The ultimate compensation driver is profit & loss responsibility. Many people believe they have one, but unless their compensation is primarily based on profits, they do not have that responsibility.
Your compensation plan must be simple and scalable. Simple means easy rules that can be quickly explained by any junior employee. Scalable means that core compensation pricniples do not change with changing organisational size.
Total remuneration consists of cash income and non-cash benefits. For now we will consider the cash income only.
Base + variable = 1.5x market compensation
You should assign a market compensation to all key roles and seniority levels. Resulting pay grades include a variable pay – at a different size at each role and level (to reflect P&L contribution).
Pay grades
…are determined by: i) market rates, ii) job competencies, iii) sustained performance (exceptional one-time performance is rewarded by one-time individual bonuses).
Learn how to set up a career ladder and pay grades
Variable pay
…represents i) profit & loss responsibility, and ii) outstanding individual performance.
Profit & loss responsibility is created on divisional or company level. Junior employees start at 10% variable pay to fosters performance thinking from the beginning. C-Level position have 30-40% share of their market rates in a variable pay.
Learn more about profit sharing structure.
Individual performance bonus for an exceptional work. It is capped to 10% of annual salary (base pay). The bonus can be subject to individual targets (KPI) or awarded at a discretion of manager.
Equity
..a long term incentive to mitigate agent – principal motivations. The final form of equity grants and size differs heavily based on company maturity and sector.
Learn more about equity compensation
Examples:
OKR’s impact on variable pay
High performing organizations recognize the impact of achieved or missed objectives. OKRs are usually set in ambitious nature (80% attainment rate). Once you are comfortable with setting OKRs (i.e. you are good in estiamting 80% attainment rate), you can cap individual or company variable pay to 80%, if OKRs are fullfilled at <60% rate.