INVESTMENT OUTLOOK: HOW TO GET AHEAD : LOOKING AHEAD : GOOD MONEY FOR GOOD WORK : As Money for Raises Becomes Tight, More Employers Are Basing Pay on Performance
Terry T. Tomich, president and chief executive of Mercantile National Bank in Century City, doesn’t want his loan officers sitting around waiting for the phone to ring.
So from now on, he’s going to pay them based, in considerable measure, on the amount of business they bring into the $325-million bank.
When Mercantile achieves 90% of its growth target each year, loan officers will begin to share in the gain. They’ll get incentive payments of up to 20% of their salaries for bringing in new borrowers as well as for keeping existing customers happy and minimizing bad loans. And they’ll know, in great detail, how their hard work will pay off.
“We want to give them the formula so they can really measure their contribution,” Tomich explained recently. “It’s almost down to the point of saying, ‘How much do you want to make?’ ”
Welcome to the cutting edge of compensation. In the corporation of 1989, everybody is an entrepreneur.
Banks, hospitals, restaurants, manufacturing plants and utilities across the Southland and throughout the nation are discovering what car dealerships and shoe stores have known all along: To increase productivity, pay for performance.
Incentive pay systems such as Mercantile’s that link annual increases--and, in some cases, a large portion of total compensation--to individual, group or companywide performance have been burgeoning during the 1980s. Compensation experts see no end in sight to a trend that is bringing to rank-and-file workers the opportunities, and the risks, that long have been afforded top executives.
A study of 653 firms by Sibson & Co., a compensation consulting firm, found that 35% had pay-for-performance plans for hourly workers and 76% for overtime-exempt salaried workers.
Even companies with traditional bonus and merit-pay plans--programs designed, years ago, to reward better performers with higher pay--are recognizing that they need new motivational tools. Of the three-fourths of companies in Sibson’s survey that had some form of incentive pay, 84% were considering expanding the program to strengthen the link between pay and performance.
“People understand that if the organization doesn’t do well, there isn’t going to be that money around for them, either,” said Carl Jacobs, manager of Sibson’s office in Los Angeles. “On the other hand, when the organization does well, they share in that.”
Low inflation and a resulting flatness in corporate pay budgets have accelerated the trend. Average annual pay raises--including cost-of-living adjustments, merit raises and incentive payments--have slid over the last five years from more than 6.5% to about 5%, according to consultants’ surveys. Projections of next year’s average raises in Southern California and the Western states range from 4% to 5.5%, depending on the companies surveyed.
Given relatively few dollars to work with, corporate compensation managers have been forced to rely on pay-for-performance strategies that garner more bang for each buck.
“There’s a definite emphasis on getting more for the dollar,” said Mark R. Lipis, a principal at the Sherman Oaks office of the Wyatt Co., a pay and benefits consulting firm. “Companies have grown more and more reluctant to put on layer after layer of salary for year after year, because it’s so difficult to take it away.”
Incentive programs--raises based on performance, the acquisition of new skills, or corporate growth and profitability--break that cycle. Costs rise “when people are productive and volume is high,” Lipis said, “and they automatically fall back when productivity falls off and volume falls off.”
Pay-for-performance plans often are a key element in overhauling a company’s approach to doing business. When managers want to bury bureaucratic stodginess and sprout new-found competitive fervor, the old across-the-board pay hike or traditional merit-pay plan often is replaced by an incentive program.
“What they’re really trying to do is change the culture of the organization,” said Michael O. McCullough, an associate in the Los Angeles office of William M. Mercer Meidinger Hansen, another large compensation consultant.
That’s the objective at San Diego Gas & Electric Co., where “participative management” that aims to involve workers in cost control, customer satisfaction and efficiency improvement is the new corporate culture.
Two pay innovations, each designed with comment from employees, seek to advance the new attitude.
The first, for 1,500 salaried employees, is a pay system based on full disclosure. Breaking with a tradition of secrecy, the company lets workers know the average annual pay increase. And it distributes a chart that shows the raises that are to be given in various salary ranges, based on individual performance. Top workers in the lowest salary ranges get the highest percentage increases, while mediocre performers at the top end of the pay scale get the lowest.
“It’s a motivational tool so they can see what is available if they do a better job,” explained Carolyn Yordani, a compensation administrator for the fast-growing utility.
Second, all 4,500 of SDG&E;’s employees--except the top 120 managers--for the first time this year are participating in a gain-sharing plan.
It works this way:
For every dollar the company saves below its budgeted costs for operations and maintenance, workers get 50% and the company gets 50%. So workers won’t cut corners to save money, 20% is added to the pot if SDG&E;’s scores on customer-satisfaction surveys are strong.
So far, the program is a success; if bonuses had been paid at the end of the firm’s third quarter, each employee would have received $680, according to James S. Beaver, the compensation administrator in charge of the plan.
There are limits to the effectiveness of pay-for-performance systems, however. Workers accustomed to an annual pay raise will see only danger, not opportunity, in an incentive plan at a firm where management has traditionally been at odds with employees, experts say.
Employees may become convinced that the thresholds for payments from gain-sharing or profit-sharing plans have been designed to make it almost impossible for them to partake in the firm’s success, for instance. Lesser performers--even those who do a good job--may grow discouraged as they earn less so that the best workers can be paid more.
Analysts nonetheless expect more and more companies to experiment with systems that pay for performance. But the transition won’t be easy.
“Companies that want to truly excel at pay-for-performance have to be able to really differentiate--to give out significant increases to the best performers and to be able to call deadwood ‘deadwood’ and live with it,” said James A. Finklestein, president and chief executive of C & B Consulting Group, a compensation planning firm in San Francisco. “Very few companies are willing to do that.”
HIGHER SALARIES...MORE OR LESS
Largest Projected 1989 Pay Raises
Consulting, Law and Accounting 6.8% Computer Services, Software 6.2 Office, Computer Equipment 6 Miscellaneous Services Pharmaceutical 5.7 Entertainment 5.6 Insurance 5.6
Smallest Projected 1989 Pay Raises
Mining, Milling, Smelting 4.8% Pulp, Paper, Lumber 4.8 Utilities 4.9 Aerospace 5 Government 5 Manufacturing 5 Transportation 5
Southland Pay Raises Go Flat
Actual Raises, 1988 Projected Raises, 1989 Los Angeles County 5.3% 5.3% Orange County 5.5 5.4 San Diego County 5.3 5.1
Source: William M. Mercer Meidinger Hanson Inc.
