Why Financial Incentives Don’t Improve Performance

Posted March 10th, 2016 in Articles, Blogs by admin

Performance bonuses for individuals, particularly CEOs, has been the norm across all industries for decades. Yet, increasing evidence indicates this is not a smart practice, that may actually detract from individual and team productivity and motivation.

That may be changing. I’ve talked and worked with an increasing number of executives and professionals who are less motivated by financial rewards as they are with other intrinsic rewards.

John Cryan, the co-CEO of Deutsche Bank, raised eyebrows recently, when he said that bonuses do not encourage bankers to work any harder. The German lender’s boss was reported to have said that he had “no idea” why his contract included a bonus scheme.

What Does Most Research Tell Us?

A new study by researchers in the UK and Australia has found it makes better business sense to reward team performance rather than provide bonuses to the top-performing individuals.

Other new research, based on feedback from 1,091 managers and 1,018 employees conducted by the Institute of Leadership & Management (ILM), found that emotional factors such job enjoyment, getting along with colleagues and feeling fairly treated by managers are the most effective ways of motivating employees for better performance. Only 13% of those surveyed felt that the prospect of receiving a bonus or other financial incentive motivated them to work harder.

Most previous research has found little or no cause and effect between individual financial bonuses and performance. A study by two McKinsey consultants found that shareholder returns were no higher when management had incentive plans. Data from Equilar, a company that compiles data about executive compensation, found no correlation between executive compensation and firm performance. Rewarding executives based on firm wide metrics, such as earnings per share, also famously distorts their incentives, the study found. Research  by Boris Groysberg, at Harvard University, found that bonuses in the financial sector were often unrelated to performance.

Conventional wisdom says that people will work harder and smarter in order to earn more and more money. Turns out that conventional wisdom isn’t just dead wrong; it’s tragically wrong. According to author Dan Pink,  extensive research shows that paying creative people bonuses for good performance not only demotivates them, but almost guarantees they will fail.

As for productivity, at least two dozen studies over the last three decades have conclusively shown that people who expect to receive a reward for completing a task or for doing that task successfully simply do not perform as well as those who expect no reward at all. On Incentives

Rewards and Motivation

It is difficult to overstate the extent to which most managers and the people who advise them believe in the redemptive power of rewards. Certainly, the vast majority of U.S. and Canadian corporations use some sort of program intended to motivate employees by tying compensation to one index of performance or another. But more striking is the rarely examined belief that people will do a better job if they have been promised some sort of incentive.

Where Does the Rationale for Incentive Pay Come From?

We can blame previous psychological theories of behavior. Behaviorist theory—which originates actually from laboratory experiments with animals–was used to develop such practices as piece-work pay for factory workers, stock options for top executives, special privileges accorded to Employees of the Month, vacations, banquets, certificates and commissions for salespeople. And the careers and livelihoods of scores of management and HR consultants has long been based on creating endless varieties of formulas for computing bonuses. Even today I have regular conversations with well-meaning executives and management experts who advocate collaborative teamwork, participative management, continuous improvement, and other progressive ideas, who still believe that the use of financial rewards will cause personal or organizational change.

Here’s the essential question. Do rewards—financial or otherwise– work? Research suggests that rewards (or “the carrot”), like punishment (or “the stick”) only succeed at temporary compliance. However, neither rewards or punishment can produce lasting change in either attitudes or behavior. That’s because, once the reward or punishment stops, or they are not escalated, people will revert back to old behaviors. Financial incentives are extrinsic motivators and they have a limited effect. In organizational terms, they can’t create or sustain a long-term individual commitment.

Incentives Can Damage Relationships

Alfie Kohn, writing in the Harvard Business Review, argues “Everyone is pressuring the system for individual gain. No one is improving the system for collective gain. The system will inevitably crash.” The surest way to destroy cooperation and, therefore, organizational excellence, is to force people to compete for rewards or recognition or to rank them against each other as GE once did, and Amazon still does. Furthermore, when employees compete for a limited number of incentives, they will most likely begin to see each other as obstacles to their own success.

Employee Engagement and Productivity

Employee engagement is declining throughout the world, particularly in the U.S. Depending on the surveys from Gallup and other organizations, employee disengagement levels are somewhere between 50-70%. Yet the typical response to this problem often is to tinker with the employee compensation programs While executives themselves may be equally influenced by other things, they still think that bonuses are the dominant incentive for most people

Bonuses and stock options can lead to unethical behavior, fuel turnover and foster envy and discontent according to Wharton management professors Adam Grant and Jitendra Singh. Instead, they say, employers should pay greater attention to intrinsic motivation. That means designing jobs that provide opportunities to make choices, develop skills, do work that matters and build meaningful interpersonal connections.

