On employee compensation – note #3, Democracy in Action

Thanks for all the great comments on NewCo Compensation Principles, both public and private. Great food for thought.

Rob, I agree with your assertion: corporate feudalism is the norm today. Most companies have the equivalent of royalty, nobility, knights and serfs, both in terms of power structure and compensation allocation. Serfs are told they can climb the ladder to become royalty, but in reality that’s out of reach for most. If conditions are oppressive for long enough the serfs will revolt. And while a “revolt” these days won’t result in beheadings, it at least means poisonous morale, lower productivity, and unwanted employee attrition. (OK, we’re mainly talking about tech companies here, and tech compensation packages these days are hardly oppressive, even for serfs. But you get the point… it’s about perceived fairness.)

Pure socialism is also a broken model… you tend to get free-riders, and there is no incentive to perform beyond the norm. Tomi, I loved the GE Durham article you commented on, but it left me wondering whether they had sufficiently strong incentives to perform better over time in that system, over and above simple survival against internal and external competition.

So…’nuff pointing fingers, how about some solutions. I think a “meritocratic democracy” is worth considering.
Here’s how I described the democracy principle earlier:

Every employee is responsible for influencing the coaching, future job responsibilities, and compensation of other employees they work with by providing performance feedback on a continuous stream basis, and merit assessments periodically. The performance feedback drives coaching and job responsibilities. The merit assessments, summed up, define compensation increments. Management is an equally weighted participant in this process… “one man one vote”.

Here’s a possible implementation of the merit assessment process:

Employees decide how much incremental compensation coworkers get based on a democratic process. Rather than giving the reward budget to managers to dole out amongst their reports, delegate that responsibility to every single employee in the company: each of the N employees gets to allocate 1/N of the budget as they see fit amongst their coworkers, with the exception of themselves. Similarly, for group-level incentives, each employee gets to allocate a fraction of the entire group reward budget to other workgroups, excluding their own group, as they see fit.

The allocations – let’s call them “bids” – would be captured by an internal “compensation market” which displays the total compensation each employee and group is to receive after bidding finishes. The bidding process allows employees enough time to adjust their initial allocations if they wish to do so. (“Sally didn’t get what she deserved; I’m going to divert some rewards from other people to her instead.”) Bids are kept anonymous to prevent employee disputes and encourage clear-headed thinking, but the aggregated results are company-public, transparent for all to see.

I envision this system working nicely for allocating incentive pay such as cash bonuses, and I see no reason it can’t work for other types of rewards as well, e.g. “reward” time off, public recognition of outstanding achievements, assignment to special projects, and so on.

Possible tweaks:
* Subdivide the compensation budget into sub-pools for particular behaviors to be rewarded: innovation, collaboration, customer service, leadership, and so on. These behaviors should be job-specific, e.g. if your job involves leading and coaching people then your compensation draws from the pool of money dedicated to those two competencies.
* Audit the bids to detect gaming, e.g. rings of people co-operating with each other
* Implement checks and balances to prevent gaming in the first place, e.g. randomly assign the people one allocates money to, throw out the highest and lowest allocations for each employee, ensure people aren’t rewarding people they’ve never worked with, etc.
* Impose criteria to ensure the bidding meets company policies, e.g. a maximum ratio of highest to lowest compensation within the company. (See previous post, the Egalitarian principle.)

I’m sure many existing market management techniques could be applied here.

So, would it work? At minimum it would be a fascinating study in game theory. :-)

I predict the following results as a baseline:
* Allocation decisions would be based on more comprehensive information. Just as a real market reflects the sum total of information available about a traded resource, so should this compensation market reflect the information available about each employee’s performance. Therefore…
* Compensation allocations would be more fair.
* Employees would perceive this greater fairness, and like it.
* Employees who collaborate really well would do better in this system. Conversely, “lone rangers” who achieve their goals at the expense of the greater good would suffer.
* Managers would feel better and get to focus much more on their real job, because the burden of this stressful task would be shared, along with the accountability for end results.

Rude Q&A
Q: What about “orphans” who don’t work with a lot of other people? Won’t they be short-changed?
A1: At minimum, every employee has a manager who can choose to reward them for achievements. Beyond that, the system requires people to publish or perish… if nobody knows what work you’re up to, rewards won’t be forthcoming. If people see you doing promising work with high productivity, they’ll reward you.
A2: Every employee would get some amount of reward allocation at the group level. I’ll write more about individual versus group rewards in a future post.

Q: Over time would this system degrade the same way pure feudalism does, because the “losers” get upset that “winners” are getting bigger rewards?
A: I suspect a market system such as this is more robust than feudalism against jealousy and rivalry, but there’s no way to tell without trying. You definitely need the ongoing performance feedback mechanism in place to keep rewards and people’s expectations of rewards calibrated with actual performance. Without that, you’re judging people on the basis of assumptions and hearsay.

