Question

CASE 11.2 : JAPAN'S CANON USES INCENTIVE COMPENSATION ( JAPAN)

1. Do you perceive any constraints on the use of different forms of compensation, such as bonuses or incentive compensation schemes ? What would these constraints be and why ?

2. What would you have predicted for the acceptance or rejection of the incentive compensation scheme at Canon in Japan ?

3. From an organizational strategic perspective, does it make sense to implement a centralized and standardized compensation system globally ?

source : Canon loves to compete, July 22, 2002, s5

Answer 1

1. Do you perceive any constraints on the use of different forms of compensation, such as bonuses or incentive compensation schemes ? What would these constraints be and why ?

Incentive compensation is a type of compensation based on the performance of an entity. Often incentive compensation plans are designed to attract and retain key employees, identify with shareholders, and align interests of employees and the company. For instance, in the Unites States many corporations pay their executives and employees incentive bonuses based on multiple performance measures. Executives might receive the following forms of compensation: a base salary, annual bonus plan, stock options, and additional compensation (e.g., long-term incentive plan, retirement plan, restricted stock). Compensation plans are often based on net income and stock prices of the company or some other performance measure.

Performance can be assessed using various measurements, both internal and external. Internal measurements might include financial indicators (e.g., stock price, earnings per share, net income, total shareholder return, return on equity, revenue growth) and non-financial targets (e.g., product quality, customer satisfaction, building excellent investor base, managing risk and reputation). Performance can also be evaluated in relation to the performance of a peer group of companies (e.g., earnings per share, total shareholder return).

There is a wide spectrum of incentive compensation arrangements: annual cash bonus plans, deferred bonus plans, stock grants, restricted stock grants, stock appreciation right plans, phantom stock plans, etc. For instance, under the stock appreciate right plan, a plan participant has the right to receive the appreciation in stock value. In restricted stock grants, employees are awarded company’s shares, subject to a vesting schedule.

While the concept of incentive compensation isn’t very difficult to wrap your head around, the actual process can be a lot more challenging to digest. Luckily, we’re here to help; the plans that are designed for Sales reps can be extremely complicated, often including handfuls of metrics and rules that denote the amount of money they are going to make and how they are going to make it. If you try to imagine having a team of a hundred or more reps to pay, you might suddenly understand why the sales compensation expert at your company is tired and overworked.

Aside from the tedious aspects of the process mentioned above, there are other challenges for the person responsible for handling the sales incentive compensation program at any given company. Surprisingly, 87% of organizations are still calculating compensation in spreadsheets or with homegrown systems. While this may have worked when the company had ten reps, it is not a sustainable solution for growth oriented companies, and it leaves these firms vulnerable to errors and lack of visibility. Both of these issues can have dire financial repercussions, which is why having an automated incentive compensation solution is so critical to any business.

In running a service business, it can be challenging to figure out which type of compensation plan provides the most incentive for employees to go the extra mile and take pride and ownership in their work products. Trial and error is one way to evaluate which compensation plan works best. If selling services to new and current clients is essential, you could find the key to your success among a number of incentive compensation plan options.

Profit Sharing

Profit sharing plans typically make employees feel as though their hard work has a direct impact on the company's bottom line by rewarding them with a portion of annual profits when certain milestones or goals are reached. You have some options when implementing a profit sharing plan. If your workforce is concerned about retirement, payments can be deposited directly into tax-deferred retirement accounts. If your employees are relatively young, making payments directly to each employee may provide more incentive to exceed expectations on every client project.

Performance Bonuses

Offering periodic lump-sum bonuses to individual staff members who achieve certain performance goals also is an effective motivational tool. In a firm that provides services, the goals you establish for bonus eligibility can be tailored to specific job roles. For example, for employees who have the opportunity to seek out new clients and increase the service offerings to current clients, one option is to tie bonuses to the revenue increase that each employee is responsible for bringing in.

