Compensation Design -- 8 Steps to Pay (Only) for the Behaviors You Want

A few critical pitfalls pervade most small businesses. Lousy and late financial information is one of them. One of the others is poorly-designed incentive compensation programs. You'd be amazed at the millions of American workers who get incentive (or "bonus") checks for doing absolutely nothing above the minimum, or things that would have otherwise happened by themselves. And in some cases, for doing things that actually hurt the business, rather than help.

A member of Chief Executive Boards International brought this issue up in a Local Board meeting. He saw that the people selling his services were "farming" existing customers and not finding new ones. They were so comfortable with what they were making, they just didn't see a need to do the harder work of finding new customers. Yet he knew his business would die over time if this behavior continued.

Another member asked, "So, why don't you make it less comfortable to do what you don't want, and more attractive to do what you do want?" Good idea. Well, the member with the problem came back to his next CEBI meeting and reported that he had this problem fixed.

The solution? A slight twist to the compensation program. He set a quota of monthly sales to new customers. Sales people who didn't make their quota had their commission on all sales (existing and new) reduced by 20%. Those who made their quota got paid for both existing and new sales, and those who exceeded their new customer quota by a given amount got a 20% kicker on all sales (existing and new).

As we say in the South, "Nobody ever 'splained it to me that way before." Amazingly, everyone is making their new-customer sales quota now. Amazing -- get the rewards and penalties aligned with the business goals, and everything starts working better.

Here are 8 steps to designing an effective incentive compensation system:

1. Decide what "big result" you want -- sales, project outcome, etc.
   
   
2. Find a measure of that outcome that's closely related to the job -- something that the employee can actually control, and can see a way to impact. This is important -- plans based on "overall company profitability" rarely work -- the employees can't find the "lever" they're supposed to pull to affect a giant measure like that. Break it down into a measure they can understand and see how they can make a difference in.
   
   
3. Pick a "par" value for what "good" looks like -- a reachable level of performance that you'd be satisfied with on average. This should be something the typical person can accomplish -- not superstar territory.
   
   
4. Above "par", determine what you can pay for higher performance -- it should favor the "house". For example, if your gross margin on an additional revenue dollar is 40%, you might be willing to pay a sales person 10% (the house keeps 3 times what it pays out).
   
   
5. Consider "modifiers" that boost the employee's calculated bonus, based on other behaviors you want to reward. For example, new business vs. existing customers. Modifiers should be meaningful -- typically 10% to 50% of the base calculation.
   
   
6. Consider "demerits" that reduce the employee's calculated bonus, based on behaviors you want to eradicate -- for example, if sales reports aren't turned in on time or order entry information is incomplete. Or whatever else just "bugs you" about employee behavior. Again, meaningful percentages.
   
   
7. After you've designed (or redesigned) the plan, then turn your hat around and ask, "If I were the employee, how would I "game" this system?" Then go back to steps 5 and 6 and put in safeguards to prevent those abuses.
   
   
8. Lather, rinse, repeat -- if they think of games you didn't, adjust the plan as needed. This "modifier" idea is really powerful -- you can play with the modifiers at least annually. The base objective may not change, but you have the prerogative to tweak the modifiers to suit yourself or the company's current (and changing) strategies.

Important Note: Step #4 above is critical -- make the plan sensitive enough by starting at "par" rather than zero on the performance metric. Plans that pay from the very first unit of measure cannot possibly be sensitive enough to get an employee's attention -- it's simply not worth the effort to go the extra mile. Here's an article that describes that important strategy in detail: http://www.chiefexecutiveblog.com/2008/02/1-incentive-compensation-plan-design.html

If you've had particular successes or failures in compensation plan design, please click "Comments" below and share them with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com

SBA ARC Loan Program Stalled by Banks

Well, this one is interesting. A Federal Agency tried to do something right (or almost right), and the private sector broadly torpedoed it.

If you've followed this thread, I'm referring to the America's Recovery Capital (ARC) loan program, originated by the Small Business Administration (SBA). In my view, this program was flawed only in the fact that it was too small -- limited to $35,000 instead of an amount that really might have helped -- say, $100,000 or more. Here's some detail on the ARC program: http://www.chiefexecutiveblog.com/2009/08/sba-arc-loan-program-interest-free.html

The idea was simple -- help provide some much-needed working capital to small businesses that have been hurt by the 2008-2009 recession. Small businesses, that is, who had been profitable in either 2007 or 2008 -- people who know how to run a business and simply had the bad fortune of being in a recession-impacted industry. Usable to pay down existing debt, such as credit cards, and 100% guaranteed by SBA, so banks had few reasons to be worried about these loans. They're interest-free (interest paid by SBA), with no principal payments at all for a year. So far, so good.

Except that many banks have rejected this program out of hand or made up their own hurdles that prevent this capital from flowing to small businesses. One Chief Executive Boards International member actually filled out the paperwork himself. Guess what his bank's excuse was? "Well, you're really not in bad enough shape that we think you need the money." He thought $35,000 in interest-free money sounded pretty good, but they just didn't care enough to help him get it.

