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Tying pay to performance has shown to boost an organization’s bottom line. Employee performance
depends on ability, motivation and a supportive environment. Rewards must be geared to attracting and
retaining employees; making high performance attractive while encouraging employees to build their
skills. Appraising performance is the exercise of objectively and accurately measuring performance.

Module Objectives

Readings

Activities and Evaluations

Employee Performance

Employee performance has been shown to depend on three general factors: Ability, Motivation, and a
Supportive Environment.

Variables that affect the ability to successfully link individual pay to a compensation strategy include: the
performance of individuals, the external environment, overall corporate performance and organizational
objectives that may change.

Attaching rewards to motivation is a process of determining what is important to a person, and offering
it in exchange for a specific behaviour.

Motivation Theories include: Maslow’s Need Hierarchy ; Herzberg’s Two-Factor Theory; Expectancy
Theory; Equity Theory; Reinforcement Theory; Goal Setting Theory; and Agency Theory.

Some theories that focus on content (identifying what is important to people), such as Maslow and
Herzberg state that people have certain needs: physiological, security and self-esteem that influence
their behaviour.

Other motivation theories focus more on the nature of the exchange. Expectancy Theory states that
people evaluate potential behaviours in relation to the reward they will get, and behave according to
the best result. Equity Theory is based on the fairness of the rewards outcomes exchanged for
employee inputs and what is expected vs what is received. Agency Theory states that
management/owners and employees operate opportunistically to obtain the most favourable outcome
possible.

How do you get the desired behaviours?

New employees are taught the culture of the organization through the socialization process; i.e. long
hours; not taking breaks etc. Progressive companies also use the compensation system to assist by
asking and answering questions specific to behaviours that the organization values and rewarding those
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behaviours. In addition a compensation manager will continue to ask: What do we want our
compensation system to do? How do we positively match rewards to desired employee behaviours?

Employers want behaviours that lead employees to contribute to better organizational performance.
Connecting pay to performance seems obvious.

A Total Reward System recognizes that nonfinancial rewards also influence behaviour.

Compensation motivates behavior by affecting decisions about whether to join a firm, to stay or leave,
to agree to developing job skills and to perform better. However, workers highly value other job
rewards, such as: empowerment, recognition, and opportunities for advancement.

Performance-based pay is the optimal compensation choice for more complex jobs where monitoring
employee’s work is difficult.

The Concept of Total Rewards

A total reward system includes all financial and non financial rewards. Compensation is just one of the
rewards. Rewards also include empowerment, recognition and opportunities for advancement.
Compensation Motivates Four Types of Behaviours:

1. In the decision to join the company;

2. In the decision to leave the company: turnover is high for bad performers when pay is based on
individual performance; and higher for good performers when compensation is group incentive
plan based;

3. Employees in skill-based jobs tend to develop job skills because of pay. Skill-based pay is
intended in part to pay employees for learning new skills.

4. Employees in a non-unionized environment are shown to perform better because of pay; when
behaviours are tied to performance. Unionized workers prefer seniority over performance for
pay increases.

Performance Appraisals

Performance needs to be measured through objective, measurable, and quantifiable means to get
accurate results. Poorly designed performance appraisals can result in not measuring what was
intended. Performance targets need to be set to organizational goals.

Four Strategies to better understand and measure job performance include:

First Strategy

The first strategy is improving the evaluation format. An evaluation format is the method used to
evaluate an employee’s performance. Improvement can be found by using either a)ranking against all
other employees’ rating (ranking the best against the worst: alternation or paired comparison); or
b)rating on one or more performance criteria.
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Rating methods include:

 BARS, Behaviourally Anchored Rating Scales, that uses behavioural descriptions as anchors for
different levels of performance on a scale.

 MBO, Management by Objectives; uses outcomes to appraise performance. As a general

guideline; if tasks are not routine then MBO might be the best and appropriate measure of
whether a goal is achieved.

In assessing the above performance evaluation formats, consider the impacts of: employee
development potential from the format; administrative ease; HR research potential (for other uses); cost
effectiveness; and validity (free from errors).

Second Strategy

The second strategy is in selecting the right raters. Using a single rater in isolation increases the chances
for inaccuracies. It is recommended that 360 feedback be used if possible, which could include
feedback from as many as 5 sources including supervisor, peers, self, customers and subordinates.