Stock Options

Perhaps your business is fairly new or doesn't have a lot of cash to play with, but you still think it's important to offer an employee compensation program. Offering stock options, or a similar equity-based program, won't cost anything, but it does mean that your own percentage of ownership in the business will decrease. The goal in giving employees equity in the business is creating a culture of owners rather than just employees. In theory, employees who have a stake in the company they work for are motivated to work harder and smarter at their jobs.

Merit-Based Raises

Whether offered in addition to, or in lieu of, other incentive compensation programs, merit-based raises can go a long way in retaining employees you recognize as being vital to the operation. Rewarding employees who consistently perform above expectations can instill a sense of pride and loyalty in them. In general, a merit-based raise tends to be more effective when the salary increase is substantial enough to make a noticeable difference to the employee.

Other Incentives

There's nothing preventing you from creating your own incentive compensation plan. The more you know about your employees and what's important to them, the easier it is to tailor a compensation plan aligned with their needs and wants. It's important to remember that non-monetary benefits, such as extra vacation days, sometimes can motivate employees more than money.

The following criteria might be considered when drafting an incentive compensation plan:

• Performance measurements
• Eligibility
• Plan period
• Award size and frequency
• Vesting schedule
• Formal plan

Some of the advantages of incentive compensation may include the following:

• Aligns managers’ incentives with the objectives of the shareholders
• Tax deductible to the company
• Doesn’t dilute shareholder equity
• Either nontaxable to the individual or taxable but deductible
• Requires no investment by and downside risk to the individual

Some of the disadvantages of incentive compensation may include the following:

• Complexity. Many incentive compensation plans include multiple performance measurements as well as award types (e.g., short-term bonuses, long-term incentives, stock-based incentives, organizational awards) and target levels.
• Financial measures might not reflect the changes in the value of the company. For instance, a company with good accounting performance (e.g., earnings-per-share growth), at the same time, might destroy the value of the company to its shareholders through negative real returns (i.e., returns minus inflation) or real value losses (i.e., dividends minus capital losses).
• Create incentives for earnings management. Equity incentives might create a strong link between firm performance and executive’s wealth.
• Create incentives for excessive risk-taking.
• Create incentives for pursuing short-term profits.

According to Rachel Parrinello, Principal for Sales Compensation Practice at the Alexander Group, the following steps are necessary for keeping an incentive compensation plan healthy throughout the year:

• Ongoing communication. As Parrinello puts it, “In most cases, good communication for a mediocre plan is better than poor communication for an amazing plan.” Importantly, plan communication shouldn’t stop after rollout, nor should it be one-directional. Good communication should come in many formats, including live presentations, FAQ documents, and online resources like training or how-to videos. Communication also means surveying salespeople after plan rollout to see what works and what doesn’t, so that each rollout becomes smoother.
• Reporting. To ensure that plans remain effective, companies should produce reports throughout the year. Reports for different stakeholders should offer different levels of granularity, and should include different metrics. (See the next section for more insights on reports.) It’s also crucial that stakeholders throughout the organization all work with the same data, as this helps maintain alignment throughout the organization.
• Post mortem. After the plan has been operational for a few months and tweaked to accommodate feedback, it’s important to convene relevant stakeholders to review what went well in the design and roll-out process and what didn’t. For example, common problems may include the absence of an effective governance model, outdated operational systems, and gaps in the end-to-end process.
• Program updates. The information gathered from the postmortem should be used to reassess the elements that drive your year-in, ongoing plan design and management processes. These may include, for example, better specifying the roles of various stakeholders or more clearly outlining the governance structure for incentive plan management and design.
• Ongoing plan changes. Incentive plans are always susceptible to changes: new company strategies, new acquisitions, product launches, and changes to the customer base. Best-in-class companies handle these by convening steering committees year-round, assessing these potential changes and modifying the incentive plans accordingly.
• Education. Once their comp plans are rolled out, best-in-class companies don’t spend their down-season ignoring it. Instead, they spend their time educating themselves about how to improve their plans: making those plans more effective; achieving better results; increasing buy-in; or reducing unnecessary administrative work. There are plentry of potenial educational resources; popular ones include conferences, books, webinars, and certification trainings.
• System and tool upgrades. Most vital to achieving success in compensation management is making sure that your software supports your efforts. In particular, tools need to be able to handle the following data-intensive processes:
  1. Revenue segments: Incentive payouts are often a company’s biggest expenditure, which is why it’s crucial to forecast them properly.
  2. Sizing and deployment: Ensuring proper headcount in all regions involves a significant amount of data processing.
  3. Productivity quotas and metrics: CRM systems are rarely able to model the ebbs and flows of revenue over time or create accurate revenue forecasts.
  4. Performance management and rewards: This should include but isn’t limited to incentive compensation, accruals, crediting, and a range of incentivizing strategies.

