Proper metrics are key in pay for performance plans

by on June 17, 2009 · 0 Comment POSTED IN: HR Info Center

Tailor your pay for performance plans to your company’s evolution

Not having the right pay for performance plans and metrics based on where our business is in the business cycle can be a killer. In other words, are we a start-up company? Are we kind of a cash cow? Are we on the downward slope of the business cycle? Different corporate objectives would typically be associated with different positions within that business cycle.

Pay for performance plans in the start-up phase
As a company when we’re first starting, when we’re in that development or that start-up phase, oftentimes, there are three different metrics. One would certainly be revenue growth; second, we may be focused on gaining market share. And those two can often go hand in hand.

The focus oftentimes, is not on profitability from day one but rather let’s grow the company, let’s prove the business model. And as we gain scalability, as we grow as an organization, the hope is that profitability will come later.

We may also choose in that early stage to link to certain business milestones as part of our pay for performance plans. If we are a web start-up for example, hitting our go live date for our website launch, that may be a key metric for providing incentives early on in the business cycle.

That would not be a metric that made sense for a company that’s in maturity or past maturity in a decline stage. Getting our website to launch is not going to be a key driver of the incentives.

Growth mode
As we shift into growth mode with pay for performance plans, this is where oftentimes an organization will start to add a component of not only revenue growth but also start to say we need to focus on profitability as a pay for performance system metric. There can be a shift that occurs that at some point between the relative importance of profitability versus revenue growth can shift from one side to the other.

Oftentimes now, there’s also a component of cash flow. We need to make sure that we don’t have our start-up capital. We don’t have a large pile of money in the bank that we are burning through. We need to make sure that our cash flow makes sense so we can continue to pay our bills from the cash that’s being generated.

Another component in addition to market share would be return measures so we could begin to focus on return on equity, return on assets.

Maturity in Pay for Performance plans
In the maturity phase, profitability jumps squarely to the number one position in terms of what is an important metric for our corporate incentive plan. Others would include return on capital, margins, cash flow.

We can begin, you know, our revenue growth can start to taper off so the way we achieve that profitability is often through cost control. And possibly, a way that we can shift depending on the industry back into that growth cycle would be through R&D and innovation.

How to handle pay for performance plans when your company is a “cash cow”
Finally, as an organization kind of hits that peak and starts on a downward trend, it’s often known as the cash cow and cash flow becomes the most important measures.

It’s really important to understand corporate metrics and how they are specifically tied to where your organization is in the business cycle. If we have a disconnect, if we’re using the wrong metrics – and I’m not going to tell you that this list is all-encompassing and this is the exact model that needs to be used. But we deviate from this list of metrics too far, oftentimes, you can run into a disconnect.

For example, if our focus is on revenue growth when we’re in the decline mode, we’re never going to achieve those goals and vice versa for looking at milestones late in life of the company. We’re probably not going to continue to generate the cash that is needed.

Edited remarks from the Rapid Learning Institute webinar: “Incentive Pay Plan Blunders That Can Cost You a Fortune” by Ed Rataj

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