Compensation and Organizational Excellence

Compensation does not affect all organizations, and therefore does not impact the efforts of all organizations trying to become high performing. Today I will address a key issue for those organizations that do pay their organizational members and issues associated therewith.

Given the importance of culture on organizations, it is not surprising that one’s native culture impacts how individuals, and thus the organizations made of those individuals, view an issue as fundamental as compensation. Do you believe that all employees should share equally in organizational success? Do you believe that compensation should be based on longevity with the organization or at least with one’s profession? Do you believe that individual contribution should be rewarded through pay for performance systems such as commission based pay or at least variable pay based on attainment of key performance indicators? Your belief in what type of compensation program is most likely to support the development of a high performing organization. Despite cultural preferences, objective evidence can point to aspects of compensation systems that promote or detract from organizational excellence.

There is a variety of compensation systems which are implemented, singularly or in some combination, in organizations. Typical systems include pay for performance (some degree of pay is tied to specific predetermined outcomes), promotion based systems (high performers are selectively promoted to higher paying positions), tenure systems (after multiple years of at risk employment, high performers are promoted to positions with essentially perpetual job security), up or out promotion systems (employees either continued to be promoted or they are discharged from the organization), and profit sharing program (through bonus or stock purchase/grant/stock option plans). Constraints of this blog preclude me from addressing all of these systems; I will focus on pay for performance and profit sharing programs.

Let’s start with pay for performance systems (PPS). My problem with PPS is not that they don’t work but that they work too well. Based on both my experience and research I believe that significant financial incentives can affect behavior, but the effects may not be in the best interest of organizational excellence. The problems are several fold.

First, since PPS do tend to work, those behaviors for which incentives are in place tend to receive focused attention to the detriment of behaviors that are also important for organizational success but are not covered by the PPS. Second, the incentives established for one part of the organization often conflict with incentives for another part. This typically creates a situation in which suboptimal decisions and actions are taken. Third, subjective measurement systems are rarely effective because of lack of trust that fair decisions will be made. Objective measurement systems are better but identifying measurable outcomes that move the organization towards its goals are often difficult to identify. Fourth, even for roles for which objective performance measures can be identified (typically sales roles for example) the accomplishment of those outcomes are rarely solely due to the efforts of those who receive compensation based on those outcomes.

The results of these limitations are resentment among those who do not benefit from the PPS, manipulation of performance (or reporting) to maximize reward rather than what is best for the organization, and suboptimal decisions and performance. None of these conditions are representative of high performance organizations. They may generate short term performance but they do not lead to long term, sustainable, organizational excellence.

Profit sharing programs (PSP), whether they are bonus or stock purchase/grant/option based, have the ability to align people around the overall performance of the organization. Bonus programs tend to focus attention on shorter term performance and stock based programs tend to build longer term organizational loyalty.

Assuming that base compensation is appropriate, providing variable compensation based on organizational performance, particularly if that variable compensation is tied to factors that lead to excellence can have a powerful impact on aligning incentives and performance. The percentage of any given person’s compensation that is variable, or the total dollar value of that variable compensation, is important but less critical that all receive greater or less benefit in synch with one another.

As I have said in previous blogs, one of the key characteristics of an excellent organization is a high degree of commitment throughout the organization to common goals. Given the power that compensation can have, why do we insist on implementing incentives that create conflict, confusion, lack of clarity, and focus on individual rather than overall organizational accomplishment?

Creating A Culture of Excellence

Developing an excellent organization is essentially a task of growing an excellent culture.

Much has been written about culture within organizations, with some theorists doubting that such a thing even exists. Most people who have worked for more than one organization agree that something exists about an organization that is more than the sum of its assets or even its people.

Barnouw (1963) stated that culture is the way of life of a group of people; others have said that culture is just “how we do things around here.” I believe an organization’s culture covers a wide range of things that you see (what are buildings and furnishings like? How often do people meet? Are dress and/or language formal or informal? Are there separate executive facilities such as parking or dining or are such things more egalitarian?); as well as things you don’t see (values, attitudes, norms of behavior, and adopted roles). In fact I believe it is true that the most powerful aspects of culture are those underlying mental models and values, which are not seen but which shape what people think, say, and do.

Another important aspect of culture is it is something that older members (in terms of seniority and power) try to instill in new members. This self perpetuation is great if a healthy, even excellent culture has already been developed. On the other hand, if a toxic, non-productive or even destructive culture has developed, changing that will be made more difficult because of the inertia created by the existing, dominant culture.

Understanding how cultures develop helps us know what steps need to be taken early in an organization’s existence to ensure a culture of excellence. Likewise, that same understanding gives us clues about how to change a culture that is less than desired. Schein (1992) states that culture arises over time out of common experiences and shared meaning that is extracted from those experiences. As those shared experiences occur, the meaning of those experiences will emerge within the group and some form of organizational culture will develop. Additional experiences over a longer time will strengthen assumptions and reinforce values so that the organizational culture will become both more defined and differentiated from the larger cultural milieu and also more deeply embedded.

There are three important components an organization can use to develop a culture of excellence: recruiting, socialization, and developing congruency with and commitment to the organization on the part of the employees. In Jim Collins’ outstanding book, Good to Great, he makes the point that getting “the right people on the bus” is the first step towards excellence.

I believe that starts with organizational leadership. To create an excellent organization, the leaders must be excellent themselves: They must not only believe in but manifest in their actions a passion for the organization’s mission and its vision and values (see previous post on these topics). Assuming a deep commitment to the organization’s mission and alignment with the desired values exists in leadership, the next step is to hire and promote, in large part, based on those same characteristics. Sure function, technical, and professional skills are important, but excellence depends on deep alignment around the intangibles. Who is brought into an organization, over time, determines to a great extent what the organization will become

The next important component for developing a culture of excellence is socialization. Socialization occurs in families as children are born and raised; and it occurs in organizations as new members are inducted, mentored, fostered, oriented, and in all other ways formal and informal made part of the “team”. This is a very important step and more effort needs to be taken than having everyone go through a half-day orientation. If a culture of excellence is going to be developed, it is important to have someone who reflects the desired values mentor and guide the new member until he or she can function in the organization in a way that is culturally appropriate.

This brings us to the third component for developing a culture of excellence: developing congruency with and commitment to the organization on the part of the employees. For people already in the organization, open and honest discussions about organizational direction, and the values and assumptions being fostered, are very important. Such discussions will allow people to reflect on how those values, assumptions, and the behaviors that flow there from, fit with what they think, believe, and hold most dear. These types of discussions routinely occur during planning sessions, team meetings, and in individual formal and informal discussions. They also occur as organizational leaders explain events, or frame them, in such a way as to help create a common understanding and response. This creation of a common organizational understanding is a key aspect of leadership because it helps foster a shared meaning that organizational members will have to key events – building the common culture.

Ideally, these discussions will reveal there is a great deal of consistency between the values of the individual and the organization. Failing that, the individual, upon reflecting on the culture that is being developed in the organization, will see the advantages to it and strive to align with the culture. Other times, for a culture of excellence to develop, the person and the organization will have to part ways. Interestingly, how this is decided and done can be, and often is, an important, perhaps defining, “common experience” that will help create the organization’s culture.