The traditional pay model involves compensating staff members according to their grade level, education, experience and level of responsibility. By contrast, with performance- or competency-based pay, an employer determines a staff member’s pay based on that person’s success in performing his or her duties.
Aside from the most common type of performance management scheme involving salary increases based on an individual’s performance, other types of performance-based pay include: incentive schemes, such as sales commissions, which are usually separate from base pay; and group incentive schemes, which divide between employers and staff the gains from human productivity. These can include profit sharing and employee stock ownership plans.
While providing commissions to sales staff has been a common practice for several centuries, performance-based pay has been increasingly heralded by employers in recent decades, particularly across the corporate and public sectors and in many education and health systems. The ability of performance-based pay to attract and motivate staff is valued by employers since it enhances organizational performance and profitability. This pay system also often standardizes pay according to objective performance levels, helping to overcome staff members’ fears of favoritism by employers.
However, critics of performance-based pay argue that the system can be ineffective if staff members disagree with employers on the performance standards, and individual incentives may not succeed if teamwork is an organizational goal. Additionally, during times of downturn, organizations may not be able to fund their performance-based pay systems adequately.
Structuring performance-based pay systems is largely dependent on the type and makeup of an organization, the nature of its workforce and any constraints within which it operates. However, fundamental to any performance-based pay system are setting organizational and system objectives, effective approaches to staff communication, system evaluation, training in the mechanics of the system and overall system transparency. Additionally, key performance indicators should be identified at the beginning of a performance or pay period. These indicators should be agreed upon by staff members, monitored and periodically reviewed to assess whether they remain relevant and achievable. The indicators should identify positive performance standards that contribute to meeting the organization’s objectives; standards can encompass work output, communication, teamwork and leadership.
Stemming from the key performance indicators are individual actions plans, which management can develop in consultation with staff members. The plans should aim to maximize the individual’s opportunity in his or her role and to meet the performance indicators.
The nature of the financial reward should also be built into performance-based systems. This includes an assessment of whether staff should be given bonuses, an increase to base pay or a combination. The latter could include giving bonuses for exceptional short-term accomplishments and pay increases for longer-term achievements. Additionally, thought should be given to how much of one’s pay should be contingent on performance.
The system should also identify how the performance-based pay should be funded by the organization, how costs can be managed and at what level pay decisions should be made. If pay is funded from an organization’s income and profits, the organization will need to plan for times of downturn and may need to suspend or modify performance-based pay systems during such periods.
Aside from changes to pay, periodic appraisals of an individual’s performance in line with that person’s action plan, such as on a half-yearly or annual basis, can also form the basis for the staff member’s further development. Opportunities for development could include training in particular skills or transfers to different roles within the organization or beyond. The person conducting the appraisal could seek the perspectives of the staff member’s colleagues, management and customers to ensure that as complete a picture of the individual’s performance as possible is obtained.
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