MOTIVATING
THE MASSES - INCENTIVE PLANS THAT WORK
By William B. Duff, Katten Muchin Rosenman LLP
As many employers
have found in recent years, the competition for the most skilled
and talented workers is often decided on the basis of overall
compensation. Attracting and retaining individuals has required
employers to offer more than just competitive salaries and solid
benefits. As a result, many employers have begun to rely increasingly
on incentive compensation programs to retain employees and motivate
them over the short and long term. Here are some points to be
considered when an employer sets out to establish an incentive
program.
Purpose
of the Program
An employer must decide whether the purpose of the program is
retain employees or incentivize employees to achieve specific
performance objectives, or both. To the extent that the goal is
to incentivize employees to achieve specific performance goals,
the employer must develop a program that provides for the payment
of an award upon the attainment of specific performance goals
over a specified performance period - usually 1-3 years. To the
extent that the goal is to retain employees, payment of awards
must be tied to service over a period of time - usually three
to five years.
Kinds of
Awards to Offer and How Much to Spend
For the program to be successful, an employer must be willing
to provide awards of a size sufficient to motivate employees.
This is a delicate balance. A program that is too rich may create
an undue financial strain for the employer and, if the awards
are large enough, may actually fund an employee's early departure.
A program that is too modest will fail to motivate, and risks
undermining morale.
The amount
an employer is willing to spend on a program may determine the
types of awards under a program. An employer that has a healthy
cash flow might opt to use cash awards. An employer that has less
cash flow may opt to provide equity. In fact, one approach to
providing a generous program with little cost is that of providing
equity. Equity awards could include grants of stock options (the
right to purchase employer stock at specified price), restricted
stock (stock that is transferred to an employee and vests over
a period of time) and stock appreciation rights (the right to
receive the appreciation in underlying stock from the date of
grant to the date of exercise). However, new accounting rules
that require the cost of many equity awards to be reflected on
balance sheets have made this approach less attractive. Moreover,
equity awards granted by privately held employers raise issues
as to the marketability of stock in the hands of the employee
and valuation of the stock for purposes of the program. In light
of the volatility of the equity markets, marketability and valuation
issues, and less favorable accounting treatment of equity awards,
cash programs have become more popular.
The amount
of the awards should be competitive within an employer's industry.
Awards should also be structured so that partial attainment of
goals (assuming a threshold level of performance) will provide
employees with a partial award. This approach will continue to
motivate employees even if they are unable to attain in full the
established targets. From a retention standpoint, partial awards
will also encourage employees to remain with the employer with
a view towards receiving at least a partial award.
Appropriate
Goals
Regardless of whether a program is intended to retain or motivate
employees, it is important for the performance goals to be realistic.
Failure to set realistic goals would likely erode morale, decrease
productivity and actually motivate employees to find other employment
(an unwelcome result - especially if the program was aimed at
retention.) However, if goals are too easily obtainable, the program
could be viewed by the employees as an entitlement rather than
an incentive, with the result that employees will expect an award
as a normal part of compensation, rather than having to earn one.
Goals are generally divided into two categories: Company Performance
Goals and Personal Goals. Company Performance Goals include, for
example, attainment of certain EBITDA levels, return on equity,
stock price, and cash flows. Personal goals may include attainment
of certain personal productivity levels and, in the case of more
rank and file employees, such basic goals as threshold levels
of attendance.
It is of utmost importance for goals to be clearly stated and
enforced. A clear statement of goals will avoid needless misunderstandings
that tend to erode employee morale. To be effective, the program
must be objectively enforced. Failure to enforce the requirements
of a program will diminish its effectiveness.
Administration
Any incentive program must be fairly administered and must
give employees an opportunity to gauge their performance over
the performance period. Administration should preferably be by
a Committee that sets performance goals, determines the size of
awards and determines the extent to which performance goals have
been achieved. Use of the Committee is preferable to that of an
individual administrator in that a Committee may provide a sense
of impartiality in the administration of a program.
Conclusion
There is no single magic incentive program that is suitable
for all employers. Employers wishing to establish an incentive
program should consider the foregoing in light of their particular
industry and workforce.
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William
B. Duff is Chair of the Employee Benefits and Executive Compensation
Department of Katten Muchin Rosenman LLP. Mr. Duff practices
in the areas of employee benefits, including ERISA, executive
compensation, employment law and related tax issues. Please
feel free to share your comments and thoughts. His email is
william.duff@kattenlaw.com. |
©
2006 by William B. Duff. This article is not to be construed as
legal or tax advice. CIRCULAR 230 DISCLOSURE: Pursuant to regulations
governing practice before the Internal Revenue Service, any tax
advice contained herein is not intended or written to be used
and cannot be used by a taxpayer for the purpose of avoiding tax
penalties that may be imposed on the taxpayer.
