Options for structuring a bonus scheme
This article provides 3 bonus scheme options for consideration when introducing or changing a bonus scheme. A well planned scheme should meet the primary aim of achieving and driving profitable growth through new business acquisition, growth from existing customers and quality operational management.
In addition the incentive should deliver motivation and engagement from the team, as results are recognised and rewarded, this in turn is expected to ensure high staff retention.
3 options
1. % of salary, split 3 ways, hunting, farming, overall business
2. % of revenue above target, uncapped plus discretionary overall business rewards
3. % of base split over a wide range of measures, the corporate model.
Example 1
- Total incentive available is 25% of the employee’s base earnings
- Incentive is split over 3 key areas
- 20% of the bonus is paid over monthly instalments
- 5% is paid in a one off annual lump sum, based solely on overall business performance
- All measures independent, employees can receive payment for achievement in one area
- Monthly Bonus Potential = $1,000 per month ($10,400 over the year)
- Annual Bonus Potential = $2,600
- Total Bonus Potential = $13,000 each year
- Deliver labour spend at $15K per month or less = $433.33 (no part pay for ½ achieved)
- Manage total operations overhead, including wastage, fuel cost and repairs & maintenance to monthly budget = $500
- Company net profit exceeds 5% growth on last year = $3,000
Sales Bonus Calendar
Pros
- Covers the main areas the business is targeting
- Is affordable if the levels are set right
- Splits the bonus earnings so the employee receives extra money each month plus a lump sum at the end of the year.
Cons
- May not be enough of an incentive to drive significant business growth
- Monthly split of bonus dilutes earnings over the year, so it becomes absorbed into normal earnings and is not enough at one time to make an impact.
Example 2
- Aggressive sales focus
- 5% of all revenue achieved over monthly target, uncapped
- Revenue growth can come from new business and/or growth from existing business, the level of each is up to the sales employee
- Target is set based on last years’ sales, plus an allowance for inflation
- Monthly sales last year = $100,000
- Monthly target this year = $103,000
- Monthly sales of $153,000 = $2,500 bonus
This incentive only works for sales employees as an uncapped incentive to drive cost out of operations could drive you out of business!
Setting the right target level in this sort of incentive is important, too light and a lot of money is paid in incentive for sales that would have been achieved any way, conversely too hard and sales team are not motivated as the result cannot be realistically achieved. But if just right, this type of incentive can achieve significant sales growth.
This incentive can be used in one off situations, in conjunction with Example 1 above. For example, the business could decide to focus on having significant Christmas sales or attempt to pick up business in a traditionally quiet time of year. This incentive could be used as an extra incentive for the sales team to achieve over and above earnings.
Pros
- Significant earnings potential for the individual can result in excellent retention and engagement
- Drives business growth hard
- Shares wealth ensuring if the business does well, so does the employee
Cons
- Can demotivate the employee, if they don’t achieve the results the bonus is meaningless
- The cultural shift may not be what the business want, as the focus is on individual achievement and the hard sell, this creates a competitive environment, where the focus shift from the overall good (this can be a pro if this aligns with business objectives)
- Short term thinking can occur including sales loading in one month to achieve a big bonus before holiday (or resignation) followed by a very quiet month (may not be an issue due to short-life product)
Example 3
- Total incentive is 20% of employees base salary
- Paid in one annual lump sum
- Split across a range of Key Performance Indicators
Employee Annual Salary $52,000
- Total Bonus Potential = $10,400 each year
Sales Employee Annual Bonus Example:
- Increase new customers by 10%
- Grow existing business by 10%
- Overall company profit growth of 5%
- Provide 5 new product ideas to operations
- Manage expenses to budget
Operations Employee Annual Bonus Example:
- Manage wages to budget
- Control wastage to budget
- Manage fuel costs to budget
- Reduce employee absence by 10%
- Reduce staff turnover by 10%
- Reduce work injuries and incidents by 50%
This model is a more corporate approach and such incentives are common in larger companies.
Pros
- Bonus can have more meaning as it is paid in a large lump sum, enabling the employee to use the money on something more significant
- The broad structure of the bonus allows for coverage of a wide range of areas and can be used as a mechanism to drive a range of business objectives, not just commercial, such as reduced staff turnover or better safety performance
- The bonus structure can be adjusted each year to meet varying business needs
Cons
- The annual payment can mean the bonus is forgotten during the middle of the year, so it is essential to have regular performance review discussions with the employees and track performance.
- These bonus structures can become complicated with multiple measures and split payments across each measure confusing the employee and diluting focus
- If the objectives are not well thought out the business can end up paying out for little gain
Conclusion
The 3 examples provided above are designed to provide a starting point for discussion with your management team.
The final bonus scheme for the business may be a combination of all three or it may change each year to meet the business needs for the coming trading period. Having the bonus scheme outside the employment agreement and set at management discretion enables this flexibility.
The key to determining the best incentive will come down to being clear on the objectives of the business – what do you want to achieve. Then running solid financials to ensure any bonus strikes the right balance between earnings for the employee and affordability for the business.
There is no single ideal bonus structure that can be template for a business. The best bonus, is the best bonus for a business at the given point in time.
Do not discount the importance of involving your people. You may want to consider involving some of your sales and ops team in a workshop to define the bonus, their input may be revealing. If they have a stake in the design, they may strive harder to it to succeed.