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Incentive compensation management

Incentive Compensation Management (ICM) is the process of aligning sales rep performance with organizational goals. Sales teams are more likely to perform well consistently when rewarded with the right incentives.

Incentive compensation management is often used in sales-based organizations, where commission-based pay plans are common. These plans give employees a percentage of their sales as a portion of their total compensation. 

Organizations will often have them sign contracts with specific quotas attached to ensure that salespeople perform at their best. They receive a bonus if they meet these quotas; if they fail, they don't get a bonus.

The decision to provide incentive compensation should be based on factors such as: 

  • The company's strategy and long-term goals
  • The organization's capacity for change
  • The current skill set of its workforce

What is incentive compensation management?

Incentive Compensation Management (ICM) is the process of designing, implementing, and managing commission compensation arrangements. It is a strategic approach to motivate salespeople to achieve a predetermined target. 

Incentive compensation is usually given in addition to base pay and bonuses and can be paid as either cash or non-cash items. Organizations use them to drive employee performance and achieve bigger business goals.

ICM can be thought of as a three-step process:

  • Designing an incentive compensation program that meets the needs of both management and employees.
  • Implementing the incentive compensation program once it has been designed. This includes communicating clearly with employees about how they will be paid and what results will be rewarded by the program.
  • Managing the performance of employees once they have begun working under the new incentive plan.

Why is incentive compensation important?

For a business to be successful, it needs a motivated workforce. And incentive compensation is just to achieve that. When well-planned and executed, it motivates employees to go the extra mile with their performance. 

A business can use incentive compensation in two ways:

  • As a reward for exceeding set goals or hitting certain levels of production
  • As an incentive to motivate employees to perform at the highest level possible

Incentive compensation is important because it helps companies to motivate employees. A well-designed incentive compensation plan can encourage employees to meet their targets or perform above a certain level. Besides this, it's also an excellent tool for retaining desirable employees.

Benefits of incentive compensation plans:

  • Motivate employees by providing them additional money when they do well or exceed expectations.
  • Retain top talent by rewarding top performers with impressive bonuses or other perks instead of letting them go when their contract expires.
  • Boost performance by offering incentives that employees work harder to meet their targets and receive the reward they promised.
  • Drive engagement at the workplace while encouraging employees to maintain high productivity and efficiency among their subordinates or peers.

What is the difference between incentive and compensation?

Incentive and compensation are two terms that are often confused, yet they are pretty different. Let's understand the differences between the two.

Incentive

  • Incentive is an award for doing something well.
  • It is a reward to encourage employees to perform better or meet specific goals. 
  • It is a reward or motivating factor that encourages a particular behavior.
  • It can be monetary or non-monetary, which can be anything from a small gift card, cash bonuses, stock options, profit-sharing plans, a trip or vacation.

Compensation

  • Compensation is the payment for work done or services rendered.
  • It is the money an employee earns for performing work.
  • It is the act of paying money to someone as wages or salary.
  • It includes salary and benefits such as health insurance, retirement plans, paid-time off, or vacation days.

What are the types of incentives in compensation management?

There are many types of incentives in compensation management. Some of the more common ones are:

  • Performance-based incentives (like commissions, bonuses, and stock options).
  • Non-cash rewards (like gift cards, merchandise, or time off).
  • Intrinsic rewards (like recognition or public acknowledgment).

In addition to these, several other types of incentives can be used in compensation management, and these include:

  • Loyalty incentives
  • Team building incentives

What are incentive compensation examples?

Incentive compensation can take many different forms. Examples include:

  • Sales commissions or bonuses: These are paid on a percentage basis. For example, sales representatives selling products on commission may receive a percentage of the product's selling price for every sale they make. 
  • Employee Stock Options (ESOs): ESOs give employees the right to purchase shares of company stock at a specific price (the exercise price).
  • Performance Share Plans (PSPs): Under PSPs, companies promise employees shares of common stock in return for meeting specific goals — usually financial ones — over time. The number of shares offered varies from one company to the other.

What is the key to an incentive compensation success?

Incentive compensation can be an excellent way to motivate your sales staff. But if you want them to succeed, you must establish a plan based on sound principles. 

Here are some best practices to keep in mind:

  • Define clear goals and objectives: The more specific you can be about the goals you want employees to achieve, the greater the chance you will see positive results from your incentive program.
  • Set achievable but challenging goals: It shouldn't be hard for the team to hit its objectives, but it shouldn't be so easy that you have little reason to award bonuses. Your goals should be specific, measurable, and adheres to a timeline.
  • Have the right metrics in place: You need more than just a few vague targets like increased revenue or the number of monthly units sold. Measure how well they perform against those metrics over time to know precisely where they stand and what needs improvement.
  • Establish clear criteria for measuring success: Consider using performance measures that are objective and quantifiable so employees know what they are being evaluated on at any given time. This will help ensure that they achieve their goals consistently over time.
  • Keep it simple: Don't overwhelm employees with too many options to earn incentives — stick with one or two main goals that can be achieved in as little as six months.
  • Ensure the incentive plan is flexible: This helps accommodate changing conditions; this includes having appropriate controls in place so that employees do not receive rewards they have not earned or do not deserve.
  • Design plans that prevent conflicts: Make sure there is no conflict between what employees are being paid and what they receive as an incentive bonus.

