I hate bonus time and figuring out how much extra to pay employees at year end. People today expect a year-end bonus or incentive compensation for their efforts. Plus they need the extra $$$ to pay for all their holiday shopping and expenditures. Sometimes bonuses even seem like an entitlement instead of compensation for extra effort and results. What should I do? I try to be generous but the economy is slow and profits are dwindling. Should I pay out lots of cash and hope there is enough to last the next year? Or should I tell everyone there just isn’t enough to go around this year? Or should I get everyone a turkey and tell them to have a great holiday? Here is an email I received from a reader of Construction Business Owner magazine. I write an “Ask The Expert” column every month.
Question: George, As I sit at my computer I’m reflecting on how blessed I am as an individual and business owner. I have been wrestling for some time with how to fairly compensate our senior management team comprised of 6 people: three senior guys including me and three young VP’s of Operations, Administration, and Business Development. These 3 attended your two day Profit Builder Circle boot camp recently in Atlanta which definitely reinforced my philosophies and mentoring of these 3 young men. You really do a great job.
Do you have any suggestions on incentives or bonuses for the management team? In the past, we have used a program that established a set percentage of net income for retained earnings; a set percentage for owners as a return on their ownership equity, and a certain percentage of net income as a bonus to the management team. But now, the older management team members are not putting forth nearly the effort they used to. They bring a lot to the table, but their interest and drive has waned. It is an entitlement problem in my opinion as they are financially secure. I have positioned the 3 younger VPs to run the company and they are doing great and progressing well, but I’m not quite ready to turn things over to them completely. I am still very involved as the CEO and mentor these young managers on the business side.
How do I compensate the 3 younger managers for running the company? How should the older managers be compensated for their ownership, even if they are not providing much on a daily basis as they are being paid a six figure salary now? And what percent is recommended for retained earnings?
I hope to back further away from this business this coming year and improve my golf handicap and want to be fair to everyone, old and new. We have built a very successful specialty service business and my goal is to continue to monitor our processes and procedures and continue to find new ways to improve while continuing to grow all our people. I know there is no magic formulas but I thought you might share your thoughts on this topic. Ken D. CEO -CES LLC
My Answer: Ken, as your older managers get more conservative and less enthusiastic about growing your company, it is time to make a positive change for everyone. First stop confusing compensation with return on equity. Everyone needs to be paid a fair salary and compensated for their contributions based on what the fair market value demands for the job they perform. If an employee is worth $50,000, that is their salary without exception. If they aren’t worth that amount, pay them less or more accordingly.
Profit is return on shareholder’s equity. Owners should share the profits based on their stock ownership less what you keep in the company as retained earnings before profit distribution. The older managers should be paid a salary based on exactly what they are worth to your company. If they only work a few days, they get paid less. As owners, they participate in the overall company profits. If you want to give them a little more like a car, health insurance, or extra pay, that is a gift for tenure and a result of your soft heart. But remember, the extra compensation you pay the older owners for not working a full load makes your overhead higher than it really is, makes you less competitive in the marketplace, and forces you to pay out profit before your really earn it. This actually reduces your company’s net profit and lowers the incentive potential for your younger managers.
The key managers who run your company should receive a healthy salary and benefits based on what they are worth as well. Plus give them a percentage of the pre-tax profit for their efforts and contributions. I recommend the first 15% return on equity stay in the company before any profit split takes place. If the 3 managers are 100% responsible for the company results, allow them to earn up to 35% of the profits as their incentive. Then the owners will receive the next 50% of profits as their return. – George
Well now it’s your turn to decide if company bonuses are in order for your employees. Good luck doing the right thing. If you have any good employee compensation ideas, email me please post them here or on our LinkedIN Group HardHat Biz Hub.