If an organization’s incentive compensation plans are not driving the ideal behaviors, three strategies can often help.

• Review incentive plans to make sure that they drive larger business objectives. Many organizations develop incentives on a one-off basis to address individual problems. A better approach is to begin by clarifying larger business objectives, then developing plans that motivate those behaviors across the sales force. Organizations can then revise the comp plans as those objectives shift.
• Pay for improvement. Plans that pay people purely for hitting their numbers miss out on the opportunity to pay salespeople and managers for improving. Paying managers for hitting their numbers incentivize them to focus on the number. Paying them for other improvements—getting new reps productive sooner, minimizing no-decisions, decreasing rep turnover, and so on—encourages them to focus on these behaviors, which in turn make the sales team more effective.
• Use software to expand the capabilities of your compensation plan. Today, advanced technology can provide many more options for compensation management, which should encourage companies to develop more robust compensation programs. Compensation plans can motivite different behaviors in different regions, for different products, or for different levels of performances. The metrics on which salespeople are measured can become much more complex. Because it can perform complicated calculations in real time, advanced technology can make all of these possible; it’s imagination that limits the capabilities of compensation plans, not technology

Some other advantages and disadvantages are:

At the end of the year, many companies give bonuses to some or all employees. A bonus is an additional payment received on top of your regular salary, often either during a holiday or at the end of the quarter; the amount of the bonus will depend on your company. Management personnel often sit down and go over each employee’s hours and work performance reviews, to decide who will get what.

Advantage: Incentive and Motivation

A bonus payment to an employee can be used as an incentive, especially in a field where employees must make sales or meet specific goals. Set a goal for each employee or the entire group, with a cash bonus option for the employee that reaches that goal. Use bonus payments to motivate a sales team into obtaining more sales for the month, quarter or year.

Advantage: Appreciation

Bonus payments do not have to be awarded on a holiday, at the end of the year or as an incentive. A bonus payment can also be used as a means of appreciation for an employee’s hard work throughout the year or in a specified amount of time in the year. Receiving a bonus payment will not only show the employee he was appreciated for his hard work, but it will motivate him to continue to work hard for further rewards.

Disadvantage: Costly for Company

A cash bonus can be costly for any company. A company must calculate whether it can afford yearly bonuses, holiday bonuses or the use of incentive and reward bonuses—and for how many employees. Companies can consider using gift cards or other gifts as a bonus rather than using cash.

Disadvantage: Taxes

When an employee receives a bonus, it becomes part of his total income at the end of the year. That means the employee will also be paying taxes on the bonus he receives. Bonuses that are relatively small will not affect an employee’s Adjusted Gross Income, but bonuses that are a large lump sum can add up to higher taxes at the end of the year.

Disadvantage: Fairness and Jealousy Issues

Because bonuses are paid out in several different ways—incentive for meeting goals, performance, profit-sharing or end-of-the-year/holiday bonuses—employees may not always receive the same amount or percentage. Incentive, performance and profit-sharing bonuses are all earned by the employee himself, but other employees may become jealous of the employee’s good fortune. Holiday bonuses and end-of-the-year bonuses are often figured out by seniority, work performance and other factors to determine the monetary amount, though some employers give the same amount to each employee. Both methods can cause issues of fairness. For example, if one employee has worked for a company for 10 years and another employee has only worked for two years, but the 10-year employee is always late and hardly works while the two-year employee works extra hours and has never missed a day, it might not seem fair to award bonuses based solely on seniority. The two-year employee might feel as though he is not being rewarded for his hard work

