Phasing Out the Annual Raise:
More Firms Opt for Bonuses

By Jeff D. Opdyke

From The Wall Street Journal Online

Millions of people are looking toward 2005 with hopes of a getting a raise, but many employers are sending this message: You will have to earn it as a bonus.

Increasingly, companies are moving away from the traditional annual pay raise in favor of beefing up the amount of money earmarked for employee bonuses. The bonuses are largely based on performance, meaning only the most productive employees -- or those lucky enough to be in a profitable company or division -- will reap the bounty.

Once the province of upper management and executives, bonuses are ending up in the pockets of a much broader group of employees than they used to. Mercer Human Resource Consulting reports in a recent survey that workers down to the clerical level are now commonly eligible for bonus pay. At companies that grant bonuses across the board, clerical and support staff generally earn payments of 3% to 5% of annual salary.

Executives, of course, continue to pick up the biggest bonus checks each year, typically from 30% to 50% of their base pay. Upper managers generally receive 15% to 25% of their underlying pay, while middle managers are typically eligible for bonuses of 10% to 15%.

The move toward bonuses comes as overall salary increases are expected to be measured again this year. A recent salary survey by Hewitt Associates, a human-resources consulting firm, shows that companies expect to offer pay raises of about 3.4% to 3.7% for 2005, depending on an employee's corporate rank. That comes on top of similar pay raises in 2004, which Hewitt calls "some of the lowest increases ever recorded" in the 28 years the consulting firm has gathered and analyzed compensation data. Moreover, those raises will just barely keep up with inflation, which is running at about 3.6% annually, according to Economy.com. In the early 1990s, workers typically received raises of 5% or more.

By contrast, for the 2004 bonus season, companies have committed nearly 10% of their annual payroll to pay-for-performance bonuses. That is up from the 8.8% allocated to bonuses in 2003, and marks a significant escalation from 3.8% in 1991.

Allstate Corp., a Northbrook, Ill., insurer, is launching a pay-for-performance salary structure on Jan. 1. Under the new system, employees' individual performance will be graded in one of five categories. While Allstate plans to increase its compensation budget 3.8% for the coming year, who gets how much of that cash will depend on those performance rankings. That means one worker may receive, say, a 5.5% increase, while a co-worker in the next cubicle doing the exact same job -- though less efficiently or productively -- could receive only 2%. "This allows us to attract better performers and keep the good talent that we have," says Steve Scholl, Allstate's assistant vice president of human resources.

At Bank of America Corp., Charlotte, N.C., bonus-pay plans now stretch to the lowest employee ranks and are based on both companywide profits and the results of individual business units. Incentive pay "makes people work harder," says Tara Burke, spokeswoman for the bank.

Varying Approaches

Some companies use egalitarian bonus-pay structures. If the company as a whole, or a particular division, meets established production or profit goals, then everyone benefits. Other companies operate a meritocracy in which workers in the same job could earn different pay based on their own quarterly or annual performance.

Many companies use a hybrid approach. At Alpharma Inc., a Fort Lee, N.J., generic-drug maker, divisional profit targets drive part of the bonus calculation, with the other part based on specific goals set for each employee. Alpharma has seen a connection between company performance and employee incentive, says Mike Butler, the company's vice president of compensation and benefits. As such, "our thrust in the last two to three years has been putting more money into incentive compensation," Mr. Butler says.

To determine performance, companies often look at both objective measures -- quantifiable goals such as sales targets or cases handled -- and subjective ones, such as how well an employee gets along with colleagues and clients.

Keeping Fixed Costs Low

Companies are focused on bonuses over pay raises for several reasons. Inflation remains relatively tame, meaning companies aren't feeling pressured by the economy to raise salaries. Job creation remains lethargic, so there is little pressure on business to raise pay in order to attract workers.

Another issue: Companies, seeking to remain competitive globally, want to keep their fixed costs low. Raising someone's salary, of course, is a permanent cost that a company generally must live with in subsequent years. Bonuses, however, are optional from year to year, allowing companies some control over a big expense in their income statement.

Because bonus pay typically is tied to corporate profitability, 2004 bonus checks, which generally go out in the early spring, will be a mixed bag. Employees in the telecommunications, insurance, energy, computer manufacturing, finance and pharmaceuticals sectors will likely have reason to celebrate; incentive-pay plans are widespread in those industries, according to Hewitt, and their overall profitability is relatively strong. Federal, state and county workers could benefit, too, says

Ken Abosch, business leader for Hewitt Associates' Talent Consulting practice.

By contrast, companies in the transportation-service, education and many manufacturing sectors are expected to be more tight-fisted with bonus pay this year, according to many consulting firms.

Defining Job Expectations

If you are eligible for bonus pay, it is important to define the expectations of your job for the coming year. "Ask what would mark a good year for you, and what would mark a great year," says Steve Gross, Mercer's compensation practice leader. Then ask, "If we have a great year, is there any opportunity for extra reward?" This approach, Mr. Gross says, is non-threatening and shows that instead of simply expecting more pay, you are taking the initiative to strive harder for the incentive.

Define the metrics on which you will be measured. That way both you and your boss are tracking the same milestones. You don't want to think you are excelling throughout the year only to find at bonus time that your boss was using a different yardstick.

Nail down specifics about what you can do to ensure the level of performance necessary to earn a bonus. If your bonus depends on the results of a larger group, there may be little you can do individually. Still, establishing what is expected of you may help you stand out, aiding in achieving a promotion, which is where the biggest bumps in pay still happen.

Finally, request progress reports throughout the year. A bonus, says Hewitt's Mr. Abosch, should never come as a surprise. Ideally, you want to meet with your supervisor every quarter -- or, at the very least, twice a year -- to discuss your progress. The focus of this meeting shouldn't be the size of your potential bonus. Instead, hone in on what you have done so far, how it measures up to expectations and what you can do going forward to make sure your name is on the bonus list next time around.

"Companies are putting more focus on the notion of performance, and they're willing to spend that money -- or more -- on bonus pay when the results justify it," Mr. Abosch says.

From CareerJournal Today – January 2005