In addition to encouraging unethical behavior, financial incentives can create pay inequality, which in turn can cause turnover and harm performance. Numerous studies have shown that people judge the fairness of their pay not in absolute terms, but rather in terms of how it compares with the pay earned by peers. As a result, pay inequality can lead to frustration, jealousy, envy, disappointment and resentment. This is because compensation does not only enable us to support ourselves and our families; it is also a signal of our value and status in an organization.

Notre Dame’s Matt Bloom has shown that companies with higher pay inequality suffer from greater manager and employee turnover. He found major league baseball teams with larger gaps between the highest-paid and lowest-paid players lose more games; they score fewer runs and let in more runs than teams with more compressed pay distributions. Similarly, Phyllis Siegel at Rutgers and Donald Hambrick at Penn State have shown that high-technology firms with greater pay inequality in their top management teams have lower average market-to-book value and shareholder returns.

Lindsay McGregor and Neel Doshi of McKinsey & Company surveyed o (link is external)ver 20,000 workers around the world, analyzing 50 major companies, conducting scores of experiments, and scouring the landscape of academic research in a range of disciplines, concluded that a high performing work culture that emphasized play, purpose and potential for its employees and minimized financial reward were the most motivational for employees.

Focusing on Intrinsic Motivation

We have decades of research to show that intrinsic motivation has a long-term effect both at the personal and organizational level. This issue doesn’t need to be studied more to demonstrate its validity. Intrinsic motivational approaches include job autonomy and mastery, recognition, bringing meaning to the job and many other approaches. And for Gen Y, working for organizations whose culture and values reflect work-life balance and contributions to environmental and social good have equal if not superior attraction for career choices. For example, one senior executive client of mine left his job at a banking firm to move to a very different industry where the firm’s culture was far more progressive, despite receiving financial compensation that was only 50% of what he made previously.

It’s time that senior executives and their consultants came out 20th century business practices, and stopped using financial incentives to motivate employees and improve performance. It’s time to come into the 21st century.Why

Why performance reviews don’t improve performance

Posted November 12th, 2012 in Articles, Blogs by admin

In his article in the Harvard Business Review, Tony Schwartz, President and CEO of the Energy Project, and author of Be Excellent At Anything, says that when we hear the phrase from someone, “would you mind if I give you some feedback?” what that actually means to most of us is “would you mind if I gave you some negative feedback?” wrapped up in the guise of constructive criticism, whether you want it or not.

There are some fundamental problems with negative criticism, regardless of whether we clothe it politely as “constructive.” First, Schwartz contends, criticism “challenges our sense of value. Criticism implies judgment and we all recoil from feeling judged.” Indeed, psychologists such as Daniel Goleman, contend that threats to self-esteem and sense of self-worth in the form of criticism can feel like threats to our survival.

Part of our resistance to positive reactions to negative feedback is the way our brains work. Neuroscientists have clearly identified that our brains are fundamentally protective, defensive mechanisms. If your ego and sense of self is threatened, your brain unconsciously will act to protect and defend, either actively or passively.

Nowhere does negative or constructive criticism appear more frequently than in performance reviews of employees. The prevailing theory is that criticism, which invariably is part of the performance review, will improve the employee’s performance, and in addition the employee will positively welcome it. Nothing can be further from the truth.

The reality is that the traditional performance appraisal as practiced in the majority of organizations today is fundamentally flawed, and incongruent with our values-based, vision-driven and collaborative work environments.

Robert Sutton, a Stanford University professor, says that performance evaluations do more harm than good. A 1998 study by Development Dimensions Incorporated, found that employers themselves expressed overwhelming dissatisfaction with performance reviews. The consulting firm, People IQ, in a 2005 national survey, found that 87 percent of employees and managers felt performance reviews were neither useful nor effective. In an article published inThe Psychological Bulletin, psychologists A. Kluger and A. Denisi report completion of a meta-analysis of 607 studies of performance evaluations and concluded that at least 30 percent of the performance reviews ended up in decreased employee performance.

Tom Coens and Mary Jenkins, in their book, Abolishing Performance Appraisals: Why They Backfire and What To Do Instead, detail studies that clearly show performance appraisals do not work and outline what could replace them. Garold Markle, in his book, Catalytic Coaching: The End of The Performance Review, argues that performance reviews have reached the end of their utility and should be replaced with a manager-employee coaching system.