Constraint in a model of incentive compensation and product market and develops key insights about the interactions of product market behaviour, financial constraint and incentive compensation. A financially constrained firm faces higher cost of capital which results in lower output. Financially constrained firm offers higher incentive compensation to its manager if the degree of product differentiation is sufficiently low. This higher incentive encourages the manager to put more effort and produce more output in order to compensate for the loss in output due to financial constraints

Limitations of incentive compensation schemes

a. Jealousy and conflicts among workers may arise when some workers earn more than others.

b. Unless strict check and inspections are maintained, quality may come under stake in the enthusiasm among workers to increase productivity.

c. In the absence of a ceiling on incentive earnings, some workers may spoil their health.

d. Strict vigilance becomes necessary to ensure that workers do not disregard safety regulation.

e. The cost and time of clerical work increases in introducing and administrating the incentive plans.

f. Whenever production flow is disrupted due to the fault of management, workers insist on compensation.

Types of some Incentive Plans:

Following are the types of incentive plans.

1. Straight Piece Rate Plan:

Under the straight piece rate plan workers are paid based on their output. For example, if the piece rate is Rs. 4 per piece of the product, then a worker who turns out 40 pieces/day earns Rs. 160 (Rs. 4 x 40) as his wage for that day. Whereas another employee who produces 32 pieces/ day earns Rs. 128 (Rs. 4 x 32 pieces). Hence a fast worker earns more compared to the slow worker.

Advantages:

i. Motivates the workers to increase their output.

ii. Simple and easy to understand.

iii. improve productivity.

Disadvantages:

i. No guaranteed minimum wage. This makes workers insecure.

ii. Great disparity of earning between slow and fast workers.

iii. Wastage might increase.

iv. Quality of production may suffer as the workers concentrate on quantity.

v. Interpersonal relationship suffers due to jealousy and competition to earn more.

vi. Enforced idleness like electricity failure or machine breakdown, adversely affect earning of workers.

2. Standard Piece Rate with Guaranteed Minimum Wage:

Here the minimum guaranteed wage is fixed on hourly basis. A worker gets the minimum fixed wage/day plus the incentive for the number of pieces produced. To illustrate this, assume that there is 8 hour’s shift the piece rate is Rs 4 and a minimum fixed wage of Rs 16/ hours (Rs 16 x 8 hours = Rs. 128 per day). The standard time/piece is 15 min.

Now, there are two workers A and B. (If worker A produces 25 prices/day then he earns: Rs. 128 (min. guaranteed wage) + Rs. 100 (Rs. 4 x 25 pcs) = Rs. 228/ day

If worker B produces 40 pieces / day then he earns Rs. 128 (min. guaranteed wage) + Rs. 160 (40 pieces x Rs. 4) = Rs. 228/ day)

Advantages:

i. Min. guarantee improves sense of security.

ii. Disparity between slow and faster workers is reduced.

Disadvantages:

i. Demotivate faster worker.

ii. Slow workers get higher piece rate viz Rs. 5.12 (128/ 25).

Differential Piece Rates:

The shortcoming of the above mentioned incentive plans have given way Differential piece rates. The differential piece rates are classified under two heads viz. Individual incentive plans and Group incentive plans.

Individual Incentive Plans:

The different plans here are discussed below:

(a) Halsey Plan:

The features of this plan are:

a. Min. wage is guaranteed.

b. Additional bonus is provided to workers who

Wage and Salary Administration 147 complete the job in less than the “standard time”. Bonus is a certain proportion to the time saved. This proportion is fixed at 50% in this plan.

The total wage is calculated as:

T x R + 50% (S – J) x R

Where J – time taken

R – Rate of wage

S – Standard time

50% – The bonus percentage.

Illustration:

S = 10 hours, J = 8 hours; R = Rs. 5 / Hr; Bonus = 50%

Φ = 8 x 5+(50/100) x (10 – 8) x 5

Φ = Rs. 45.

