Feature – In depth: Bonus schemes

Jamin Robertson asks if mid-winter payouts give staff the means to a career end, but finds golden handcuffs are alluring

Case Study: Orange

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It is deep mid-winter. Overworked HR professionals, tired of working from dawn ’til dusk and stressed because they work in an under-staffed and increasingly embittered office, sit in wait of a record company bonus. If it arrives, they’ll ditch the whole sorry environment and spend the summer kicking back on the Costa Del Sol.

Fantasies aside, the size and prevalence of bonus payments are on the up, so the impact on staff retention is worth considering. According to Towers Perrin’s Worldwide total remuneration study 2005-2006, the use of variable pay internationally is increasing with Latin America and Asian nations making rapid strides in relation to bonus-paying employers in the US and Europe.

Back in the UK, the results of the Chartered Institute of Personnel and Development’s (CIPD) survey Reward management 2006, due to be published this month, reveal that 85% of private sector organisations and 32% of public sector organisations pay bonuses – up from 69% and 22% respectively last year.

Most commonly based on business results, bonuses are also paid on individual or team performance or a combination of these components. Charles Cotton, CIPD adviser for reward, says: "Organisations are trying to align reward to objectives, so there are a lot of attractions in variable pay."

According to the CIPD, bonuses are an attractive compensation strategy because they are self-financing and do not inflate the pay bill. Put simply, they only pay out if the money comes in.

Philip Hutchinson, director of HR and reward consulting at AWD Consulting, explains: "Employers want to reduce the risk of employing people. Bonuses reduce that risk because if you don’t perform you don’t get paid."

Stephen Brooks, partner at PA Consulting, has also noticed the trend. "It’s growing. Bonuses are much more a part of the package for a much wider range of people now, and there will be growth in sophisticated, performance-based reward systems." With annual bonuses in particular making up a significant proportion of salary, rational behaviour dictates that employees will delay leaving an organisation until after the bonus is paid. Because a lot of organisations pay out around February, organisations may be left short of talent in the spring, after employees have bailed out.

The website of assessment provider and consultancy firm SHL carries an example from the millennium year. A survey of IT professionals after the busy Y2K period found that many employees received a bumper bonus. After these were paid, staff turnover nearly doubled to 12.7%.

"You can expect if your bonus is paid in April fewer resignations in February and March than you will get in May," notes Brooks.

Of course, employees will develop expectations about the bonus. While a high payout might prompt some to take the money and run, a disappointing bonus could also lead others to jump ship.

Annette Cox, lecturer in human resource management at Manchester Business School, says to avoid this employers must design bonus schemes carefully, ensuring that they are robust and clearly defined to set the goalposts.

Overall, retention is something of an age-old issue. Alan Judes, a senior consultant at Hewitt Associates, says: "The old cycle of everyone moving just when the bonus is paid has been enough of a problem for organisations to take action."

But some observers believe the effect is minimal. Cox feels that while bonuses can impact on retention, other factors are more likely to contribute to an employee’s decision to part ways with an employer. "When we look at exit data or surveys from employers, employees often tend to give other reasons why they choose to stay with or depart from an organisation apart from the money," she says.

Brooks points out that when employees enter the employment market after taking a high bonus payment, they make an expensive proposition for other employers, so a good bonus might actually compel people to stay, not least for the promise of the same again next year.

That said, the growth of long-term incentives, which cynics might dub golden handcuffs, has no-doubt risen partly in response to the high staff turnover that comes with a no-strings-attached gift of a cash payment. According to the CIPD’s survey Reward management 2005, 40% of private sector employers now offer long-term incentives, with sharesave schemes leading the way.

"Employers are seeing the retention factor in long-term incentive plans and the wealth creation that brings. [Sharesave schemes], share options, and matching shares are all things you can do so you don’t get the annual exodus of talent when the annual bonus is paid," says Judes.

Brooks adds that the use of long-term incentives can fulfil those aims. "Deferred stock is used extensively by investment banks. If a proportion of the bonus comes from a deferred stock, it grows in value over time in the way any other stock does, you just don’t own it for [an initial] period. If you are a bad leaver and go to a competitor you are likely to lose all of it, or at least most of it. If you are a good leaver, perhaps for ill health or you go to a company that isn’t a competitor, then you are allowed to take most of it."

And he believes that nothing says ‘I like you’ than the opportunity for employees to build ownership in the company.

"If you can let people accumulate capital and ownership of the companies in which they operate, retention should follow. Look at a firm like [global finance company] Lehman Brothers. Whenever they talk about shareholders to the senior management level, they are talking to the shareholders."

Even when employers are not in the position to offer long-term incentive options, simple adjustments to the existing bonus structure may encourage retention rates. Paying a bonus for a calendar year in April, for example, ensures employees are well into next year’s earnings before they receive last year’s dues.

Manchester Business School’s Cox says employers should at least attempt to foster a culture of recognition.

"If your boss comes to your office and says ‘Thanks for your hard work. I’ll tell you now, we’re going to give you a bonus to reward you’, that’s probably going to feel better than having a note in your payslip saying ‘Here’s some extra cash."

Of course, this is a reminder that people go to work for more than just a pay cheque, regardless of how it is formulated.

"People aren’t mercenaries. Consider the employment opportunities, the training and development, and the colleagues you work with," says Judes.

This may be so, but try telling that to a City financier in the run up to bonus time. They might instead go along with the wag who said: "Money is not everything, but it is right up there with oxygen."

Case Study: Orange

The high street mobile telecommunications provider Orange will this month pay out the proceeds of its new financial results-based bonus scheme.

Employees below management level are set to receive between 5% and 10% of their annual salary following the introduction of the twice-yearly bonus scheme in July last year, called Success Share.

The company also operates a bonus scheme for senior managers. Senior reward executive David Shears said Success Share was introduced to better align staff and corporate objectives. "It’s been well received. It removed the significant divide between management and non-management grades in terms of the package. At Orange, we’re trying to foster a performance-based culture, and not to have bonus plans in place below management level did not foster that culture."

The company now intends to add an individual performance-based element to the scheme. The France Telecom-owned firm employs 13,500 UK staff and Shears says that while it is too soon to judge the effect of the scheme on turnover, there is no evidence of a spike in staff at senior management level leaving around the bonus period.