Here are some of the lame excuses CEBI members have heard from bankers rejecting ARC loan applications:

• It's too much trouble for that small an amount
• We'll do those only to pay down debt already on our own books (Not consistent with the ARC program)
• Your business isn't badly enough impacted (You've prudently managed, and you still have cash)
• Your current cash flow isn't sufficient (Not a requirement of ARC eligibility -- the reason it's 100% guaranteed to the bank, and the reason there are no payments for a year)
  

While I haven't personally yet heard of an ARC loan being granted, SBA is making some effort to promote banks who ARE actually making ARC loans (a few dozen per state, in most cases): http://www.sba.gov/idc/groups/public/documents/sba_homepage/sba_recovery_arc_lenders.pdf
Note the absence of "big brands" on this list -- these tend to be community and sub-regional banks who are apparently interested in $35,000 loans. Most large banks remain paralyzed as far as small-business lending is concerned.

And here's an article you may find helpful in approaching a bank for the first time -- make sure you're "dressed up for the party" when you initially visit a new banker: http://www.chiefexecutiveblog.com/2009/10/your-bank-may-be-your-critical.html

If you've successfully found new sources of financing for your business, please click "Comments" below and share them with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com

Don't Look Now, but the Basics Still Apply

On occasion, I'll start a Chief Executive Boards International meeting with a challenge like, "Name one sales strategy that's working well for you (or better than expected)." Sometimes I get "big" strategies like web presence or trade shows. And other times I get surprisingly simple, low-cost, high-yield strategies I never expected.

In response to that question, a member recently said, "Cold Calls are Working." Wow, a selling strategy thousands of years old still works! Then we asked him what he meant by that.

He's an industrial material supplier, and of course his business declined with the general downturn in manufacturing output. Yet he realized that customers have to be buying some of his product from someone just to keep their plants running. So, he drafted one person from the office and one operator off the floor who he thought might be pretty good on the phone, and put them to work calling existing customers.

Simple idea -- the product isn't complex, and both knew something about how customers used it, so they quickly developed a "trial script" and then adjusted as they made a few calls and saw how it worked.

And, what do you know, sure enough, some of those customers needed some additional product and placed orders on the spot! Even if they didn't, this type of call counts as a "touch" to keep your company's name at the front of a customer's mind. See: "Front of Mind -- Maintaining Visibility with Prospects & Customers."

This member's experience points out the importance of using all the tools in your sales & marketing toolbox -- keeping them sharp, and applying them regularly. You never know which one is going to work on any particular prospect at any particular time.

If you have sales strategies that have worked well for you in this recession, please click "Comments" below and share them with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com

Losing money in 2009? Plan to Lose a Lot!

In a remarkably business-friendly bit of legislation passed on Nov. 6, 2009, Congress extended the window for carrying back Net Operating Losses for 2009. The prior limit was a carryback of 2 years (2007 & 2008). For some businesses, 2007 & 2008 weren't particularly strong years, and those business owners could recover far more in back taxes from a carryback to earlier, more profitable years.

Like all tax laws, the mechanics of this process are somewhat complicated. Consult your tax advisor to see if carrying back losses as much as 5 years could actually help you. If so, go to every length to maximize your losses in 2009, unless you expect 2010 to be a wildly profitable year. There's little more honor in losing a few thousand dollars than in losing a small fortune. Why not go for it and get a nice refund of some high-bracket taxes from an earlier year? A counter-intuitive, but perhaps financially sound strategy.

Keep in mind, also, that a lousy December 2009 might cause a problem with your debt covenants. Or perhaps there's a problem already, and a little more red ink may not matter.
Whether you're having a record profit year or a record loss year, you may want to use some classic tax planning strategies to rack up more losses in 2009 than you might othewise have. Here are some ideas to consider:

1. Defer Revenue -- A classic tax deferral strategy in a good year, it would also boost losses. If you're on a cash basis, you'll want to slow down your billing and collection efforts and let those payments drift into January. If you're an accrual-basis taxpayer, you may want to suspend shipments in the last part of December or defer billing customers until January by some other means.
   


2. Take all costs possible in 2009 -- A cash basis taxpayer can, of course, accelerate payments of bills he would have otherwise paid in January. Clean out Accounts Payable. Prepay things like insurance premiums. An Accrual taxpayer can book invoices in December or accrue for costs incurred in December that haven't yet been billed.
   


3. Use Credit Cards to pay for everything you can through December 31, rather than rushing to have vendors bill you and actually paying the invoice. It's not widely known, but even cash basis taxpayers can post credit card charges as of the date charged, rather than the date you pay the credit card bill. They are considered cash paid, by means of a loan from the credit card issuer. Thus, every dollar you can charge in December is additional 2009 expense for tax purposes, whether you're a cash or accrual basis taxpayer.
   


