Tuesday, 28 April 2009

Paying Bonuses In a Downturn? The Thorny Question

We have heard so much about bonuses for the wrong reasons lately as banks seemed to think that high-flying employees had to be paid them even though the banks in question have lost, quite literally, billions of pounds. These cases may be clear cut to us, but in the real world, when should we hold back on paying bonuses?

Part of the problem relates to the fact that many firms have just incorporated bonuses into their employment contracts without a great deal of thought and certainly none relating to a catastrophic failure in markets. I mean, if you are writing your employment contracts for the first time in the middle of a recession, bonuses may not actually enter into the whole equation and if they do, you can bet your life they would be crafted in such a way that if performance was not good then there would be less or none paid.

The trouble is, most companies write bonuses into their contracts when the going is good and while the gurus in HR and management have their rose-tinted specs on, the contracts tend to be sloppy.

There is a further complication. Many firms, particularly American-owned ones, have very deliberately changed contracts to put an element of earnings for all staff 'at risk', as they put it. Often this can be done at review time and it could mean an employee in a function other than sales or marketing, where personal performance can be more easily measured, actually sacrifices part of their basic salary to make it 'at risk' but with the potential of some upside. The complication here, if that has been done correctly and within the law, is that it previously was part of the basic remuneration and so is assumed in the employees' minds to be a 'given' or virtually 'guaranteed'. Naturally, in good times, there are few cases where that would not be true but in a downturn or recession, the employee may still expect the bonus and the company does not want to pay it.

Good Compensation Governance

It comes down to a process of good compensation governance. Very often, in administrative or back office functions, the targets can be less meaningful in terms of overall company performance although just as important - for instance, cash collection targets - and many managers simply use Management By Objective (MBOs) targets which are very subjective in most cases. So when the company performance goes down and the Board are looking for savings, too often the bonus bill remains static in general staff despite the under performance of the business as a whole. It easy to see how sales or even management might lose their bonuses as measures can be personal and direct but for others it may not be easily so.

In the banking crisis, much of the bonuses at lower levels were based around such woolly targets or MBOs and so became very difficult not to pay. As much as we all got exasperated, it wasn't always the big-earning executives who were getting the money. People manning the tills or answering the phones or passing payments were the people getting the money - and why should they sacrifice what they would normally just get even if the top earners were earning £millions or not? They still did their part, as asked - so why should they be penalised? And this is where bonus schemes can go awry

Good compensation governance is the art of crafting bonus packages and commissions for all staff, fairly and contractually so that there are no surprises - but far more importantly, so that the whole business is aligned.

Companies who ask employees to take sacrifices of basic and put some on risk, often by force rather than consensus, are risking their staff. The reality is that there is always another high-flier but the guy who knows the logistics back to front is worth a great deal should they become disgruntled enough and leave, as often they have many of the secrets that save money in terms of cost and accuracy.

Backroom and administrative staff get the grubby end of the stick on bonuses anyway and so hitting them when the downturn comes, is only going to cheese them off. And some represent the lifeblood and backbone of the organisation - losing them could cost you more then its worth by not paying them what they deserve.

Handling The Bonus Question

I don't have much sympathy for salespeople, managers and executives when it comes to bonus. Pretty much, we know the score - if the company does not perform than we are used to 'at risk' compensation. I was always very hard on the Reps who would come into my office and say that can't live on no or low commission as they have mortgages to pay - so the targets are too high or whatever their excuse was. I had a ruse of pointing outside the office and asking hypothetically, 'Point me out the person you would like me to sack in order to pay you what you don't deserve. And if you can do that, you can have the job of telling the person.'

Obviously, it's an illustrative thing and needs to be done in that spirit but salespeople and managers do not often understand the word 'accountability' and so believe they are owed their money no matter what. On their performance, others are at risk - sometimes they need to be reminded of that.

But not so backroom or administration or shop floor. These are the engine room of the organisation - while parts may be replaced, each part has a specific function and is trained to do it. Every time you have to replace a part there is incremental cost in acquiring talent, suffering while the part is not there, training time etc. These people are often easier to motivate via bonus but it needs to be incremental - merely putting part of their existing earnings at risk is pretty stupid in the long run.

Also, in my opinion, as costs are looked at line by line, make sure that these sorts of bonuses are the last to go. My advice always, when faced with such hard decisions which could affect goodwill and motivation profoundly, is to communicate the problems widely, allow consultation and allow staff to make suggestions on how to save equivalent amounts of money before just cutting a swathe through it. More importantly, I would be more inclined to ask permission to 'defer' bonuses and pay them later if there was a question over whether they were earned or not.

Legal Issues

There is a legal issue at the heart of all this. If bonuses are in contracts and are to be given against certain criteria and if the criteria is more subjective than objective, then you HAVE to seek agreement either directly or 'implied' in order to make a change - you cannot simply not pay it. The former is obvious but the latter is more risky as it is by 'stealth', i.e. you may rescind bonuses but no one says anything and so it is 'implied' that agreement was given. This can be argued in law and can easily become an issue in an unfair dismissal case.

Commissions are different as ofter they are paid at the discretion of the company and are subject to change as and when. It's the nature of the job.

Obviously, it pays to have good compensation governance and to have thought through the issues of a downturn beforehand and sought wide agreement from the workforce. However, it is a fair assumption that as firms are hit hard in this recession, managers just reach for any old cost line and assume they can slash it because the problems are obvious to them. Very often, because of the non-inclusive way in which companies are managed when it comes to overall performance and how each department and individual contributes beyond the 'elites' in the salesforce who are revered with their 'Chairman's Clubs' etc, staff not in sales can feel very much unconnected from overall performance and so have trouble seeing what they had to do with bad performance.

It would be easy to think, 'If the salespeople get all the credit, applause and big bucks for the upside and we get none of that, why is it that I have to pay on the downside?'
It's a good question.

Moral Questions

It can come down to a moral question. If you hit all staff at the same time after poor performance instead of the high-fliers first, then it is easy for the 'non-elite' to become disillusion and unmotivated.

My advice is, in the absence of good compensation governance and in a downturn, think long and hard about how you tackle the bonus issue in the same way as you should about redundancies. At the extreme end, you can land yourself in legal trouble with claims for 'unfair dismissals' while at the better end you still can achieve upsetting and demotivating your staff.

Good, open and honest communication as early as possible, joining people into the issues is the best way of tackling this thorny subject. Don't put the baby out with the bath water.

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