The pay linked with the qualified or quantified work performed by an individual is called pay for performance. Performance for pay plan consists of a variable pay plan in which a portion of the pay of an employee is put at some risk for the purpose of earning some extra pay.
On the other hand in gain sharing plans, all or a group of employees make collective efforts to accomplish the productivity goals so that they can avail of group incentives. Another form of stock option provides the opportunity to buy the stock of the organization in some future time.
There is a famous compensation philosophy that states that higher contributors should be paid higher. Corporate performance & personal performance served as the basis for the calculation of performance.
Challenges to Pay for Performance System
The following are some major challenges that are faced by the system of pay for performance.
- The Syndrome of Work Performed in Relation to Pay
When the pay is dependent on only certain performance indicators than the employees neglect the other important components of their job & focus only on the specified indicators.
- Negative Results on Spirit of Cooperation
The employees do not cooperate with other employees by restricting certain useful information to them if they consider that this withholding information can become helpful to other employees in the future.
- Lack of Control
This challenge is related to the lack of control by the employees on all the factors that affect their performance.
- Difficulties in Measurement of Performance
Another big challenge face by the management of organizations in the area of pay for performance is that the performance of employees is quite difficult to measure especially when there is some possible reward attached to the measurement.
- Psychological Contracts
When a system of pay for performance is implemented in an organization, the employees of the organization form a psychological contract with the organization that would become resistant to the changing circumstances.
- The Credibility Gap
This is a challenge that is related to the credibility of the pay for performance system. The employees of the organization consider that the implemented pay for performance system is not fair enough to reward the performance.
- Job Dissatisfaction & Stress
Although the productivity in the organization is enhanced due to the pay for performance system but the job satisfaction among the employees is reduced.
- Potential Decrease in Intrinsic Drives
The pay for performance system compels the employees to perform the required work so that they would obtain the resultant reward but this badly affects the creativity & talents of the potential employees.
The solution of Challenges to Pay for Performance System
When the pay for performance programs is effectively designed then the interests of the employees are properly aligned with the objectives of the organization.
The desired results are not generated by only applying the appropriate pay for performance programs but instead, the proper HRM programs must also be implemented together. The following are some useful solutions to the challenges of the pay for performance systems.
- Appropriately Linking of Pay and Performance
Usually, the formula of measuring pay to the performance is not appropriate enough and only in some cases, the rewarded pay can be justified by the management.
- Pay for Performance as Component of HRM System
Unless the complementary Human Resource Management programs are not applied, the solely pay for performance programs are not complete enough to generate the expected results.
- The building of the Trust of Employees
One of the effective solutions to the challenges of pay for performance systems is that the management should build the trust of the employees. If there is the cutthroat culture in the organization or if the labor relation is poorly handled by the management of the organization in the past, then even the most effective program of pay for performance can become negative.
- Performance makes a Difference
The concept that performance makes a difference can be served as a healthy solution to the challenges of the pay for performance system. When the organization promotes this concept in its employees then the high achievement culture is promoted in the organization which otherwise becomes as low achievement if the potential concept is not rooted in the minds of the employees.
- Multiple Layers of Rewards
It is a big fact that there are definitely some positive as well as some negative impacts of any pay for performance system. So when the rewards are offered in layers according to different situations which mean more than one kind of incentive, then the results of pay for performance systems become effective.
- Increase in the Involvement of Employees
The employees should be involved when the pay for performance system is developing in the organization because this system is designed for the smooth working of the employees. If the employees do not consider an implemented pay for performance program as legitimate, then they can take some actions to make it subvert.
- Non-Financial Incentives & Motivation
Some employees of the organization are not much interested in the financial aspects of their job, but rather they also take into account the non-financial aspects of the job. So employees should be motivated to perform well other than through financial compensation.
Types of Pay for Performance Plans
When there are multiple layers in a pay for performance system then the motivation of the individual employees is enhanced which also results in better cooperation. For example when bonuses are given to the work units or teams then the cooperation among the employees is enhanced.
Besides group bonus, the bonus offered to the individual employees can also serve as a great motivational force because in such cases the individual employee is able to consider his personal contribution leading to the reward.
