2018 Compensation Budgeting Forecast Part 2: Trends in Incentive Compensation

Astron Solutions has been tracking the increase in organizations instituting short- and long-term incentive plans among our client organizations over the past year. This trend is in direct response to the frustration with and the failure of traditional merit pay programs to impact employee behavior. In addition, organizations are discovering that traditional merit pay programs have little or no impact on retaining and motivating their new millennial workforce.

Employee Engagement and its Impact on Total Rewards
Of most importance to organizations today is the need to have better reward systems to enhance employee engagement. The following is from a 2017 study conducted by Deloitte on the concern of employee engagement:

• Organizational culture, engagement, and employee brand proposition remain top priorities in 2017; employee experience ranks as a major trend again this year.
• Nearly 80 percent of executives rated employee experience very important (42%) or important (38%), but only 22% reported that their organizations were excellent at building a differentiated employee experience.
• Fifty-nine percent of survey respondents reported they were not ready or only somewhat ready to address the employee experience challenge.

A key total rewards strategy is to develop short- and / or long-term incentives that focus on employee behaviors exemplifying the organization’s values.

Current Use of Bonus / Incentives
According to BLR’s recently published 2017–2018 Pay Budget and Variable Pay Survey, incentive / bonus practices in 2017 and projected for 2018 appear as follows:

For 2017:

• On average, 50.4% of organizations paid bonuses to their exempt employees in 2017, down from 54.3% last year.  18.4%, up from 15.7% last year, offered amounts of 5% or less.  31.2% awarded amounts greater than 5%.
• On average, 31.5% of those surveyed awarded bonuses to their hourly workers, down from 37.9% last year.  21.6% offered 5% or less.  9.9% awarded amounts above 5%.
• On average, 30.8% gave their senior management team members bonuses above 10% of base pay, down from 37.2% of organizations last year.  21.2% awarded the remainder of their management team members at that level, down from 24.5% of organizations last year.  8.6% rewarded their non-management exempt employees with bonuses at the same level, down from 10.6% of organizations last year.
• Only 3.4% awarded their hourly office employees bonuses above 10%.  2.4% of survey participants who answered the question awarded their hourly nonoffice employees bonuses above 10% of their base pay.
• 40.4% paid bonuses in addition to salary increases, up from 38.9% of organizations last year.  In 2017, 21.0%, down from 24.5% last year, awarded some of both, depending on employee pay type.
• Though the majority (56.9%) isn’t providing them in 2017, lump sum payments are an option for some employers.  13.1% offer up to 5% of base pay.  Another 3% offer from 5.01% to 10% on average across all employee groups.

Projected for 2018:

• A little over one-third (34%) of survey participants provided information regarding their plans for bonuses in 2018. Of those who did, on average across all employee types, 8% plan to offer bonuses of up to 2.5% of base pay.  Another 9.8% plan to offer 2.51% to 5%.  Another 6.9% plan bonus amounts in 2018 of 5.01% to 10%.  Bonus amounts of 10.01% to 25% are planned for an average of 10.1% of the survey participants who answered this question.
• Senior management will receive bonuses of 10.01% to 30% of base pay at 19.5% of organizations.  9.2% will receive bonuses of 30% or more.
• Though 5.5% plan to award bonuses in lieu of pay increases, 36% will award bonuses in addition to salary increases.  23.5% plan some of both, depending on employee type.
• Although 81% have no plans to offer them in 2018, lump sum payments are on tap for some employers.  12.3% plan to offer up to 5% of base pay.  1.9% plan to offer from 5.01% to 10% on average across all employee groups.

Incentive / Bonus Budgeting for 2018

Regardless of how an organization decides to design its incentive / bonus program, there remains the question of how to budget and account for this variable salary expense.  For not-for-profits, the issue is clearer in that in order to retain nonprofit status in the eyes of the IRS these organizations are required to pre-budget the maximum potential payout.

However, there is still the issue of accounting for this expense. From Accounting Tools, we find the following general recommendations:

• Historical-basis bonus. If a bonus is essentially a roll-forward of the organization’s performance from the preceding period into the budget period, the recipient of the bonus plan presumably only has to copy existing performance to achieve the bonus. In this case, the payment is probable, so you should budget for the bonus expense.
• Attainable bonus. If the bonus is based on an improvement in the organization’s present performance, you should base the decision to record the bonus on a qualitative estimate of how difficult it will be to attain the bonus. If it is more likely than not that the recipient of the bonus plan will be paid the bonus expense.
• Theoretically attainable bonus. If the bonus is only paid if one or more extremely difficult targets are met, then do not budget for the bonus expense. In these cases, the bonus is based on the achievement of targets that may only be theoretically possible, such as running a production facility at 100% of its capacity. Given the low probability of success, there is no reason to budget for the bonus expense.

Astron Solutions’ Perspective
Astron Solutions finds that our client organizations are focusing more on how to enhance employee engagement through their total rewards programs, rather than specific compensation plan elements. Most clients now find that traditional “merit” and / or “pay for performance” programs are inadequate in reinforcing the behaviors expected of employees, in terms of both employee engagement and meeting strategic objectives. Client organizations now look to variable compensation programs as a more effective answer.