On Employee Compensation: Note #1, Microsoft Through the Rear View Mirror

While at Microsoft I spent a good deal of time thinking about the employee performance assessment and compensation system, both from the employee point of view (10 years) and management point of view (5 of those 10 years). These days I’ve got my entrepeneurial thinking cap on, and the compensation topic is on my mind again. I want to share some notes on what I learned and what I might do differently, both in Microsoft and in a green fields company of my own, were I to start one.

In this first note, compensation thoughts on Microsoft through the rear-view mirror.

I write this assuming you already know something about the inner workings of Microsoft’s performance management system. If you don’t, you can glean details from web sites like Mini-Microsoft, e.g. here and here. Take it with a grain of salt though; not everything you read there is accurate.

How might one reasonably and realistically improve Microsoft’s current system?

1. Decouple the compensation review process from the performance feedback process. I’ve always believed that performance feedback should be realtime, or as near-realtime as you can make it, and it should come from anyone and everyone you’ve worked with. The system for collecting and distributing feedback must therefore be very easy to use, and open to everyone’s input on a continuous year-round basis. Something like OfficeBallot, perhaps. (I can only see the demo, since I can’t register, but it does look promising.) As a nice side effect of soliciting continuous performance feedback, when compensation changes do actually happen there are no surprises… the comp changes simply reflect feedback the employee has been receiving all along. And managers won’t be tempted to massage performance feedback to fit compensation changes.

2. Significantly increase transparency. Getting to full transparency is hard, but there are many baby steps worth taking. Publish salary ranges, bonus ranges, stock grant ranges, and their correspondence to skill levels (“ladder levels”, in Microsoft parlance). Publish performance feedback, especially on managers. Publish the explicit inner workings of the allocation model (see #4 below), so that employees don’t waste time manufacturing conspiracy theories. Simplify job titles, rather than allowing title inflation to proliferate. Publish the names of people who’ve done exceptional work so they can get public recognition in addition to any monetary rewards. (Like Google, Microsoft does hand out big rewards to people who achieve truly exceptional things. They are just quiet about it… which is silly, since you might as well take credit where it’s due.)

You could clearly move the slider even further, but this would be a good start, enough to yield significant dividends in trust and act as an audit on management.

3. Use 360-degree peer review as the key input for compensation changes. Collect structured performance feedback as in #1 above, and weight that most heavily in compensation changes. In parallel, de-emphasize the current mode whereby a group manager ultimately makes all the compensation decisions. Managers don’t have complete information anyway; in a group of, say, 50 people or more, most managers simply don’t come into deep-enough contact with all their employees to judge them objectively at review time. To make matters worse, relying solely on one manager to make decisions for their group creates a process bottleneck at best, and a painful point of failure in the degenerate cases where the manager is incompetent or unjust.

More on 360-degree input in my next note.

4. Leave the allocation system essentially as-is. By “allocation system” I mean the methods and policies used to assign dollars to people, including performance ratings and their gearing to compensation increases, the steepness of differential pay between poor and exceptional performers, salary calibration to industry and regional pay-scales, and so on. This is where top management policy and philosophy is crystallized into dollars and cents. And at its heart, Microsoft’s performance philosophy is fundamentally Darwinian: the system is geared to inspire peak individual performance and ensure survival of the fittest through competition and steeply differential pay.

Thought I would suggest something different here? Well, sorry, no… the current system didn’t get that way by mistake. So long as the top management philosophy remains Darwinian, there is no point in drastically altering the allocation system, for it implements the philosophy fairly well. Mild tweaks do make sense — you could eliminate performance ratings, for instance, and let absolute dollar numbers speak for themselves — but in general I would leave the system skeleton intact and focus on tweaks that minimize pain. Truly deep changes will require a corresponding deep shift in philosophy, from the top on down.

All that said, I wouldn’t be surprised to see an eventual shift away from stark survival of the fittest. The current system has some nasty side effects — outlined nicely in a recent Business Week article — that cumulatively increase the cost of doing business. Microsoft execs aren’t blind to this. I assume putting the well-respected Lisa Brummel in charge of HR is a sign they’re serious about deeper change.

More soon. In my next note I’ll look at a green fields scenario.

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