Incentive Plans and Performance Metrics

Title: Incentive Plans and Performance Metrics
Module: Variable Pay
Duration: 3:57

As discussed, incentive plan awards are based on pre-determined performance goals that drive the achievement of an organization's business strategy and objectives. When designing an incentive plan and the metrics that will be used to measure performance, it is important to be familiar with some of the common measurements and type of measurement.

There are two types of measurements, quantitative metrics and qualitative metrics.

Quantitative metrics measure performance based on data that can be put into numbers, for example, financial metrics. Qualitative measures on the other hand measure performance based on information that is behavioral oriented, not numerical. For example, the use of a rating scale to measure levels of customer satisfaction is a qualitative metric.

Most incentive plans use quantitative metrics, although some organizations that employ multiple measures use both quantitative and qualitative measures. Plans that use multiple performance measures generally weight each measure for purposes of calculating awards (for example, profitability weighted 50%, revenue, 25%, and customer satisfaction, weighted 25%).

It is also important to understand that depending on the purpose of the plan, objectives, and desired performance results, metrics may be financial, operational, customer, or people focused. Financial and operational performance tends to be measured using quantitative metrics while customer and people focused performance tends to be measured using qualitative metrics.

There are many different metrics that can be used to measure performance. Best practice is to use the metrics most important for meeting the objectives of the plan. In addition, it's important to not overdo the number of metrics for calculating awards as too many make the calculation complicated and more difficult for participants to understand.

Common finance focused metrics include net income, operating income, EBITDA, net revenue, and earnings per share. Net income, operating income, and EBITDA are all measures of profitability. Net revenue is an organization's total income less discounts and refunds for returned merchandise. Revenue is a good choice when an organization is looking to grow. Earnings per share is net revenue divided by the average outstanding common shares of stock.

There are also several metrics to measure operations. One of them is a metric referred to as unit productivity measures which measures the organization's productivity by dividing the total units produced (for example, total widgets) by the total labor hours required to produce the widgets.

A common customer focused metric is customer satisfaction, typically measured by surveying customers and having them rank their satisfaction with the services or product and then averaging the ratings received.

Two common people focused metrics are employee engagement and turnover. Employee engagement is based on employee surveys and ratings while turnover is calculated by dividing the total terminations for a period being measured by the average headcount during that period.

In conclusion, these are a sampling of metrics. The metrics your organization selects should align with the purpose and objectives of the plan. Also make sure the metrics you use are accurate and reliable and readily available.