Advantages:

i. Guaranteed min. wage exists.

ii. Simple and easy.

iii. Dispensed with time consuming and costly process of work study.

iv. Management share a part of bonus on time saved.

Disadvantages:

i. Workers get only half of the benefit of their efficiency.

ii. If the worker’s rush through the job to save time, the quality may suffer.

iii. Workers object management in sharing bonus on time saved.

iv. Sufficient incentive is not provided to fast workers.

(b) Rowan Plan:

This is a modified form of Hasley Plan, developed by James Rowen of England. The Rowan Plan pays more than the Halsey Plan. This is possible if a worker completes the task in half the standard time of the task. If more than 50% time is saved then the bonus he earns decreases.

Therefore, Total wage = J x R + [J x R x (Time saved/std. time)]

Illustration:

S = 10 hours; J = 8 hours; R = Rs. 5 / hrs.

Φ =8 x 5 + [8 x 5+ (2/10)]

Φ = Rs. 48

Advantages:

i. Minimum guaranteed wage exists.

ii. Both the employees and the workers share the benefits of time saved.

iii. The efficient workers get bonus at diminishing rate if they save more than 50% of the standard time. This checks over-speeding.

Disadvantages:

i. Incentive provided for fast worker is not sufficient.

ii. Workers dislike management sharing bonus of time saved.

(c) Gantt plan:

This plan was developed by Henry L. Gantt. Here standard time for every task is fixed through time and motion study. Minimum time wage is guaranteed to all workers.

A worker who fails to complete the task within the standard time receives wages for actual time spent at the specified rate. Workers who achieve or exceed the standard get extra bonus varying between 20% to 50% of the hourly rate for the time allowed for the task.

Illustration:

(S) Suppose the standard time fixed for the job is 8 hours and (T) time rate is Rs. 10 hours and the rate of bonus is 25%, then a worker who completes the job in 10 hours will be paid Rs. 10 x 8 = Rs. 80. On the other hand the worker who completes the job in 6 hours will be paid Rs 100 (Rs. 80 + 25% of Rs. 80).

Advantages:

i. Minimum guarantee exists.

ii. Fast worker is paid bonus at higher rate proportional to their output.

iii. Standard worker is paid 20% bonus.

iv. Part of bonus is shared by the organisation.

Disadvantages:

i. Sharing of bonus by organisation is resentment.

ii. Disunity among the slow and the fast workers.

(d) Bedeaux Plan:

This plan is developed by Charles E. Bedeaux in 1911. Here the minimum time wage is guaranteed to all workers. The workers who complete the job within or more than the standard time are paid at the normal time rate.

Workers who complete the job in less than the standard time are paid bonus, generally 75% of the wage for the time saved and 25% to the foreman.

The wage rate is calculated as:

S x R + 75% of R (S – T)

Illustration:

S = 10 hrs; R = Rs. 5 / hrs; T = 8 hrs.

Then:

Φ = 10 x 5+ 75% (5) x (10-8)

= 50 + (3.75 x 2)

= 50 + 7.50

Φ = Rs. 57.50

Advantages:

i. Min. wage is guaranteed to all the workers.

ii. The foreman is motivated to the productivity as 25% of time saved is paid to him.

iii. This plan is suitable in factories wherein a worker is expected to perform different types of jobs.

Disadvantages:

i. Workers may resent sharing the bonus with foreman.

ii. Workers may find it difficult to understand the complete calculation involved in this method.

(e) Emerson’s Efficiency Plan:

This plan was developed by Harrington Emerson. Here minimum wage is guaranteed. Workers are paid different bonus rates as per their efficiency level. Bonus is given at an increasing percentage beyond the prescribed level of efficiency (usually 66.67%). Efficiency is measured by comparing the actual time taken with the standard time.

Illustration:

S = 10 hrs, T = 8 hrs, R = Rs. 5 / hr.

