Thursday, July 15, 2010

Why compensation models work against innovation

I've asked myself, and many other people in the innovation space, why innovation seems to be so beneficial on its face and yet so difficult to accomplish.  I can't think many CEOs who aren't actively talking about innovation and the need for more innovation in their organization.  I can't think of many people who don't want to see their firms improve, and most of them are simply chock full of ideas.  It feels as if "everyone" wants innovation, yet there must be a strong, subtle restraining force that slows and distracts the innovation focus.  Certainly there are the "big" challenges - enough time, enough funding, finding enough resources - but generally those can be overcome, at least on a project by project basis.  No, I think something more subtle and more persistent is the barrier.  I think that when we strip away all of the other innovation constraints and blockades, we're going to find a very small but very powerful disincentive to innovate, buried in how we compensate our teams.

At our core, we people are fairly simple animals.  We are driven by the things that interest us, amuse us or entertain us.  Most of us work to afford to do the other things in life we enjoy.  We exchange our labor, our thoughts and insights and our management skills for a paycheck.  And, since most of us have pretty good lives based on those paychecks, we begin to forget what it was that inspired us and begin to do what ensures and protects the regular receipt of the paycheck.  I've said it before that many people (self included) can become creatures of their corporate culture.  That means that instead of doing what we know to be "right" in terms of creating something new, introducing new ideas and new products, we first evaluate what is expected in terms of our evaluation and compensation.  What will keep us in good feeling and mutual admiration with our co-workers and employers.  Gradually over time we become the people we used to sneer at when we had gumption and were ready to overthrow the status quo.  Now, we are the keepers of the status quo.

And this fact alone is why more innovation gets done in small, entrepreneurial companies than in large companies. All the other excuses that large firms throw around about innovation really pale in significance to the question of compensation.  Most people in most large organizations have a very specific compensation plan, and it is usually tied to predictable profits.  If that weren't enough, most people in large organizations have a good chunk of their savings in the firm's stock, so it is in their interest to create ever predictable revenue streams to reassure Wall Street on a quarterly basis that the firm is headed in a safe, predictable, profitable direction.  If everything that supports and sustains your standard of living and your paycheck is based on sustaining predictability and growing profits slightly year over year, you don't win many friends by suggesting a radical new innovation effort to distract the organization.  Even when you can convince people that innovation is necessary the effort is carefully walled off from the rest of the organization so as not to disturb or disrupt the operations necessary to achieve the annual plan and the whispered earnings.

If we truly want to see more innovation in larger firms, then the first thing these executives will do is change how people are evaluated and compensated.   If people are evaluated and compensated based on their innovation contributions as part of their regular compensation program, then we'll see far more ideas developed and implemented.  Jack Welch was famous for saying "Show me a sales person's timecard and I'll tell you how she is compensated".  I can say with little concern that the reverse is also true:  "Show me a person's compensation plan and I'll tell you how interested they are in innovation".

The reason that compensation is such an insidious barrier to innovation is that we all share it and it's not polite to talk about.  No one wants to focus on compensation since it can be such a headache to revise and restructure, but there's little doubt it is a serious impediment to innovation.  Unlike some of the other barriers that can be overcome - few resources, few dollars, few insights - compensation affects everyone and it is a personal barrier as well as a corporate barrier.  It's hard to rally people round the innovation flag when they are looking over their shoulder wondering about how the innovation work will affect their compensation.  Even if we get the other things right - establish a good atmosphere for innovation and identify a charismatic leader, people still carry around the millstone of compensation.  The fact we pull people out of their roles or teams for a while on an innovation project doesn't really solve this problem, because they eventually have to go back to their old home or role, where their innovation work may have simply caused more work for the folks who remained behind, and who weren't compensated for it.

I honestly believe that if a firm seeks to become more "innovative" over time as a sustainable capability, it will have to address its compensation and evaluation programs to bring them into alignment with the responsibilities and work required for innovation to take root and grow.  Any firm can innovate once without changing its compensation programs, but it's rarely sustainable.  It's also interesting that the people most involved with compensation planning are the people least involved in innovation efforts.  A good sign of a sustainable innovation program should be the presence of a senior Talent Manager or HR individual who is working in tandem with executives to build new evaluation and compensation models.
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posted by Jeffrey Phillips at 6:13 AM


Anonymous Rocco Tarasi said...

Great post, I couldn't agree more. I would be even more precise and say that it is the sales compensation, more than any other department, that influences innovation. Everyone else could be compensated to drive innovation, but if the sales group isn't aligned then nothing will be accomplished.

Its one of, if not the, biggest reason that large companies can't adapt fast enough to start-up companies that are disrupting their business. A great example of this is in software sales, where a company selling systems with large upfront payments just isn't able to offer a SaaS model, even if their start-up competitors are.

6:51 AM  
Blogger Aneesh Karve said...

This comment has been removed by the author.

10:05 PM  
Blogger Aneesh Karve said...

The problem runs even deeper than the risk that innovation will interfere with steady compensation. To incentivize cognitive performance with monetary reward of any kind is in fact detrimental to performance. Autonomy, mastery, and purpose are the true incentives for innovation.

10:08 PM  
Anonymous Frank Calberg said...

At the end of your posting, you write: “It's also interesting that the people most involved with compensation planning are the people least involved in innovation efforts.”

Can you and/or other people reading this please elaborate on why it is like that? Thanks very much in advance.

6:30 AM  
Blogger Jeffrey Phillips said...

Hi Frank.

Typically compensation planning is done by Human Resources to establish a consistent compensation program. Compensation is tied to performance goals and evaluation metrics. There are very specific rules about compensation and HR works to ensure that everyone is compensated fairly and within "bands" and based on quantifiable information. All of these compensation requirements create very specific actions on the part of the employee. If you take a close look at most innovation activities in a business, however, you'll try hard to find HR team members. That's because most product group leads and business line heads view HR as a tactical function and a rule developer, rather than a group that can add value to an innovation exercise. So, in the same way that the "travel" department in a large organization makes travel onerous for people who do travel, even though the "travel" department doesn't travel, HR creates rules and pay schemes with excellent intent that inevitably get in the way of innovation.

12:55 PM  
Anonymous Frank Calberg said...

Thanks very much, Jeffrey, for your interesting feedback. Reflecting on your comment, I came to think about another question: With the Internet, for example shopping comparison websites, it has become easier for people, who travel, to find the way of travelling that corresponds to the criteria they choose. In this regard, I was thinking that when people, who travel, can – relatively easily - organize their travelling themselves, how about empowering people to also do compensation themselves?

On page 67 of his book “The Future of Work”, Thomas W. Malone mentions the following:

“A possibility is to let each person in a group assign a percentage of the total compensation budget to all the others. The average of these numbers then determines each person’s actual compensation.”

“The energy company AES has tested a somewhat similar system that sets salaries through peer review. In the experiment, each person sent a proposed salary for himself or herself to everyone else in the group.”

Here are some more inputs regarding ways of doing compensation

5:29 AM  
Blogger Unknown said...

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8:43 AM  

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