Weighing in

I wrote a few days ago about business leaders' failure to acknowledge their own failed decisions. Today's NY Times op-ed page features an article by William D. Cohen ("A Tsunami of Excuses" ). Here's his lead paragraph:

It's been a year since Bear Stearns collapsed, kicking off Wall Street’s meltdown, and it’s more than time to debunk the myths that many Wall Street executives have perpetrated about what has happened and why. These tall tales — which tend to take the form of how their firms were the “victims” of a “once-in-a-lifetime tsunami” that nothing could have prevented — not only insult our collective intelligence but also do nothing to restore the confidence in the banking system that these executives’ actions helped to destroy.

In the article, Cohen makes the point that banking executives based their poor decisions on maximizing a ratio on which their bonuses were based. Their compensation structure invited them to act in self-interest, and the executives excelled at it. We now are reading about banks that are deciding to give back their government bailout money, because it serves the self-interest of their executives to do so. Apparently their banks either took money they didn't need from the government (that would be you and me), or the banks did need the money but the individuals making these decisions have nothing personally to lose if the banks they manage fail. (Who does lose? That would be you and me, yet again.)

It's sad to see that even a lesson so elementary seems beyond our collective ken. This is an issue that goes beyond the excesses of Wall St. I think it's time we start thinking differently about incentive-based compensation, and question long-held assumptions. The prevailing wisdom is that executives should willingly put part of their annual compensation at risk, only receiving that portion if the company's annual objectives are met. This benefits the company, since if the company has a bad year -- despite hard work and best efforts -- it doesn't have to pay managers their full annual compensation. If results are terrific, the managers receive their full compensation and maybe more. These are facts, at least in businesses that tie compensation and accountability.

Then there are beliefs: that managers will work even harder, smarter, and more effectively to achieve company goals if their own compensation is at risk; that the fear of losing part of his compensation will motivate a manager to change behaviors that are preventing him from achieving results; that achieving metrics on which the bonus is based is necessarily in the best interests of the company. None of these are valid. I've never seen a financial reward change a person's work ethic, the intelligence he brings to work, or his leadership effectiveness. Fear does not motivate people to change; it merely makes them anxious. Putting effort into affecting a single metric generally harms the business -- you move the needle on one metric, but cause problems in other areas. In fact, we've probably all witnessed stunning examples of the harmful effects that well-intentioned plans created, not because the managers were bad people but because the theories underpinning the plan were invalid.

And yet, we know what will enable managers to work more effectively, create better solutions, change poor behaviors, and increase the health and wealth of a business: creating a culture of innovation and development, grounded in accountability and facilitated with lots of feedback and coaching. But these are hard to do. Withholding money is easy. So guess which most businesses choose?

Companies provide quite a bit of structure for hourly employees to achieve the results the company needs. The business employs managers who oversee their work, give them feedback, coach and develop them. If employees make poor choices on priorities or how they achieve their goals, managers redirect them. Less structure should be needed for salaried managers, but essentially nothing is different in kind: everyone up to the CEO needs clear direction, oversight, feedback mechanisms, and continual professional development. Everyone needs to be held accountable. Everyone needs support. It may be boring stuff, but in the end, that's really the way businesses achieve success.

I think it would be worthwhile to re-invent incentive-based compensation. Employing simple measures, a business could eliminate the self-interest that causes people to make poor decisions, and would not put the company's performance at risk. Attending to the more difficult job of managing for performance, a business can secure the financial security and well-being of its employees, and the long-term health of the company.