Incentive design is a complex subject. There are countless business situations that can benefit from incentives; and countless incentive options to address these situations. This makes teaching incentive design difficult. Just understanding the the options is a challenge. It is even more challenging to determine precisely which options to use and how to put them together to suit a particular situation.
Wouldn't it be nice if we could boil down all incentive plan designs into a common structure, and describe this structure with common terminology and vocabulary? It turns out, we can.
At their most fundamental level, at the level of their structural DNA, every incentive plan is comprised of a unique collection of QUALIFIERS, MODIFIERS and DETERMINERS. It is the way you mix and match these elements that determines how the plan works and which behaviors it will encourage (or discourage).
A type of measure used to "determine" whether or not a payout will occur. If an incentive plan is designed to payout when a company's net profit reaches a certain level, then net profit is a "determiner." Some plans have one determiner, but most have several. When it has more than one, they are usually weighted. An example might be a plan that weights net profit at 50%, gross margin at 25%, and individual sales at 25%. In this example, all three would be determiners.
A type of measure measurement used to "modify" the magnitude of a payout that is determined by other measure(s). For example a payout may be determined based on company revenues, but it may be modified upward or downward based on customer satisfaction scores. Let's see how this might work. If the determiner is total company revenues, the goals might look like this:
Threshold = $5 million revenues resulting in a $1,000 payout.
Target = $7 million resulting in a $5,000 payout.
Outstanding = $9 million resulting in a $10,000 payout.
If the actual year-end revenues were $8 million, without any modifiers, payout would be $7,500 payout (midway between $5,000 and $10,000).
Let's see what would happen if we added Customer Satisfaction as a modifier using the following table:
|CUSTOMER SATISFACTION SCORE||PAYOUT MODIFIER|
|80 to 84.99||65%|
|85 to 89.9||80%|
|90 to 95||100%|
Now, if the actual Customer Satisfaction Score was 87.9, the payout would only be $6,000 ($7,500 x 80%). In this example, the payout was modified downward by $1,500 based on Customer Satisfaction.
A type of measure used to determine if a participant "qualifies" for a payout. A qualifier can be viewed as an on/off (toggle) switch.
Here are several example of possible qualifiers:
- The plan participant must be employed on the last day of the plan year.
- The plan participant must have an individual performance rating of 3 or better (on a scale from 1 to 5).
- Company profits must exceed 5%.
- Company revenues must exceed prior year's levels.
The possibilities for qualifiers are endless. The trick is to select those that are most meaningful and describe situations where you would not want to pay incentives no matter how well the employee (or the company did) on the other determines and modifiers.
In the example above, even though the employee stands to earn $6,000 based on revenues and customer satisfaction, failure to qualify on any one of the qualifiers would result in a zero payout.
When designing a new incentive plan, the first step is always to determine the behaviors and outcomes you wish to encourage. The next step is to identify the specific determiners, modifiers and qualifiers that will support these desired outcomes. Perhaps you have already realized that any measure could be structured as a determiner, modifier and/or qualifier. In fact, some plans use the SAME measure as two or more different types. Now we have moved beyond the structure of the plan and are entering into the art of putting the pieces together. Most on this later.