Also, there is positive as well as the negative aspect of every pay for performance system so it is better to offer multiple incentives for varying work situations instead of offering a single incentive because multiple incentives can generate much better results.
When multiple incentives system is implemented in an organization, there are more benefits offered to the employees and the side effects of each incentive plan are minimized. There are different kinds of pay for performance systems that are designed for giving rewards to the individuals, teams, division of the organization, the whole organization and even the combination of these.
- Individual-Based Plans
The pay for performance plans that are used mostly in the industry are the individual based plans. These individual-based plans can take the following forms.
- Merit pay
- Bonus programs
The advantages of the individual based plans are as below.
- The repetition of the rewarded performance
- The individual goals are shaped by the financial incentives
- The individual equity in the organization can be achieved
- The individualistic culture can be properly promoted in the organization
The disadvantages of individual-based plans are as below.
- The single-mindedness is promoted in the organization
- The employees consider that the pay and performance are not properly linked
- The employees do not work for the achievement of quality goals
- Inflexibility is promoted in the organization
- Team-Based Plans
The flexibility of the workforce of the organization is supported by the efforts of implemented team-based plans. According to this team-based plan, all the team members are equally rewarded on the basis of outcomes of the entire group work. The following are the advantages of team-based plans.
- The cohesiveness of the group is enhanced
- The performance measurement is facilitated
- The flexibility is increased.
The disadvantages of team-based plans are as below.
- The values of an individualistic culture are not meet with the implemented plans
- The effect of free riding
- Performance is limited due to social pressures
- The identification of meaningful group is quite difficult
- The overall performance can be reduced due to intergroup competition
- Division Wide Plans
In division-wide plans, all employees in a certain division or business unit are rewarded on the basis of the entire division’s performance. These division-wide plans are also referred to as gain sharing programs because the employees receive a lump-sum bonus from the savings of the costs of the organization. Gainsharing programs take the following three forms.
- Scanlon Plan
- Rucker Plan
The advantages of division-wide plans are as follow.
- The input of active employees is elicited
- The level of cooperation is enhanced
- The difficulties in the measurement are minimized
- The quality is improved.
The disadvantages of division based plans are as below.
- Low performers are protected
- The criteria employed for triggering rewards become problematic.
- The conflict between labor & management arises.
- Corporate Wide Plans
These plans are based on the overall performance of the organizations and therefore macro kind of incentive programs. Profit-sharing is the most widely used program of corporate-wide plans which is much different from the gain sharing in such a way that they are much mechanistic in nature and retirement programs are funded through it. Another kind of corporate-wide plan is employee stock ownership plans. The following are some of the advantages of corporate-wide plans.
- The organization acquires financial flexibility
- Employee commitment is enhanced
- Certain tax advantages
The disadvantages of corporate-wide plans are as follow.
- Risk for employees
- Limited impact on productivity
- Financial difficulties in the long run
Reasons For the failure of Pay for Performance System
The pay for performance systems are failed (especially individual-based) due to
the following reasons.
01- The rating errors occur in a higher ratio regardless of the type of appraisal used.
02- The dysfunctional conflict is raised in the organization as individual goals are more focused than group goals due to merit systems.
03- The duration of period evaluation of performance appraisal is limited that sacrifices the long term goals of the organization.
04- The interpersonal confrontation is raised due to the non-agreement between the employees and supervisors on the evaluation.
05- The service sector does not contain the individual merit pay systems.
06- Limited amount of compensation is controlled by the supervisors therefore the differentials of the merit pay are smaller and therefore are objectionable.
07- The frequency & size of merit pay is influenced by a number of bureaucratic factors which do not cover the performance of the employees.
08- There are multiple purposes for the designing of performance appraisals. So when there a number of accomplishing objectives in front of a single system, then it is not possible for the system to achieve all the objectives effectively. The supervisor faces difficulty in performing the functions of adviser, counselor & evaluator at one time.
Hello everyone! This is Richard Daniels, a full-time passionate researcher & blogger. He holds a Ph.D. degree in Economics. He loves to write about economics, e-commerce, and business-related topics for students to assist them in their studies. That's the sole purpose of Business Study Notes.
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