Setting Up Your Bonus Structure For 2013

If you're a good CEO / VP, you're about ready to set up goals and objectives for your staff for 2013.

This means you have to set up the bonus structure for your team.

I tried to have between three and five goals for people who reported to me.  The goals had to be simple, and needed to be tied to the dynamics that cause the business to be successful.

For a typical e-commerce or catalog Director, I might set up something like this:

Objective #1 (40%):  Increase new customer acquisition counts by 20% vs. 2012.

• 2012 Forecast = 50,000 new customers.
• Exceeds Goal = 65,000 or more new customers.
• Meets Goal = 55,000 to 64,999 new customers.
• Missed Expectations = 0 to 54,999 new customers.

Objective #2 (30%):  Increase twelve month buyer repurchase rate from 40% to 42%.

• 2012 Forecast = 40% of 2011 buyers purchased again in 2012.
• Exceeds Goal = 43% annual repurchase rate in 2013.
• Meets Goal = 40% to 42.9% annual repurchase rate in 2013.
• Missed Expectations = < 40% annual repurchase rate in 2013.

Objective #3 (30%):  Increase profitability of all marketing activities, from $5,000,000 in 2012 to $5,500,000 in 2013.

• 2012 Forecast = $5,000,000 profit in 2012 from marketing activities.
• Exceeds Goal = $6,000,000 profit in 2013 from marketing activities.
• Meets Goal = $5,000,000 to $5,999,999 profit in 2013 from marketing activities.
• Missed Expectations = < $5,000,000 profit in 2013 from marketing activities.

Notice that the objectives are highly dependent on teams not reporting to marketing.  If merchandise stinks, well, the marketing Director is not going to meet goals.  And that's the way it should be.  Because, quite honestly, the merchant isn't going to meet goals if the marketer fails, right?  So there's cross-dependence.  The marketing Director needs to step up and take accountability, for all activities.  If the merchandising team is struggling, then the marketing Director needs to analyze a few issues and try to partner on solutions.

Notice that if the marketing Director outperforms last year, the marketing Director meets expectations.  That's life.  In sports, there is a saying ... "if you're not moving forward, you're standing still".  Same thing in marketing.  You must move forward, or inflation will eat company profit.  I want my team to strive for outstanding results.  In each case, if we match 2012 results, we miss expectations, and bonuses are not going to be plentiful.  Conversely, if my marketing team has outstanding performance, well, they get an outstanding, rewarding bonus!

Notice that I do not tell my team HOW to do anything.  I tell my team WHAT outcome they should strive toward.  It is the job of the e-commerce Director and catalog Director to figure out what to do and to figure out how to get there.  I am only telling my team what we need to accomplish.  The marketing VP should not micro-manage online conversion rates, catalog response rates, or email click-through rates.

Notice that I am communicating the objectives in October 2012.  This gives the team a head start on making progress on 2013.  When I worked at Nordstrom, it was awful to get objectives for the year in February or March ... anything I could do would only impact Q3 or Q4, I missed out on half a year of opportunity.  Don't be lazy.  Set objectives well ahead of 2013, communicate them, and give your team a chance to succeed.

Notice that the objectives only focus on new customers, annual repurchase rates, and profitability of marketing activities.  Quite honestly, from a marketing perspective, these are the only three things that matter.  Almost every marketing activity we can think of falls into one of these three categories.  Increase average order value?  That grows profit, right?  Maximize SEO opportunities via non-branded keywords?  That grows new customers and profit.  Improve email click-through rates?  That grows customer retention/repurchase rates, and grows profit.  Every marketing activity you can think of ties into one of these three objectives.

Notice that the weights are not equal.  I am clearly signalling to my staff that new customer acquisition is most important.  Now, if you spend too much on new customer acquisition, profit will be hurt, so this has to be managed delicately.  It is likely that you value one objective more than another, so give it an appropriate weight to reflect what is important to you.

Notice that I put a 2012 forecast in each objective, even though we have three months left in the year.  I will adjust each objective once final numbers are known.

Notice that channels are irrelevant.  I don't care if a customer is acquired via search, or via email, or via catalogs, or via social media, or via mobile, or via display, or via affiliates, or via comparison shopping engines, or via billboards.  I care about customers, and I care about how profitably we manage customers.  My staff will need to analyze the customers that have the lowest cost per acquisition and highest lifetime value, and they will need to manage this balance in order to achieve each of the three objectives.  Again, I am not telling my team HOW to do their job.  I am only telling them WHAT the outcome needs to look like.

Executives - please give your team a chance to have a great 2013.  Give them three simple objectives, create stretch goals, and then richly reward your team via bonuses when they exceed expectations!

Earning A Bonus

Should an entry-level employee earn a bonus that is based on company performance?

In my formative years at Lands' End, entry-level employees earned a bonus based on company performance. As a statistical modeler, I did have an impact on the company. If I built a model that improved sales by 1%, that resulted in $7.5 million in demand, maybe $2.5 million in EBIT. So the bonus was important to me. I eagerly watched our financial results. I learned how my work contributed to the success of the company.