 Supervisors are the most knowledgeable about the work done day-to-day, but are prone to
making halo and leniency errors.

 Peers can be appropriate raters if the work done is in groups, but it can lead to tensions if raters
are not trained or misunderstand the purpose of the task.

 Self as a rater can be used as the ratee has the most/best knowledge of their own performance.
However, since a self-rater is more lenient than organization in most instances, these
evaluations are often for developmental purposes.

 Customer as a rater is relevant for quality measures. Companies are relying on this input more
and more.

 Subordinate as a rater is also valuable, but must be anonymous.

Third Strategy

The third strategy is in understanding how raters process information. Understanding how raters gather,
store and use performance information can also help improve the accuracy of the process. It’s
important to understand how raters view information and make judgments.

Raters make errors in performance -appraisals such as the following: Errors in Observation, or what
receives attention, encompass raters being influenced by appearance; race. Errors in Storage and Recall
include the rater storing information as traits, but retrieve the information as trait categories. Too much
time between performance and when the appraisal is done can involve the rater lacking accurate
memory; Errors in Actual Evaluation result when a rater is unwilling to differentiate between workers or
is uneasy giving feedback. The rating can be affected by including personality traits that are not relevant
to the performance assessment.

Fourth Strategy

The fourth strategy is to train raters to avoid common errors in appraising performance.
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Research indicates that raters can be trained in three categories:

Rater-error training teaches raters to avoid errors like leniency, severity, central tendency,or halo by
drawing attention to them;
Performance dimension training familiarizes raters with the performance dimensions in the rating
system; and
Performance standard training; Which provides raters with a standard of comparison or frame of
reference for making appraisals.

The Performance Evaluation Process

All Together the Performance Evaluation Process should have

1. A clear sense of direction;

2. An opportunity for the employee to participate in goal setting and standards of performance;

3. Prompt, honest and meaningful feedback;

4. Immediate and after reinforcement;

5. Coaching and suggestions for improving future performance;

6. Fair and respectful treatment;

7. An opportunity for employees to understand/influence decisions affecting them.

Designing a Pay For Performance Plan

As the Pay Model suggests, an effective reward system is dependent on three things: efficiency, equity
and legislative compliance.

1. Efficiency

Efficiency includes:

 Strategy: the pay-for-performance strategy should be aligned with the corporate objectives and
HR strategy;

 Structure: the organizational structure has many formats which influence a pay-for-performance
plan;

 Standards: before a plan is created, it is important that performance standards are met.

2. Fairness

Fairness objective is to ensure the fairness to employees through both distributive and procedural
justice.

3. Legislative compliance

Pay-for-Performance plans should comply with existing laws.

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Do employees believe their raise is a reward for performance? With cost of living increases often mixed
in sometimes it is hard to tell. Some organizations use guidelines to give raises based on performance.

Additional Resources

1. Performance Reviews:

2. SpriggHR: Extrinsic & Intrinsic Motivation Examples - What's the Difference?

3. World of Work Pocast: Episode 24 - Motivation

Summary

1. Three factors upon which employee performance depends are: ability, motivation to perform
and the environment.

2. Content theories focus on human needs that influence behaviour; motivation theories that
focus on exchange (behaviours for the most satisfactory exchange); and goal setting theories
which focus on desired behaviour.

3. Compensation motivates behaviour because it affects decisions to join the firm, to stay or leave,
to develop more skills and to perform better

4. Four strategies to understand and measure job performance are: improving the appraisal
format; selecting the right raters; understanding how raters process information; training raters
to be more accurate.

5. Common errors are the halo effect; negative halo effect; first impression error; recency error;
leniency error; strictness error; central tendency error; ‘similar to me’ error; spillover error.

6. Key elements of effective performance appraisal processes are: sound basis for performance
dimensions; involving employees in developing dimensions and building measurement scales;
ensuring raters trained; ensuring raters motivated; ensuring they maintain a diary; having raters
accept a performance diagnosis to identify solutions.

7. Merit and promotional increases are examples of pay-for-performance. The keys to ensuring the
effectiveness of a plan is efficiency in supporting corporate objectives; fairness; and legal
compliance.