4. Inventory writedowns -- A lot of things, particularly commodities, are cheaper now than when you might have put them into inventory. Consider using a "lower of cost or market" valuation strategy to write down raw material inventory. And while you're at it, look for excess or obsolete inventory you might write down as well. Cisco wrote down $2.25 billion in "excess inventory" in 2001, following the internet bubble. A writedown reserve won't work, per recent tax court rulings.
   


5. Uncollectable Receivables -- Accrual Basis taxpayers can consider writeoffs of any receivables that uncollectable. You may have to demonstrate legal efforts to collect for a receivable to qualify. If, of course, those are later collected, in whole, or in part, the income would be incurred at that time. Worthless loans on your balance sheet could get the same consideration, whether you're a cash or accrual taxpayer.

DISCLAIMER: This article is about ideas you might use to minimize taxable income or maximize losses in 2009. This is not tax advice, and any strategy you choose should be confirmed with your tax advisor to be certain it fits your specific situation.

If you have ideas for minimizing current-year income that have worked for you, please click "Comments" below and share them with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com

Time off Trumps Cash with Gen-X/Gen-Y

Money isn't everything. In fact, you may be surprised to learn, additional money isn't anything at all to some employees. I know this because I've heard more than one Chief Executive Boards International member say, "I don't understand it, but a good bonus program just isn't getting the attention I'd hoped for." In many cases these are bonuses for hourly or skilled workers, and usually not trivial -- say, $500 for beating a project estimate or for great customer satisfaction ratings on a job.

In one of those conversations, a member suggested, "Why don't you try offering a paid day off instead?" The response was easy to anticipate, "But I can't do that -- I'd lose a day of production." "Well, what if this caught on -- couldn't you hire another guy to cover for those taking days off because they did what you wanted them to do?"

Then we did the math. In fact, in most companies the hourly or skilled labor costs maybe $25/hour fully loaded (a bit higher in Union markets, where you can't give rewards for performance, anyway). So a day off actually costs you only about $200. If it's actually an opportunity cost issue (lost billings or productivity), you could pay someone else overtime to cover, and it would still cost you only $300/day for the same work. Tip: When communicating the value of a day off, you may want to play the opportunity cost card -- "Your paid day off costs the company not only your salary, but also $400 in revenue (@ $50/hour)."

The interesting part is your workers probably won't do the math. And somehow a day off with pay sounds a whole lot better to some of them than a $500 bonus. Studies have shown this to be a generational bias -- that Gen-X and Gen-Y (20-somethings and 30-somethings) employees are far more interested in time off than additional money. And, of course, the same could be true with some of your older employees, as well.

So, consider your audience when offering rewards for performance or behavior. Think about what they might value vs. what you might value, and couch your incentive programs accordingly. While you're doing that, also consider "spot" reward programs for people you just catch doing something good -- here's an article on how far a car wash coupon or Target gift card will go, particularly with younger employees: "How Much Employee Motivation Can You Buy for $10?"

If you've had some successes or frustrations with incentive compensation of your employees, please click "Comments" below and share them with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com

Nothing to Tell Them? Ask Them Something

You want to stay on your customers' and prospects' radar screens. You never know when they'll have a need for what you do, and you want to be the company at the front of their mind when that happens. Simply stated, you want your brand and logo in front of customers regularly, and email is the cheapest, fastest way to make that happen.

We've heard a lot about newsletters as a front-of-mind vehicle. Many business owners find themselves grasping for content, asking, "How can I come up with things my readers can use?"

Here's an idea -- Rather than telling or teaching your customers something, you can ask them something and get the same front-of-mind effect. And then you have a second excuse to communicate -- when you tell them what they and everyone else had to say on the subject. The key ingredient? Online surveys.

This idea surfaced in a Chief Executive Boards International meeting, and then several free or nearly free online survey tools were mentioned. Specifically, http://www.questionpro.com/ and http://www.surveymonkey.com/ . Either of these tools allow you to construct reasonably sophisticated online surveys. The huge benefit is they also roll up the results into either spreadsheets or graphical reports that you can immediately use.

And here's a bonus idea -- If you want to increase response to a customer survey, one member suggested offering a $5.00 donation to the respondent's charity of choice. Easy deal -- at the end of the survey, put a text box, asking them for their chosen charity (might not be a bad idea to ask for its address or URL as well).

Finally, you'll want to remind respondents that you'll give them the results in exchange for their input. Either post the results as a page on your website and send them the link by email or send them the results in the email itself.

A second use for online surveys, of course, is surveying customer satisfaction on a "per-transaction" basis -- each time you ship something or each time you pass a milestone. That way, you begin collecting a running scorecard of your company's performance. The same tools are useful for that purpose.

If you've had success with surveys as a front-of-mind tool, please click "Comments" below and share your experience with others.

Other CEBI Blog Articles...

To forward this to a friend, Click Here

Terry Weaver


CEO
Chief Executive Boards International
http://www.chiefexecutiveboards.com/
TerryWeaver@ChiefExecutiveBoards.com