Maybe more important, I felt valued at Christmas when I received half my bonus check, and again in March when I received the other half. I still felt valued when the bonus check was tiny.


I've experienced the opposite effect.

I once led a group of individuals in a division of a company that offered bonuses. This division merged with another division. The other division did not offer bonuses. As a result, the combined division would not offer bonuses.

Take an employee who earned a salary of $40,000 per year, with a bonus range of between 6% and 15% (not the actual percentages used at this company). The bonus could vary between $0, and $6,000.

In this case, the employees earned 15% bonuses each of the past two years. Their division performed well above expectations, they deserved to share in the success.

The decision makers did not have the courage to tell the employees of this decision. My directors and I had to communicate this message to my employees.

I recall being in an Executive meeting, where about ten of us were discussing the consequences of this decision with Human Resources. I was the only person who spoke up. And oh my, did I speak up. I detest when big companies step on tiny employees making entry-level salaries.

Let's go back to our employee earning $40,000 per year. Each of the past two years, this employee earned $46,000. This coming year, the employee could do a great job. The employee would earn $40,000 (though some received a very small salary adjustment, maybe 1% or 2%).

You can imagine the grim looks the employees wore on their faces when we communicated this decision to them.

The harsh feelings lasted for years. Employees quit. Some became downright bitter, less productive. Some resented me. I recall one individual, tears in her eyes, faulting me for letting her down, faulting me for not doing my job, for failing her.

There are many incentives for employees. When a business matures, and grows at a standard 5% to 10% per year, bonuses give employees a first-hand understanding of the ups and downs of a mature business, as well as an incentive to drive profit increases.

Take that incentive away from an employee, and you damage a fickle relationship between employees and employer.


Two questions for you, the loyal reader.

First, should entry-level employees receive an annual bonus based on company performance?

Second, what should have been done for the $40,000 per year employee I described in this article? If a bonus is to be taken away from this employee, what (if anything) should be done for this employee?

Executive Compensation

A few months after the end of the fiscal year, publicly traded multichannel businesses are required to share Executive Compensation with the public.

It is always easy to pick on Executive Compensation. There are hundreds of examples of leaders being rewarded, while employees are downsized, or shareholders struggle to receive an adequate return on investment.

Compensation works in different ways, depending upon where an employee stands in a multichannel company.

The vast majority of employees are placed in "salary bands". These bands are determined by competitive reviews of comparable jobs at similar companies. Once an employee is "banded", s/he will earn an annual salary increase that is roughly similar to the increase in the cost of living over the past year. Outstanding performers may earn a bigger increase, employees at the bottom of the salary band may earn a bigger increase.

Executive Compensation is more complex.

Take a CFO at a multichannel company. Her compensation is comprised of at least three components:

• Annual Salary. Let's say her annual salary is $350,000 per year.
• Performance Bonus. The bonus is usually based on the company achieving sales and profit objectives. This bonus might vary between 0% and 100% or more of her salary. During an average year, the bonus might be 50% of base salary --- maybe $175,000, paid after the close of the fiscal year.
• Stock Options. If the business is publicly traded, the employee is granted shares that can be redeemed. The employee might be granted 100,000 shares at a price (say $10 per share). The shares usually vest in increments, so that they are fully vested in four years. After four years, the share price should have hopefully increased enough to please investors. Say the share price, after four years, is $20. This employee could earn in 100,000 * ($20 - $10) = $1,000,000 in four years. The brand may elect to grant new shares each year, at the current price of the shares of stock.

So, the humble Executive can earn maybe $1,000,000 a year, about a third is guaranteed, about twenty percent is variable on annual performance, and close to half is based on market performance.

In a bad year, the CFO earns the base salary of $350,000.

In a good year, the CFO earns $350,000 base salary, $350,000 bonus.

If the business has numerous good years, the CFO can earn $350,000 base salary, $350,000 bonus, and $1,000,000 in stock options.

So, we established that about 2/3 of the Executive's salary is "variable", highly dependent upon company performance.

Now, let's go back to the base salary. Compensation Committees like to review "peer" businesses. In other words, the Compensation Committee will look at the salary of the CFO, and compare it with the salaries of CFOs at major competitors.

Let's assume that company performance is "average", compared with the peer group.

Let's also assume that this CFO is "under-compensated", from a base-salary standpoint, verses CFOs within the peer group. In other words, maybe the average CFO in the peer group earns $420,000.

Here's the situation: You like to pay your leaders at the mid-point of your peer group. Do you increase the salary of the CFO to $420,000 a year, so that your CFO is compensated at a "fair" level, compared with other CFOs?

• If your answer is "no", why? Do you risk losing your CFO to a peer company that pays a better base salary, and if you do lose your CFO, what is the risk to your company?
  
• If your answer is "yes", why? What kind of message do you send to your garden-variety employees, who are earning $50,000 a year, and are struggling to pay bills with their 3%, $1,500 cost-of-living increase? What kind of message do you send to your hourly staff, who are earning $25,000 a year, and are really struggling to pay bills with a 3%, $750 cost-of-living increase?