTC Increase %age
PERF Once-off Award/Each (Max Rs)
Notional Cost /capita pm of Award ($)
Converted Using X factor (see below)
Total Per Capita Notional Gross cost/mth (Rs.)
Gross Total Notional cost increase/mth (Rs)
Resultant % increase (incl impact of Award)
(NOTE # : The amount is inclusive of any indirect costs on the Basic Salary increase as well)
(The maximum Annual Award Amount will be the multiple of the above"$" figure by Factor "X" – as explained below – for the notional recurring cost. The Award Notional cost will total 300X15+2500X5, or Rs 17,000 pm., and the Mthly Actual Gross is 500X5+1000X75+1200X15+1500X5 = Rs 103,000 pm. As such, the Notional Total Increase "@" remains at Rs 120,000, i.e. permitted 12% of Gross CTC.)
MULTIPLIER FACTOR ("X") DETERMINATION:
Conversion of 'limited period regular fixed amount payment' to a once-off immediate lump-sum amount may be done by using the financial method of determining the "present cost" of such recurring amounts, which depends on the interest rate, frequency & the period of payment. For example @ 10% interest rate, the present cost of a (i) 25 year, or (ii) 20 year, regular monthly payment of Rs. 100 works out to approx. Rs. 11000 (for i) or Rs. 10400 (ii), which makes the factor ("X") as 110 or 104 respectively for the above situations. While the Award payments require higher cash flow immediately, the notional recurring costs permit comparison. The decision for deciding the above factor ("X") can therefore be moderated as considered necessary, using the "present value" formula.
For the example above, the "X" factor of 100 has been used, resulting in Abv Avg performers getting a maximum Once Off Award of Rs 30,000, & Outstanding performers an Award of upto Rs 2.5 Lakhs each)
It may be noted that many of the "Average" performers may actually be eligible to share or get some of the Awards due to their participation or help in getting results in some of their Key areas as Team Members. As such, Abv. Avg. & "Outstanding" may only get part of the Award amount, and not the Maximum Award amounts shown. This "fine tuning" (group performance sharing) is an important motivator for overall performance improvement, and recognition of the "team effort", and must be built into the Award Scheme design carefully, and be part of Result planning in advance.
Actual high cash disbursement amount for the Award payments (without future recurring costs) should be more visibly satisfying. The costs remain within the directions of the Board to limit overall costs to 12% annually on notional recurring basis, in this example.
The above very simplified example of valuing recurring and once off payment together to plan for the Salary Review exercise provides a fairly logical methodology, but the distribution & amounts etc. obviously will vary from organization to organization. The needs and situation will require many other factors to be included. Further fine-tuning to cover the entire management staff at all levels will be necessary in a logical and acceptable way, including deciding on Team award amounts (within overall sanctioned limits) and the eligibility basis for each participant - this is a vital requirement in developing a just and fair rewarding system.
Transparency & openness of the reward system, fairness of the appraisal methodology and the help, sensitivity and support from the top management with clearer perception of the aspirations of the managers goes a long way in making the reward philosophy to be a positive motivator in the organization, along with other factors.