(Compensation tied to balanced scorecard) Degree of difficulty of target achieve
ID: 2349285 • Letter: #
Question
(Compensation tied to balanced scorecard) Degree of difficulty of target achievement in the mid-1990s mobile corporation's marketing and refining (M&R) division underwent a major reorganization and developed new strategic directions. In conjunction with these changes, M&R developed a balance scorecard around four perspectives: financial customer, internal business processes and learning and growth. Subsequently M&R linked compensation to its balanced scorecard metrics. To illustrate, all salaried employees in M&R's Natural Business Units received the following percentages of their competitive market salary:Poor Performance within industry Average performance within industry Performance best in industry
Base Pay 90% 90% 90%
Award Based on corporate 1-2% 3-6% 10%
performance on financial metrics
Award based on performance on 0% 5-8% 20%
balanced scorecard metrics for the
M&R division and business unit 91-92% 98-104% 120%
The balanced scorecards included numerous metrics. M&R's financial metrics included return on capital employed and profitability and customer metrics included share of targeted segments of consumers and profitability of dealers. Internal business process metrics included safety and quality indices. Finally learning and growth metrics included an index of employees perceptions of the work climate at M&R
Business units developed their own Balanced Scorecards. In addition to choosing targets from scorecard metrics, the business units chose percentage weights that determined how much the achieved scorecard measures would contribute to the bonus pool displayed in the taable above. These percentage weights were required to sum to 100%. Furthermore, in connection with the award fro performance on the business unit Balanced Scorecard metrics, the business units assigned a performance factor, that is, a "degree of difficulty" of target a chievement for each target. The performance factors are similar in concept to those in diving or gymnastic competitions where performance scores depend on the difficulty of the attempted dive or gymnastic routine. The performance factors underwnt revieqw by peers, uppoer management, and the employees whose evaluation and compensation depended on the performance factors. ranged from 1.25 (for best-in-industry performance) to 0.7 for poor performance. A target corresponding to average industry performance rated a 1.0 performance factor.
Required:
A. What are the advantages and concerns in linking compensation to a balanced scorecard generally?
B. Evaluate M&Rs approach to linking compensation to multiple measures including its system of assigning degrees of difficulty to achieving targets. In your response, consider the process that is involved in developing the compensation scheme.
Explanation / Answer
A.) The advantages of linking compensation to a Balanced Scorecard are that it is generally an unbiased way to evaluate companies with the same standards. First, it is fair using the financial metrics to evaluate corporate performance because it links financial performance to how much reward the employees receive. The better a company performs the more pay they will receive. Similarly, the poorer performance a company display will result in smaller awards. Employees are the most important tool in ensuring the success and profitability of a company as they are the ones in charge of managing the product or service. Good employees will lead to high-quality care of products while bad employees will result in faulty products. As the products or services are the items that will bring in profit and revenue to the company, financial performance is also directly link to the performance of these employees. The scorecard also provides an incentive for workers to reach a certain level of productivity and provide a target in order to receive compensations. This gives workers a feasible goal to aim for and to find creative methods of working smarter, and not just harder. As well, rewards provide extrinsic rewards, such as money and higher salaries, which will motivate employees to do well. This is turn provides them with a sense of job satisfaction. The concerns with linking compensation to a balanced scorecard are that the data may not be reliable and valid. It is unclear if the measures the company uses to judge performance of the company and individual employees are sensible. There may also be unfair rewarding. For example, if a lower paid worker worked twice as hard and was twice as efficient as a senior executive; in the end that worker would not still get the same amount of reward pay as the senior executive. This happens because the reward system is based on salary pay, which is unfair the lower paid workers who may be more productive than some of the other individuals in higher paid positions. This method does not take in account the individual performances as it only looks at the well-being of the company as a whole. Therefore, the issue of inequality may arise. B.) M&R’s approach to linking compensation to multiple measures is a method in which they judge companies performance into four metrics: financial, customer, internal business process, and learning and growth. This compensation scheme would be a long process with having rewards based on both a team effort and an individual effort. The reward based on the company as a whole is both a good and bad process. It is good to reward all employees if they achieve the target profit return on employee capital or whatever goal they achieved. Since part of the reward system is based on the company’s performance as a whole, the problem may arise of less motivated employees seeking a “free ride” and not working as hard as they should. For the financial metric, it has both its disadvantages and advantages. The advantages of rewarding on this basis are that if the company achieves a certain target financial goal then the employees will receive a pay for their contribution towards reaching that financial status. The fairness as well comes from the fact that the target financial goals are based on the industry and not the company’s performance previous years. This is a fair way of judging financial performance because if the industry as a whole is suffering a regression then it can only be fair to adjust the company’s target goals towards that regression. Therefore, it is fair to assume even if the company may be earning lower profits then previous years, if it is doing well based on industry average, it is a reflection of the financial success of the company. Since the company is judging the financial performance on how well the company does per return on capital employed, then it is a more effective way of rewarding then just by normal financial goals. This is a more fair method because if the company has more employees then it will have obtain higher revenue sales compared to smaller companies. Therefore having done the method in that manner is fairer for the company because it will allow them to give rewards base on per profit dollar of employee capital rather then just straight profit. This allows them to give the same reward if on average the employees are doing the same regardless of the number of employees. As well, it is easy to track profit based on employee capital because there is very little judgment involved. The disadvantages of the financial metric are that it can be unfair in some perspective. For example, the return on capital employed may be unfair to the employees because the employees do not have control over who is hired and how many are hired. If the company over-hires eventually reaches a point of diminishing returns, which means the more capital implemented results in smaller increments of profits. Then, the capital employed versus the profits will appear much less desirable. Yet, this is a factor the employees could not control. Another disadvantage is that if certain employees do not do their job properly and it results in lower financial performances, then the amount of profit return will be lower per employee. These cases will both produce lower rewards for all employees yet it is unfair to those who have done their jobs and cannot control the factors that led to these losses. This method of distributing rewards based on financial metrics is a fair way in most perspectives of linking compensation to financial goals and like any method, there are flaws such as inequality and overlooking individual differences. The customer metric is another way in which judges company performance linked to compensation. This metric involves judging the targeted segments of consumers and profitability of dealers. There are advantages is to this linking compensation to this metric. For example, it is fair that they judge on how profitable each dealer in certain targeted segments of the market rather then judging them all based on the same scale. This is because some targeted segments sell higher amounts due to the different levels of demand in different area. Some companies may seem profitable because they sell to customers that have either income that is more expendable or demand for that product. Yet, in other areas, there may be a low demand for that product due to the lack of population or need for the product in that area. If they were all judged on the same basis, it would unfair because the most popular areas’ dealers would get more rewards even if they did not work harder than the dealers in areas that had lower demands. The disadvantage to linking compensation to the customer metric is that it is difficult to determine the change in demand because it may vary drastically. Maybe one day the product could be the least popular product ever, and then the next day become the most wanted item on the market. If that is the case, then the dealers in that area would receive a huge bonus for nothing that they did. The same is true for the reserve case of the demand going down. Therefore, in this way linking compensation to the customer metric is unfair as these are factors the company cannot control.
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