The Rewards Revolution: Leveraging Data-Driven Insights for Pay Strategies

As I explain in the full document, I was deeply unsatisfied with the level of knowledge that we have about the impact of pay schemes and started to do my research as a way to answer my own questions, or perhaps to exorcise my own demons! Rather academically titled: "Pay for Performance: What Type of Pay Scheme is Best for Achieving Business Results?" (Diez, 2017), this work offers significant insights into compensation strategies. The research challenges traditional pay models and provides a roadmap for HR practitioners to design and implement more effective compensation schemes.

As in other instances, the intent in sharing these stories is to encourage you to first ask questions that often go unasked, and then to seek answers to these questions in your own organization using analytics.

The research setting is simple: There is a business game where participants can modify the price, the formulation, the placement or the appearance of the product, with the objective of growing revenue and profits, and are given a set number of chances to do so. The rewards are set up such that they emulate various pay philosophies, from no variable pay to 100% variable, including team vs individual incentives as well as short vs long term incentives (LTI) and various kinds of LTI vehicles. The results were fascinating in many ways, including in some that were not expected. 

Here is a summary of the insights which can be put into practice: 

1. Embrace Team-Based Incentives: Shift the focus from individual to team-based incentives as they consistently provided better outcomes. Recognize and reward collective efforts, fostering a collaborative and united workplace.

2. Flexible and Dynamic Pay Structures: Results were in line with prospect theory, which suggests that we move away from rigid compensation models to more flexible and dynamic structures. Tailor compensation packages to individual needs, preferences, and life situations. 

3. Align Pay with Stretch Targets: Develop well-defined, stretch targets that align with organizational goals. Ensure that these targets are communicated effectively to all team members.

4. Consider Cultural Implications: Implement compensation models that are universally effective, transcending cultural differences and catering to a diverse workforce. This does not mean to pay everyone the same way, but rather to support your culture with your pay system. If you espouse teamwork, how well is it reflected in your performance appraisal process?

5. Tailor Incentives to Organizational Context: Apply prospect theory and other behavioral economic principles judiciously, considering the specific context of your organization. In practical terms, be aware that when individuals exceed targets, performance will tend to flag, and when they are behind target, they are more likely to take excessive risk to achieve them. From a behavioral science standpoint, understanding the implications of this dynamic should lead to better designed incentives. For more on prospect theory, you should read Daniel Kahneman’s book “Thinking, Fast and Slow”.

6. Balance Long-term and Short-term Incentives: Weigh the benefits of long-term versus short-term incentives. Consider the nature of the work, the industry, and the long-term goals of the organization. Specifically, align targets to payouts.

The research findings provide a compelling argument for rethinking and redesigning pay schemes in organizations. By adopting team-focused, flexible, and well-targeted compensation strategies, companies can attract, retain, and motivate their workforce more effectively, paving the way for success in the dynamic landscape of modern work.