Charles Jacobs, author of Management Rewired: Why Feedback Doesn’t Work and Other Supervisory Lessons from Brain Science, says that the brain is wired to resist what is commonly termed as constructive feedback, but is usually negative criticism. Brain science has shown that when people encounter information that is in conflict with their self-image their tendency is to change the information, rather than changing themselves. So when managers give critical performance appraisal feedback to employees, their brains’ defense mechanisms are activated, and the motivation to change is improbable.

Samuel Culbert, a professor at the UCLA Anderson School of Management, and author of Get Rid of Performance Review: How Companies Can Stop Intimidating, Start Managing-and Focus on What Really Matters, argues that employee performance reviews are “destructive and fraudulent.” He argues “it’s time to finally put the performance review out of its misery,” adding, “this corporate sham is one of the most insidious, most damaging and yet most ubiquitous of corporate activities.” Culbert argues that the performance reviews “instill feelings of being dominated. They send employees the message that the boss’ opinion of their performance is the key ingredient of pay, assignment, and career progress.” He contends that the use of performance reviews is about “power and subordination, making condor all but impossible,” and causing employee defensiveness and stress. Culbert goes on to argue that the practice is more about intellectual laziness and ego-building for managers, and it avoids having to tackle the hard work of changing organizational processes. What should replace the performance review? Culbert argues that something called a “performance preview,” a process that holds the manager and members of the manager’s team equally responsible for results.

Literature abounds with systems and strategies for giving constructive criticism, and consultants have made lucrative livings implementing such systems in organizations, despite how flawed they are. Perhaps the silliest component of these systems is to suggest to the person giving the constructive feedback to “sandwich it” between positive statements, as if the person receiving the feedback will focus on the positive part of the sandwich, and not the negative. Again, this ignores the brain’s programmed preference to respond to negative information.

Rachel Emma Silverman and Leslie Kwoh, in two articles in The Wall Street Journal, cite evidence from the Corporate Executive Board that some companies are now abandoning formal performance reviews and replacing them with “performance previews,” in which the boss or manager engages in a dialogue with an employee about how a specific task or project will be completed before action is taken. This places onus not only on the employee to specify the how and what action will be taken, but also places onus on the boss to discuss what supportive actions are necessary. This creates a two-sided, reciprocally accountable performance system. The boss’s job then, is to guide, coach, tutor, and assist the employee rather than judge, evaluate and find fault.

Social media can also be used effectively to provide feedback in an informal and developmental way. Some companies are now using online technology to regularly collect “crowdsource” feedback. This system allows any employee to give immediate and real-time feedback to any other employee or boss while work is progressing.

Erick Mosley, writing in the Harvard Business Review Blog Network, argues “a group of independently deciding individuals is more likely to make better decisions and more accurate observations than those of an individual. Crowdsourcing, by leveraging social recognition data, is a better way for managers to collect, evaluate and share information on employee performance.”

Unlike 360-degree performance evaluations, which are end-point or annual processes, crowdsourcing is ongoing and real-time feedback. Also, rather than constructive crowdsourcing evaluations that duplicate performance evaluations that look for faults or critical feedback, a crowdsourcing system can be used as a motivational tool, by providing positive feedback. “When the crowdsourcing conept is applied in this way,” Mosley says, “co-workers and peers can identify and reward desired behaviors and cultural attributes through unsolicited recognition, as they happen…This stream of recognition, which often appears in internal social newsfeeds, provides timely, measurable insights into your talent top influencers and performers.”

The reality is that constructive criticism is an oxymoron. All criticism is inherently destructive and negative, however we may attempt to window dress it, or “sandwich it” between positive statements. Anything constructive is associated with growth, which requires a person to be open, not in a defensive state of mind. When put together, these two ideas constitute an oxymoron.

To be in an open, receiving state of mind, the feedback must be positive, or at least guide the recipient to self-awareness and self-discovery. Leaders in organizations now have an opportunity to abandon a system that is not only dysfunctional but doesn’t recognize the latest in neuroscience research and take advantage of new social media technology.


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Why CEOs need to scrap employee performance reviews

Posted September 29th, 2010 in Articles, Blogs by admin

On any given day in most organizations in North America, you’ll find a manager informing an employee that it’s time for their regular performance review. And usually, the news is neither delivered or received with joy. Second only to firing an employee, managers rate performance appraisals as the task they dislike the most. The reality is that the traditional performance appraisal as practiced in the majority of organizations today is fundamentally flawed, and incongruent with our values-based, vision-driven and collaborative work environments.

