Chapter 4: Incentive Pay

Scanlon Plan

Emphasis on teamwork- employee involvement in teamwork to reduce costs - 2-tiered cost savings suggestion system 1. production-level committees 2. company-wide screening committees - Monetary rewards for productivity improvements...... **based on a ratio of labor costs and sales value of production (SVOP) SVOP= the sum of sales revenue + the value of goods in inventory **Smaller Scanlon Ratio= labor costs/SVOP** want ratio to be smaller

Rucker Plan

Emphasizes employee involvement and monetary incentives - Uses a value-added formula to measure productivity : difference between the value of the sales price and value of materials used to make the product - Larger Rucker ration indicates that the value added is greater than the total employment costs

Referral Plans (individual incentive plans)

Employees receive bonuses for recruitment of highly qualified employees

Behavior Encouragement Plans (individual incentive plans)

Employees receive payments for specific behavioral accomplishments - safety records - attendance

Distribution Methods

Equal Payments: - same for all employees Proportional payments based on annual salary: - presumes higher salaries equate to more contributions to the group and profits Proportional payments based on contribution to profits: - hard to quantify individual employee contribution - not widely used

Profit-Sharing Formulas

Fixed first-dollar-of profits - based on specific percentage or pre- or post- tax annual profits Graduated first-dollar-of profits - percentages increases as pre- or post- tax annual profits increase Profitability threshold formula - profits must exceed a minimum level

Gain Sharing

Group incentive systems that give employees a financial reward based on improved company performance in areas such as increased productivity, lowering costs, and improving safety ** emphasizes employee involvement and giving suggestions

Incentive Pay

Known as variable pay. Rewards employees for partially or completely attaining a predetermined work objective. - one-time rewards given to employees for completely or partially achieving a predetermined work objective

Incentive Pay Considerations

- Based on individual or group performance? - Acceptable level of risk? - Replace traditional pay? - Performance criteria evaluated? - Appropriate time horizon?

Components of Incentive Pay

- Compensation fluctuates according to a pre-established formula, individual or group goals, and company earnings - Augments base pay, appears as a one-time payment - Controls costs - Motivates employees

Deferred Compensation is suppose to...

- Create a sense of ownership - Align the interest of the executive with the interest of the owners or shareholders of the company long term

Company-Wide Performance Measures

- company profits - cost attainment - market share - sales revenue

Group Incentive Performance Measures

- customer satisfaction - labor cost savings - materials cost savings - reduction in accidents - services cost savings

Piecework Plans Disadvantages

- may promote inflexibility - unrealistic standards may hamper employee motivation - setting performance standards is time consuming - factors beyond employees control may affect outcomes - may promote undesirable behaviors

Piecework Plans Advantages

-Incentive Effect: workers willingness to work hard to produce more - Sorting Effect: workers choice to stay versus leave for another job

Incentive Pay Assumptions

1. Individual employees and work teams differ in how much they contribute to the company 2. The company overall performance depends to a large degree on the performance of individuals and groups within the company 3. A company needs to reward employees on the basis of their relative performance in order to attract, retain, and motivate high performers

3 Categories of Incentive Pay

1. Individual- Incentive Plans 2. Group- Incentive Plans 3. Company-incentive Plans

3 Components of Gain Sharing Programs

1. Leadership Philosophy: progressive, involving a cooperative organizational climate 2. Employee involvement through suggestions and problem solving ideas 3. Bonuses awarded when productivity exceeds productivity targets

Gain Sharing Plans (3)

1. Scanlon plan 2. Rucker plan 3. Improshare

Types of Teams for Team Incentive Plans (3)

1. Work (process) teams: refer to organizational units that perform the work of the organization on an ongoing basis ex.) customer service teams, assembly teams on production lines 2. Project teams: consist of a group of people assigned to complete a one-time project ex.) a team of engineers working on the construction of a bridge 3. Parallel teams (task forces): include employees assigned to work on a specific task in addition to normal work duties

Team-Based or Small-Group Based incentive Plans

A small group of employees shares a financial reward when a specific objective is met. Rewards allocated 3 ways.. 1. Equal Incentive payments to all team members 2. Different payments to team members based on their contributions to the goal 3. Different payments determined by a ratio of each team members base pay to the total base pay of the group

Advantages and Disadvantages of Proft-Sharing Plans

Advantages - enable employees to share in companies profits allow companies greater financial flexibility Disadvantages - can undermine the economic security of employees - may fail to motivate employees if they do not see a direct link between their efforts and corporate profits - may lead to turnover of productive employees, if rewards are small

Advantages and Disadvantages of Incentive Plans

Advantages: - Promotes link between pay and performance - Equitable pay enables companies to retain best performers Disadvantages: - Employee may not be able to control factors that affect performance - Loses motivational effect when goals are too high or too low

Advantages and Disadvantages of Group Incentives

Advantages: - companies can more easily develop performance measures for group plans than individual plans (fewer groups than individuals) - greater group cohesion (achieving common goal) Disadvantages: - May lead to higher employee turnover because of the free-rider effect: some employees may make fewer contributions to the group because they posses lower ability, skills, or experience than other group members - Members may feel uncomfortable with the fact that other members performance influences their compensation level

Management Incentive Plans (individual incentive plans)

Award bonuses to managers when they meet or exceed objectives based on sales, profit, production, or other measures for their division ex.) increasing market share - Management incentive plans focus on achieving complex, multiple objectives (MBO)

Employee Stock Option Plans

Company grants employees the right to purchase company stock - to own the stock, employees must exercise the stock option rights by purchasing stock at designated price after a specified period of time - incentivizes employees to be more productivity, with expectation that stock value will increase over time - employees make money by selling stock for more than purchase price

Profit Sharing Plans

Current profit-sharing plans - award cash to employees typically on a quarterly or annual basis as part of core compensation Deferred profit-sharing plans - place cash awards in trust accounts for employees retirement

Improshare

Defined as "Improved Productivity through Sharing" - measures productivity physically rather than on dollar savings - incentive to finish products with fewer labor hours **main focus is on labor-hour ratio - Unlike Scanlon and Rucker Plans, employee participation is not a feature- workers receive bonuses on a weekly basis - includes a buy-back provision

Employee Stock Ownership Plans (ESOPs)

Place company stock in trust account for employees - similar to deferred profit sharing

Stock Compensation Plans

Represent an important type of deferred compensation for executives

Company Stock Shares

Represents equity segments of equal value - equity interest increases positively with the number of stock shares

Company Stock

Represents total equity of a company

Group Incentive Plans

Reward employees for their collective performance, rather than for each employee's individual performance - emphasize importance between and within teams - encourage team members to have predetermined team objects

Individual Incentive Plans

Reward employees whose work is performed independently, and for meeting work-related standards - Piecework plans can be used here to, but typically are used for their production employees

Piecework Plans (individual incentive plans)

Reward workers for every item produced over a designated production standard - uses objective and subjective criteria - quantity and/or quality goals

Company-Wide Incentive Plans

Rewards employees when company meets performance standards - 2 types: profit sharing plans and employee stock options

Time Horizon

Short-term versus Long-term 1. "Rule-of-thumb" is that short-term is five years or fewer 2. Incentives for lower-level employees are: a)usually short-term b) goals are within the control of the employees 3. incentives for professionals and executives are generally long-term