Employee pulse surveys:

These are short surveys that can be sent frequently to check what your employees think about an issue quickly. The survey comprises fewer questions (not more than 10) to get the information quickly. These can be administered at regular intervals (monthly/weekly/quarterly).

One-on-one meetings:

Having periodic, hour-long meetings for an informal chat with every team member is an excellent way to get a true sense of what’s happening with them. Since it is a safe and private conversation, it helps you get better details about an issue.

eNPS:

eNPS (employee Net Promoter score) is one of the simplest yet effective ways to assess your employee's opinion of your company. It includes one intriguing question that gauges loyalty. An example of eNPS questions include: How likely are you to recommend our company to others? Employees respond to the eNPS survey on a scale of 1-10, where 10 denotes they are ‘highly likely’ to recommend the company and 1 signifies they are ‘highly unlikely’ to recommend it.

Based on the responses, employees can be placed in three different categories:

  • Promoters
    Employees who have responded positively or agreed.
  • Detractors
    Employees who have reacted negatively or disagreed.
  • Passives
    Employees who have stayed neutral with their responses.

What are the characteristics of the best incentive compensation plans?

The best incentive compensation plans are ones that offer the right mix of pay, benefits, and work conditions that attract and retain employees.

As a general rule, the best incentive compensation plans have the following characteristics:

  • Fairly simple and straightforward: Make sure there are only a few exceptions and conditions. This reduces confusion and makes it easier for employees to understand what they need to do to get rewarded and how much they can expect to receive if they succeed at their goals.
  • Rewards for outstanding performance: The best incentive plans reward high performers with higher payouts than those who do not perform. 
  • Fair and equitable: All employees should be eligible for incentive payouts once they have met minimum performance requirements and receive payments in proportion to their contribution to achieving a specific target. 
  • Aligned with company goals: The incentive plan should be linked to specific business outcomes for which the employee is responsible, and there are specific measures in place to gauge performance.
  • Attractive rewards: The rewards provided under an incentive plan should be attractive enough to motivate employees to work toward achieving the goals set out under the plan. 

 How to run a successful incentive compensation program?

Here are some steps you can take to run a successful incentive compensation program:

  • Define the goals or objectives you want to achieve with the incentive compensation program. These goals should be challenging but achievable within a reasonable time frame.
  • Determine which employees will be eligible for participation in the incentives, such as all employees, managers, or sales staff only.
  • Set specific metrics for each goal to measure progress towards achieving it and determine whether an employee has achieved the goal by meeting the target metric or not.
  • Determine how much money will be set aside for incentives based on each goal metric and how often you want to give them out (monthly, quarterly, etc.)
  • Create an award matrix that clearly defines what each employee must do to qualify for an award (such as sell X number of units per month or reach Y level of profitability) and how much to pay as incentives.
  • Communicate the incentive plan to your employees to help them understand the parameters, their intent, and goals to work towards to reach those incentive levels.
  • Repeat the process by evaluating the success and failures of the incentive plan. Make a note of what worked, what did not, and what can be improved to achieve better results.

How to design an incentive compensation plan?

Incentive compensation should be designed around the type of work your employees do and the results they want to achieve. 

Here are some steps you can take to design an incentive compensation plan:

  • Define the objectives of the incentive compensation plan.
  • Assess current pay practices.
  • Determine how much money you're willing to spend.
  • Determine whether to use a single plan or multiple plans.
  • Identify key performance measures (KPIs) for each job function.
  • Determine eligibility criteria and employee groups.
  • Determine payout level and frequency.
  • Choose how you want to pay people — by a percentage of salary, a specific dollar amount, or some combination of both.
  • Finalize the design elements of your plan, including reward levels, payout frequency, and eligibility criteria.
  • Determine how often you will evaluate progress toward meeting your goals and what will happen if goals are not met or exceeded.

What is incentive compensation management software?

Incentive compensation management software is a tool that helps businesses, small or large, manage an organization's incentive compensation plan. Its primary purpose is to provide a streamlined process for handling employee incentives and rewards. 

Not just that, it also provides managers with tools to track progress, performance, and other metrics related to incentive programs so that they can make informed decisions about how best to reward employees for their efforts.