COMPENSATON AND BENEFITS

BUSS2103

Unit 4: INCENTIVE PAY

Learning objectives
• Explore the incentive pay approach.
• Describe the differences between incentive pay methods and
traditional pay methods.
• Summarize five types of individual incentive pay plans.
• Explain two types of group incentive plans.
• Discuss two types of company-wide incentive plans.
• Summarize considerations when designing incentive pay programs.
Incentive pay defined
• Incentive pay or variable pay rewards employees for partially or
completely attaining a predetermined work objective.
• Incentive or variable pay is defined as compensation, other than base
pay that fluctuate according to employees’ attainment of some
standard, (such as a preestablished formula, individual or group goals,
or company earnings)
Incentive pay assumptions
• Individual employees and work teams differ in how much they
contribute.

• The company’s overall performance depends to a large degree on the

performance of individuals and groups within the company.

• To attract, retain, and motivate high performers and to be fair to all

employees, a company needs to reward employees on the basis of
their relative performance.
Incentive pay vs Traditional Pay
• In traditional pay plans, employees receive compensation based on a
fixed hourly pay rate or annual salary
• Some companies use incentive pay programs that replace all or a
portion of base pay.
• Since 1998, there has been a 47 percent increase in the use of
incentive pay programs.
• Nowadays, most companies use a mix of traditional and incentive pay
methods.
Incentive pay vs Traditional Pay

Traditional Pay Incentive Pay

• compensate an employee based on • Compensate an employee based on
their hourly rate or their annual salary the output or performance

• Pay increases are determined by • Pay increases are determined by

factors that include their seniority and individual performance, team
performance appraisal scores performance or company
performance
Incentive Pay-Categories

• reward employees • promote • tie employee

whose work is supportive, compensation to a
performed collaborative company’s
independently behavior among performance over
employees a short time frame

Company-
Individual Group
wide
Incentive
Pay
Incentive Pay

Appropriate under the conditions below.

• employees’ performance can be measured objectively

• employees have sufficient control over work outcomes
• Should not exist unhealthy competition among workers that ultimately leads to
poor quality
Promote relationship between
pay and performance

Promote equitable distribution of

compensation

Compatible with Individualistic

cultures like USA
potential to promote inflexibility

supervisors must develop and maintain comprehensive

performance measures

may encourage undesirable workplace behavior when these

plans reward only one or a subset of dimensions that
constitute employees’ total job performance
 Group Incentive
Plan

Team-based Gain sharing

plans plans
Group Activity
• Group 1: Read on group incentives and discuss in your group and
present the findings using a word doc or PPT. Provide a company
using this plan

• Group 2: Read on company wide plans and discuss in your group and
present the findings using a word doc or PPT. Provide a company
using this plan
• Time for group work: 20
• Time for presentation : 2 mins per group
• Contents: Definition/ Types of incentives/Advantages and Disadv
Incentive Pay
Advantages Disadvantages
• companies can more easily develop • employee turnover: free-rider effect
performance measures for group
incentive plans
• Greater group cohesion
Incentive Pay
Types

Profit sharing plans: Employees earn a financial reward

when their company’s profit objective is met.

Employee stock options: Companies grant employees the

right to purchase shares of company stock
Incentive Pay
Types

Profit sharing plan: profit sharing plans pay a portion of company profits to employees,
separate from base pay, cost-of-living adjustments, or permanent merit pay increases

Calculated as…
1. fixed first-dollar-of-profits formula uses a specific percentage of annual profits, contingent upon
the successful attainment of a company goal

2. companies may use a graduated first-dollar-of-profits formula instead of a fixed percentage.

3. profitability threshold formulas fund profit sharing pools only if profits exceed a predetermined
minimum level but fall below some established maximum level.
Incentive Pay

Advantages Disadvantages
• Enable employees to share in • May undermine the economic
company’s earnings security of employees
• Employees gain greater financial • May fail to motivate employees
flexibility because they do not see a direct link
between their efforts and corporate
profits
Incentive Pay
Types

Employee stock option plans represent a long-term

company-wide incentive plan that provide employees with stock options.
Under these plans, companies grant employees the right to purchase shares
of company stock.