Will performance impact fixed pay?
Compensation is pay for performance. It is in proportion to the performance or output delivered & paid when it is delivered.
In most professions, a recurring, predictable fixed compensation is the primary form of compensation. Paid on a date(s) in the same amount.
If it is fixed and recurring, how is it linked to output or productivity?
The linkage between fixed compensation and output
The first reason to pay a fixed compensation is to get workers to show up for work regularly and predictably. The amount is fixed but paid only if you show up. No show no pay.
If workers show up for work, they can be directed towards a set of tasks and deliver an output.
The assumption is that once at work, the worker will deliver a predictable and measurable output consistently. Matthew will deliver 3 code releases every quarter, Anita will see 24 patients daily and Chester deliver 300 packages during his shift.
A monetary value is assigned to this output. Fixed pay is compensation for this predictable, consistent, and measurable output.
What will be the impact on fixed pay if the output grows, diminishes, or becomes less predictable?
Effect on fixed compensation when output increases
a) Matthew worked stretch hours to make a deadline, Anita had a surge in pandemic related patients and Chester had to deliver higher than his daily quota during the holidays.
Each of these situations required more than what was expected in the normal course of duties
The enhanced work output merits a proportionate reward. If the call to arms was a one-off, a one-time financial award in the form of a spot bonus or equivalent can compensate it. Fixed pay is unchanged.
b) Sometimes the stretch and enhanced output may extend over a longer period of time. Matthew is now leading a new cloud migration as well till new staff gets recruited, Anita is seeing patients for a colleague who is on an extended break.
If this elevated output, while extended, is still likely to be transitory, then additional compensation in the form of a series of periodic bonus’ or a proportionate annual bonus is apt. Here too, fixed pay remains unchanged.
c) With practice and experience, Matthew now delivers 4 releases a year, Anita is consistently seeing 6 more patients a day, and Chester delivers 30% more packages regularly.
Matthew, Anita and Chester have clearly become more competent and productive. Their elevated output is likely to continue through the foreseeable future.
To compensate this predictable and consistent enhanced output, overall compensation needs to increase proportionately
If their pay package includes a variable element directly linked to the number of code releases, patients seen or packages delivered, its payout will increase to reward the higher output. A choice can hence be made leave the fixed compensation unchanged. This minimizes the risk having to make difficult adjustments to fixed compensation in the unforeseen event that the elevated performance drops.
However, there is psychological aspect to also consider. Fixed pay is seen as a measure of professional self-worth.
Even if the more productive individuals can make the same amount of total income in a combination of fixed and variable compensation, they will want a higher fixed pay to acknowledge their better productivity compared with peers.
The higher fixed pay communicates that since they are more productive than their peers, their “show up for work pay” also reflects it.
For consistently higher performers, gross compensation (fixed + variable) will need to reflect the overall higher performance and at the same time fixed pay will also be adjusted up to differentiate them from peers.
Effect on fixed compensation when output diminishes
Matthew hurt his hand and is typing slower, likely to miss the 3 releases goal. Anita had a contingency at home and is working limited hours. Chester is driving more cautiously to nurse a sore back.
a) If an output linked variable pay is part of the pay package, the performance dip will trigger a proportionate drop in it, and compensation will adjust down to reflect the reduced output.
Fixed compensation can be left unchanged.
b) What if there is no variable pay element to adjust down, or is insufficient to adjust for the dip in performance.
The individual is now being compensated in excess of what is warranted by the output delivered, and all of it as fixed pay.
The recipient and the payee may agree to a reduction in fixed pay till the productivity is restored.
People have mortgages, leases, utility, food, and education bills to pay. These difficult to change expenses are typically linked to the predictability and amount of fixed pay. Downward adjustments in the fixed pay can cause disruption in the payment of these hard to change expenses.
Also, remember the psychological aspect of fixed pay. Bringing it down communicates that “you are less worthy” now. May be true but still going to hurt.
For these reasons, reductions in fixed compensation are rare and made very selectively
c) If fixed pay reduction to reflect dip in output is not an option, it’s time to make an assessment.
Will the productivity come up to expected level? In what time frame, and what will be the path to the restoration of output to the expected level? If you have heard the phrase “performance improvement plan”, this is it.
Having done this assessment, the employer will need to make an investment decision
The likelihood of getting to full productivity, the cost, and any impact on any surround teams will be weighed against the effort, time and cost required to replace the impaired resource with a fully productive one.
If the benefits of retention and restoration exceed the investment, the fixed pay stays unchanged while the employee(s) continues on the path to getting back to full productivity.
If the benefits of retention and restoration fall short of the investment required, the fixed pay will still likely remain the same, but for the person replacing the incumbent.
Fixed compensation is the foundation of compensation plans. It reflects the expected, consistent productivity and output.
Productivity, however, can fluctuate.
If the fluctuation is transitory, higher productivity can be rewarded by spot rewards, a periodic bonus or increase in variable pay where it is part of the pay plan.
Similarly, a dip in variable pay is also the simplest way of adjusting compensation for a temporary reduction in productivity.
More permanent changes in output will require adjustments to the fixed compensation as well.
For those who are consistently going to deliver move, fixed may will need to go up.
For those who will deliver less, fixed pay should also come down. This one is rare though. Unless there is a clear and confident path to full productivity, a resource replacement may be the alternative.
Might also want to read - Relevant skills + productivity = competitive resource