Is There Such a Thing as Paying Too Much Bonus?
Incentive Bonuses. Why do we pay them? How much is enough? How much is too much? Bonuses are a fact of life in business but few of us develop confidence in our decisions about how to administer them. Before it was politically incorrect to do so, we used to call them “Christmas bonuses” and the extra money was to help us overspend for the holidays. In more recent times, particularly through the lean years of the mid-seventies, bonuses disappeared from many companies, especially from smaller and privately-owned ones. A survey done in 2003 showed that 61% of employers intended to pay bonuses to their employees and 62% stated that they did not plan to have layoffs. That was a significant change in the pattern from previous years. It also makes it appear that good bonuses are a result of (at least should be)
good business climates.
Companies now more often refer to them as incentive bonuses or performance bonuses. Appropriately, bonuses seem to be a more consistent part of business planning, especially in larger companies. Bonus money is often paid in conjunction with fiscal/financial planning with less attention being given to end-of-year holidays. So, the question remains in the minds of most of us: when should a bonus be paid, on what grounds should it be paid, and when is it enough or too much?
The real reasons for paying a bonus
The purpose of a bonus—the real purpose—is to encourage specific organizational behaviors from departments, managers, and employees. Like all solid business operational and marketing decisions, the payment of bonuses should be based on business environment, investment/expense management, and business objective issues. Bonus payments should not be made just because a company thinks it ought to pay them. There is a point of diminishing returns when the bonus paid no longer achieves in meeting those behaviors.
How can I better plan a more effective bonus structure?
Before a company offers an incentive some considerations should precede. Companies should establish objective measures on which to base bonus payment decisions. Companies should consider data such as annual revenue or market share targets. It is vital to set ahead of time realistic departmental and managerial goals. Companies should establish Individual employee performance expectations, as well as departmental and company-wide expectations in meeting established goals. Here are some items to consider:
- Employee turnover rate—too many of the valuable and/or senior people moving on to better paying jobs or environments
- Competitive income packages—Pay packages need to be reviewed to keep them in line with competitive organizations. Bonuses can be a quick way to make adjustments to keep your best, experienced people motivated to stay
- Morale and motivation— Coupled with annual or semi-annual performance reviews, bonuses should motivate employees to strive to meet and surpass goals.
Aside from emptying the company’s coffers, is there such a thing as too much bonus?
Bonuses can be too high. Sometimes, particularly with senior management, bonuses amounts don’t seem to make sense. Stories abound concerning overpaid CEO’s of major corporations who take millions in bonuses even when their companies are losing money or even going bankrupt. Sometimes these bonuses are awarded as the executive walks out the door to a competitive job. The purpose of such bonuses is obviously not as incentives for encouraging positive, productive behavior. Such incentives have simply become the way some companies’ boards of directors give in to CEO greed and search for a golden parachute. Huge bonus packages do not provide incentives to the right behavior. In fact, such bonuses are counter to the real intention of a bonus—to elicit and reward a productive, profit-making behavior among senior management. Moreover, such bonuses are demoralizing to a staff left to pick up the pieces and pinch to make ends meet in the following fiscal year.
Why isn’t a “rule of thumb” enough in determining the amount of bonuses?
Not having good measurements can produce inappropriate bonus structures. A few years ago, two men in central Arizona organized a trucking company serving a niche market. As they established their business the two decided that they would offer their employees–who took some risk to work in a fledgling operation–a percentage share of the business growth as an incentive to try and survive the start-up phase of a new, small company. The company hit the jackpot and the resulting bonus structure produced millions of dollars. In fact, some of the employees had bonuses coming to them in excess of $1 Million. Guess what happened to these valued employees who helped make the company a success? They cashed their checks and left. It was as if each had won the lottery!
Reaching the optimal amount to pay
To reach the right amount of money to put into the bonus pool, a company should weigh the balance between investing in the future without causing pain at the bottom line. The purpose of any business is to remain profitable and, hopefully, grow. Managers have to be sensitive to what is in the heads of the employees. When a bonus reaches a significant percentage (or even a majority) of an employee’s salary the bonus is in danger of bringing about negative behavior (such as “I’m not getting paid enough in my salary. I should look elsewhere.”) Conversely, a four figure bonus that is reduced to three figures after taxes, and given to everyone regardless of their output or success at meeting a specified goal can be expensive to the company yet meaningless to the employee. Each company is different. Each business produces a different cash flow dynamic. To avoid bonuses being either too little or too much, companies should establish realistic goals, intentions for producing positive behavior, and limits on a realistic amount. Bear in mind, too, that the cost of replacing and training an experienced employee may better be spent in doing what is necessary to keep the experienced, trained employee working for you and not for your competitor.
