🔒Pay increases need a focus and purpose

The economy looks like it is slowly but surely trending in the right direction. After years of reining in expenses, including employee pay, it's time to seriously consider giving your employees a raise. After all, these are the people who stuck with you during the past few years (either out of loyalty or a reluctance to enter the job market during the downturn), but how much longer will they remain without a pay increase? Other employers in the area are either starting to hire or putting together recruitment efforts. This means that your best employees could be getting ready to walk out the door if you don't give them some financial incentive to stay.

You could use the improved economy as a reason to give all of your employees a straight 3% increase or you take this as an opportunity to create an incentive program that will reward both you and your employees. A good compensation program doesn't just happen — it requires both HR expertise and financial knowledge. I asked Rick Dacri, president of Dacri & Associates, a human resource management consulting firm and author of the book “Uncomplicating Management,” to weigh in on how to create a compensation program that achieves two seemingly disparate goals: increasing employee compensation and your company's bottom line.

The challenge, he says, is to create an overall compensation plan that does three things: rewards your key employees for staying with you; maintains the profitability of your business; and focuses employee behavior on habits that will help move your business forward.

Create a competitive structure

At a minimum, your compensation package should offer wages that are competitive in the workplace. Since other employers are beginning to raise their wages, you need to at least understand how a pay raise will impact your business. A simple Excel download from your accounting software can help you figure out the bottom line impact of a 2%, 3% or 4% pay increase for all employees. So before you call everyone into a meeting to dazzle them with their new pay rates, make sure you fully understand how a pay increase will affect the profitability of your business.

Reward your top performers

According to Dacri, the first people you should reward are the star performers who help your business thrive. Your top employees will be the first ones to either start looking for other jobs or be approached by other employers. Both you and your stars know how valuable they are to your business, so don't hesitate to adequately reward them. Quantify what they bring to the table so you can knowledgeably discuss the basis for their pay raise. For example, mention that your star salesperson is getting a higher raise because they add $X more to the bottom line by selling high-margin items.

Create the right program

The goal of an incentive pay program is twofold: increase employee pay and change employee behavior. Dacri states that a good incentive compensation program will reward the behaviors that support the long-term growth and profitability of your business. The reason behind this is simple: how are you going to consistently increase pay if you don't have a corresponding increase in productivity?

An across-the-board pay increase for all employees simply pays people for showing up. A carefully designed incentive pay program rewards people for specific performances. However, you need to make sure that you are rewarding the correct behaviors.

For example, an incentive program that rewards your sales team for an overall increase in sales ignores the fact that some of your products are loss leaders while some generate a high profit margin. You obviously want to reward your sales team for selling the products that bring the most to your bottom line. Before you can create this incentive program, you first need to know which of your products really drive the profitability of your business and which barely pay for themselves.

Incent the correct behavior

You must clearly define what behaviors you want to change. Dacri gives an example of how an incentive program for your accounts receivable staff can either help or hurt your business. A reduction in your accounts receivable turnover will obviously help your cash flow, so you decide to incent your staff to lower AR turnover from 90 to 60 days. Your employees reach this goal, but your customers feel so harassed by your AR reps that they take their business elsewhere. The goal of faster payment was achieved, but you lost customers.

This example illustrates the need to balance compensation plans with customer service goals. It also shows that some level of financial analysis is needed before you implement any compensation plan. You need to quantify the impact of lost sales, since any tightening of your payment terms will probably result in some customers jumping ship. It may not be bad to have your longer-paying customers defect, but at least know the impact to your business before you implement a change.

Remember that everyone, from the janitor to the president, can be part of an incentive-based compensation program. Just make sure you are rewarding the correct behaviors so both your employees and your business benefit from the program.