The practice of giving employees annual ratings or performance evaluations is widely accepted as an essential and valuable tool throughout the business world. Amazon offers over 200 titles focused on this topic, with more than 50 published since 1994. Most employee performance reviews are annual processes, where the manager annually assesses the work of subordinates. In some cases, the employees also participate in self-review. In many organizations, annual salary increases are tied to the performance appraisals, and often as well, according to one study, managers often delay completing them because they are not motivated to do it.

Jim Heskett, writing in the Harvard Business Review says employee performance reviews rank with root canals on the list of least favorite things to do both for employees and managers. Heskett argues that the debate over the utility of performance reviews centers around a “forced ranking” system, made popular by GE, which not only purports to identify the top performers, but also the underperformers who can subsequently be “advised” to leave the organization.

Supporters of a forced ranking system, Heskett says, cite its effectiveness because it averts lawsuits when poorly performing employees are fired. The opponents of the system say the system hurts teamwork and innovation. What little research there is on forced ranking systems show they produce only short-term improvement. It also avoids the obvious question–is the employee performance review system’s purpose only to weed out poor performers?

Robert Sutton, Stanford University professor, says that performance evaluations do more harm than good. A 1998 study by Development Dimensions Incorporated, found that employers themselves expressed overwhelming dissatisfaction with performance reviews. The consulting firm, People IQ, in a 2005 national survey, found that 87% of employees and managers felt performance reviews were neither useful nor effective. . In an article published in The Psychological Bulletin, psychologists A. Kluger and A. Denisi report completion of a meta-analysis of 607 studies of performance evaluations and concluded that at least 30% of the performance reviews ended up in decreased employee performance.

Tom Coens and Mary Jenkins, in their book, Abolishing Performance Appraisals: Why They Backfire and What To Do Instead, detail studies that clearly show performance appraisals do not work and outline what could replace them. Garold Markle, in his book, Catalytic Coaching: The End of The Performance Review, argues that performance reviews have reached the end of their utility and should be replaced with a manager-employee coaching system.

Aubrey Daniels, a world renowned management consultant, argues in his book, Oops! 13 Management Practices That Waste Time and Money, that performance appraisals don’t work and are actually counter-productive. Daniels cites a study by the Society for Human Resource Management (SHRM), which found that 90% of performance appraisals are both painful and don’t work; and further, produce an extremely low percentage of top performers.

Charles Jacobs, author of Management Rewired: Why Feedback Doesn’t Work and Other Supervisory Lessons from Brain Science, says that the brain is wired to resist what is commonly termed as constructive feedback, but is usually negative criticism. Brain science has shown that when people encounter information that is in conflict with theirself-image their tendency is to change the information, rather than changing themselves. So when managers give critical performance appraisal feedback to employees, their brains’ defense mechanisms are activated, and the motivation to change is improbable.

Samuel Culbert, a professor at the UCLA Anderson School of Management, and author of Get Rid of Performance Review: How Companies Can Stop Intimidating, Start Managing–and Focus on What Really Matters, argues that employee performance reviews are “destructive and fraudulent.” He argues that “it’s time to finally put the performance review out of its misery,” adding, “this corporate sham is one of the most insidious, most damaging and yet most ubiquitous of corporate activities.” Culbert argues that the performance reviews “instill feelings of being dominated. They send employees the message that the boss’ opinion of their performance is the key ingredient of pay, assignment, and career progress.” He contends that the use of performance reviews is about “power and subordination, making condor all but impossible,” and causing employee defensiveness and stress. Culbert goes on to argue that the practice is more about intellectual laziness and ego-building for managers, and it avoids having to tackle the hard work of changing organizational processes. What should replace the performance review? Culbert argues that something called a “performance preview,” a process that holds the manager and members of the manager’s team equally responsible for results.

Clearly, the annual performance review was designed for a work environment where control of individual employee performance was a key function. In today’s team and collaborative environment, that perspective no longer makes sense. Some key questions that need to be answered are: Why are we perpetuating a system that research (including recent brain research) shows is not only ineffective, but counterproductive; and what are better processes to replace the performance review? And managers need to look in the mirror and honestly answer whether they use the performance review as a way of dominating and controlling employees, rather than demonstrating a transformational style of leadership.