Q: How do we get people to have skin in the game? There seem to be no repercussions here for making bad allocation decisions.
A: There are natural incentives to do the right thing: If you overpay people you know to be poor performers, they stick around longer and drag you and everyone else down. You also have less money remaining to allocate to the high performers. If you short-change high performers, they leave, and the whole enterprise quickly goes down the tubes.

Q: Don’t you risk systematic bias and prejudice, e.g. people helping friends and punishing enemies, or people rewarding the same person year after year because they are a perceived golden child (the rich get richer)?
A: Yes this is a risk. But this risk exists in the traditional manager-driven system too. Spreading out the allocation responsibility and making end results transparent to everyone dampens the risk. Randomization would also help. And if the jobs have objectively measurable outputs (units sold, tons produced) you can balance those measurements against the subjective peer assessments.

Q: Should new employees be part of this system?
A: I am a fan of a trial / apprenticeship period where you are on fixed compensation and you may or may not become a full-time employee upon exiting the period.

What do you think? Feedback welcome.

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5 responses to “On employee compensation – note #3, Democracy in Action

  1. me

    Well now. Clearly I am going to have to wake up and motivate myself and get into this conversation, since this is, um, well, what I do. Or part thereof.

    That said, I don’t have the time today to engage at the depth it deserves, so let me just poke at it with the long pointy stick of economics. I believe that you are missing the impact of the external — the labour market. Your NewCo is not a closed system; it needs to compete for people. Prices for those people will be set to some extent by their capacity to contribute but also by the scarcity of their skills, as well as a certain amount of “it” factor. You won’t catch me arguing that the market is everything — people are no commodities — but certainly the range within which someone’s price is set has as much to do with the larger world as with their individual contribution and the structure of NewCo.

    You can argue that your focus here is on rewards and incentive compensation, not baseline comp — but to some extent it is one and the same. The analogy I use for this is that of comparing two gambling games. It’s not just the size of the prize, it’s the likelihood of winning it and the amount of control you have over the outcome that factor into some subjective expected value calculation — and that expected value is subject to market forces as much as base salary is.

    (Unless NewCo is a closed system. Like, say, a cult. What’s that you say? Great idea? Thank you.)

    Now, it could be that you have covered this and I may look like a fool. But I am a very busy fool, dammit.

  2. Cult. Now THAT’S a good idea. Low costs, high profits, no morale probs to worry about. :)

    I agree that compensation has to be calibrated to the market, both for incentive pay and other kinds of comp. (Unless of course you have found a niche without competitors, in which case please contact me right now so we can have a little chat about going into business together.)

    I am assuming a baseline salary, benefits, etc. that are geared to the market. And an incentive pay budget that is geared to market at a gross level.

    What’s different is the method I propose for allocating comp — at least the incentive pay piece — at the individual employee level.

    To use your analogy, the gambling game I’m proposing — incentive pay allocated through a peer review mechanism — is likely to be more accurate and objective than the industry-standard gambling game in which managers make all the decisions. This is because peer review incorporates more information than managers can possibly accumulate on their own.

    Bad managers using the industry-standard system work in a near-vacuum and just make up numbers based on their gut feel. Good managers using the industry-standard system learn to poll their employees for peer performance feedback on each other. This nets them slightly more comprehensive info… whatever people are willing to share. But it’s still a poor approximation to what I’m proposing, because not everyone will share peer feedback, even anonymously, and not everyone will tell the truth, the whole truth, and nothing but the truth.

  3. BaronMatrix

    Howdy,
    I ended up at your sit due to visiting MiniMsft and after reading your ideas, I can see a lot of merit (no pun intended) in them. I think that a company like MS would be a perfect candidate for implementing such a system. There are plenty of small teams where the impact would be minimal if unsuccessful but worth millions if successful. Meritocracy is the only way to run a modern software company because it will make your stars feel valuable even when not working on somethign earth-shattering because they can help others who may not have the skill set. I mentioned many times on Mini’s page that very few employees, including myself, were not concerned about their compensation but about their feeling of “uselessness” or underappreciation.

    Plenty of unsung cogs, including myself, have left MS for “greener pastures” and have increased their value and grown in other organizations. A system like this would replace money with job satisfaction for the vast majority of MS cogs who feel unappreciated. Extending a model liek this would allow for more initiatives from the workhorses to be pushed through since the team model can be used to show solidarity(no pun intended) and belief in the initiative. ANyway, great article.

  4. I recently listened to a podcast in which Whole Foods’ salary structure was discussed. Executives could not make more than 14 times more than any employee. Thus, if the executives were to be given raises, everyone in the company benefited. How “14″ was arrived at, and whether this creates a better working environment, is unclear to me. (A quick search of the company brought me to a site which was created “to counter Whole Foods’ attempts at misinforming its workers about what it means to unionize.” So perhaps it’s not a good model, but interesting nonetheless.)

  5. Pingback: My Own Pirate Radio » Bonuses demotivate?

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