Bonus = 10% upto 75 % efficiency

20% for 75%- 100%

30% beyond 100%

Φ = (T x R) + (percentage of bonus x T x R)

In this case, the efficiency level in (10/8) x 100 = 125% and,

Bonus at 30% is payable.

Total wage = 8 x 5 + (30/100) (8 x 5)

= 40+12

Rs. 51.

If worker A takes 16 hrs, then his bonus is nil.

If worker B takes 14 hrs, his bonus is (1/10) x 14 x 5.

If worker C takes 10 hrs, his bonus is (2/10) x 10 x 5.

If worker D takes 8 hrs, his bonus is (3/10) x 8 x 5.

Advantages:

i. Guaranteed time wage provides a sense of security to all the workers.

ii. It encourages healthy competition among workers.

iii. Bonus begins at 66.67% efficiency which is within the reach of many workers.

Disadvantages:

i. There is little incentive after 100% efficiency level.

ii. The plan is not very flexible or selective.

iii. Employer may fix the standard time at a low level making it impossible for most of the workers to earn bonus.

Group Incentive Plan:

In some cases like an assembly line production it is not possible to determine the performance of an individual worker as several workers jointly perform a single operation. In such cases it is desirable to introduce a group incentive scheme. Here the bonus is calculated for a group of workers and the total amount is distributed among the group members in proportion to the wage earned by each.

(a) The Scalar Plan:

This is a group plan where the productivity of the entire work force is taken into account. In this plan bonus is paid at the rate of 1 % for every 1% rise in productivity. Workers are not paid the full amount of bonus earned by them in the same month.

A certain percentage is set aside as a “Resource Fund” to take care of fluctuation. At the end of the year, the balance remaining in the “Reserve Fund” is also distributed.

(b) Priest Man Bonus Plan:

Here a committee of workers and management set the standard of performance. A minimum wage is guaranteed to each worker. The group gets bonus when actual output exceeds the standard. The group supervisor also gets a share on the group bonus. This plan promotes team spirit among employees.

Other Forms of Incentives:

Apart from the above mentioned incentive plans; there are also other forms of incentives, especially for the white collared workers. They are briefly discussed below.

Employee Stock Option Plan:

This is popularly known as ESOP. This is a form of incentive where the employees are allotted the company share at a price below the market price. When the company achieve better results, the market price of its shares and the value of the employees’ shareholding rise.

This form of incentive plan is relatively new in India and is becoming popular of late. IT is motivating to the employee, as (it enhances a sense of belongingness to the organisation) shareholders are the owners of the organisation.

Profit Sharing:

Prof. Seager defines profit sharing as “an arrangement by which employees receive a share, fixed in advance of the profits”. Profit sharing usually involves the determination of an organisation profits at the end of the fiscal, year and the distribution of a percentage of the profits to the workers qualified to share in the earnings. The main objectives of profits sharing are to create unity of interest and the spirit of co-operation.

The theory behind profit sharing is that management should feel its workers will fulfill their responsibilities more diligently if they realize that their efforts may result in higher profits which will be returned to the workers through profit sharing.

In India this incentive scheme is not well received by both the management and the workers. Committee appointed by the Govt. of India suggested profit sharing as a method of ensuring industrial peace and a step towards workers’ participation in management and also suggested that 50% of the profit be shared among the workers.

Both the employers and the trade unions rejected this. The trade unions prefer bonus to profits sharing as bonus is payable irrespective of profit or loss under the Bonus Act 1965.

Fringe Benefits:

ILO describes fringe benefits as wages are often augmented by special cash benefits, by the provision of medical and other services or by payment in kind that form part of the cost for expenditure on the goods in services.

In addition workers commonly receive such benefits as holidays with pay low cost meals, low rent housing etc. such additions to the wage proper are sometimes referred to as fringe benefits.

Fringe benefits involve a labour cost for the employer and are not meant directly to improve efficiency. These add to the workers standard of living. Hence benefits may be statutory or voluntary.

They improve motivation and morale of workers by satisfying their needs and develops a sense of belonging and loyalty among workers. They also improve the public image of the organisation.