Situation: A company has lost six people since the beginning of year – about 7% of employees. Currently the company doesn’t pay bonuses but increases salaries annually. The CEO has been considering creating a bonus pool, distributed based on performance points earned during the year, and including a component for employee longevity. How does your company award bonuses?
Advice from the CEOs:
There is fierce completion for good software engineers. You will lose people unless you focus on culture and pay bonuses of some sort.
Based on reasons that people left you need to start developing and enhancing your company culture.
Don’t kid yourself. You already have a company culture. Hire a consultant to help you identify it so that you are developing it along lines that you desire instead of by accident.
Make it clear that bonuses are not entitlements but are earned. There should be clear guidance as to bonus criteria.
Check out the following YouTube – “RSA Animate – The surprising truth about what motivates us” to see what motivates knowledge workers who are expected to develop creative solutions. The bottom line is that it is more than money!
An effective bonus program must have a bias toward performance – the metric is key. Be careful about the way you create metrics and incentives and be wary of unintended consequences.
Pay special attention to the quality and skills of your 1st and 2nd line managers.
Besides bonus, equity and culture – plan for 10% attrition. In your industry, this may be the norm.
Situation: A company anticipates closing a Round 3 financing this year. The CEO has an idea of the range of management team ownership that is likely at this round. He seeks advice from others with experience. What can the team do to assure that their ownership is at the upper end of the range? How much should management own post-financing?
Advice from the CEOs:
The numbers change depending upon both company valuation and the funding environment. Currently, Silicon Valley venture capital firms are becoming more cautious and risk averse. This is because many companies that have received financing over the last 2-3 years have underperformed. Many have yet to even produce and release a product. In this environment, the chances for maintaining a larger share of ownership for management are not as good as in headier times.
Seek two outside counsel to generate two independent opinions on a fair management option pool, and to assist in negotiations. These will likely be boutique firms.
Approach the situation as an executive option pool objective. Determine what needs to be in place to attract new executives, as well as to replace existing executives should they leave or be unable to serve.
When discussing this with your board and investors, phrase the challenge in win-win terms. The objective is to lock-in key personnel and assure that key positions will be filled to meet company objectives. This is the best way to assure future financial success.
Key members of the executive team may want to seek independent advice, apart from the company or executive team.
Situation: A company allocates 10% of pre-tax profit to a Bonus Pool. Employees qualify for quarterly bonuses based on company and group performance, and for semiannual bonuses based on individual performance. Last year not all funds were paid out of the pool because some employees failed to hit performance targets. What’s the best and fairest way to allocate the excess funds in the pool?
Advice from the CEOs:
Why not let the pool be the pool? Employees will or will not qualify for bonus participation based on individual and group performance. The company determines who qualifies at each level and these individuals become the pool participants, splitting the full pool in proportion to their level of qualification and their salary.
Not all companies will do this based on pay and bonus level policies. For these companies there are options on what to do with unpaid bonus funds in the pool:
Leave the funds in the pool for future distribution;
Shift unpaid bonus to Retained Earnings; or
Retain a percent of the funds in the pool and shift the rest Retained Earnings.
Another consideration is whether to use discretionary or metric criteria to determine bonuses. Some companies use only or primarily metric criteria, others use discretionary criteria, and some use a blend of metrics for one portion of the bonus with the remaining portion discretionary. The rationale behind discretionary criteria is to give managers the opportunity to recognize extraordinary contributions that fall outside the normal metrics.