Strategy and structure play fundamental roles in guiding and shaping companies, given their impact on employee performance and the bottom line. SMEs, however, have another powerful and highly effective tool at their disposal: performance-based remuneration.
Performance-based schemes have two effects. First, because compensation is linked to the attainment of particular objectives, an SME can reduce a portion of its fixed labor costs, thus freeing up resources for other activities. Second, these policies motivate employees to improve their performance and adapt their behaviors, making the company more competitive.
Employee involvement
Stories of successful performance-based remuneration policies show that these schemes are associated with good business outcomes. These outcomes, however, are largely brought about through an increase in employee involvement—the element that improves performance.
In other words, good remuneration policies encourage greater efforts and more participatory behaviors in various tasks performed by SME employees, which range from information processing to decision-making and problem-solving.
Compared with people who work for large companies, SME employees have more opportunities to influence operational or business-related matters and participate directly in improving processes, which in turn can improve individual and organizational performance.
At the same time, SMEs often have a hard time systematizing and transferring employee know-how due to their lack of human resource management personnel. However, given employees’ direct impact on the bottom line, it is particularly important to engage employees more effectively.
Thus, remuneration policies that encourage—among other things—internal job rotation, interdisciplinary training, and the self-management of teams lay the groundwork for SMEs to take advantage of this sort of knowledge and transform it into a competitive advantage.
Good remuneration policies encourage and reward greater job efforts, various participatory behaviors, and diverse knowledge, skills, and abilities.
Scope and depth of remuneration policies
To develop a valid performance-based remuneration policy that lives up to its potential, SMEs must consider two pay-for-performance aspects: scope and depth. Scope refers to the variety of performance indicators and types of rewards that make up the compensation scheme. Depth refers to the share of an employee’s total pay made up of performance-based remuneration.
When it comes to scope, schemes that feature an extensive catalogue of remunerations—commissions, profit-sharing, annual bonuses, raises, etc.—tend to achieve a high degree of involvement because employees perceive a direct relationship between effort and reward.
If the system also takes into account the employees’ various profiles and their preferences regarding type of remuneration, the impact on active behavior is even more direct. For example, veteran employees who intend to remain at the company in the long run will probably prefer a raise over a one-off commission.
At SMEs, it is common for each employee to have multiple roles and to be responsible for several tasks at once. It is therefore extremely beneficial to encourage the involvement of all employees through a complete and varied remuneration system.
As for depth, either excess or deficiency can yield a negative outcome. On the one hand, if performance-based remuneration accounts for a trivial part of employees’ overall pay, they will not perceive any relationship between higher performance and economic reward and thus are unlikely to put in any extra effort. Highly skilled employees, for example, are likely to value compensation schemes that reward excellent performance in a specific area.
On the other hand, if variable remuneration accounts for a crucial portion of overall pay, employees may suffer from greater work-related stress, fatigue, and uncertainty regarding the amount of money they will receive at the end of the month.
Placing too much importance on variable remuneration at the expense of fixed wages can have another harmful effect: employees come to see their co-workers as competitors and become less collaborative with fellow team members. Some employees may also resist any changes in the performance indicators or remuneration policies, thus putting a damper on the flexibility that the company needs to succeed in the market.
With an extensive catalogue of remunerations, employees perceive a direct relationship between effort and reward. Therefore, SMEs should adopt various pay-for-performance schemes (i.e., high scope).
A delicate balance
Performance-based remuneration policies can be a powerful business tool, provided that a delicate balance between variable and fixed pay is reached.
These policies clearly have the potential to get employees more engaged and involved by helping them see a direct relationship between effort and monetary reward. Is the solution, then, to develop multiple indicators linked to corresponding forms of economic remuneration? The answer will depend on the administrative burden that each company is willing and able to manage.
To determine the best remuneration policy in each case, it is necessary to consider not only the type of company, the sector, and the age of the staff members, but also the country where the company operates—a source of valuable information about the prevailing social values and culture. For example, in a country where people tend to avoid risk and uncertainty, employees are unlikely to welcome a compensation policy in which variable payments make up a larger portion of total pay than fixed wages. However, if the culture values the collective good over individual benefit, this inclination should be reflected in the remuneration policy.
In short, performance-based remuneration strategies can be powerful tools for SMEs, but each organization must take its particular circumstances into account.
About the study
The conclusions described in this article are the result of a study conducted using data provided by Statistics Canada and extracted from its studies of workplaces and employees. The sample consisted of 444 SMEs, each with fewer than 500 workers, during the period 1999-2006. Nonprofit organizations were excluded from the study.
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