During the soft market, while most agents granted salary increases and let their profits and personal incomes erode, prudent agents implemented Incentive Compensation Programs (ICP) to reward employees and keep the strongest performers in their agencies. This document by Al Diamond shows how to use ICPs in a hard market to reward and motivate your best employees.
Incentive compensation has become a hot topic since we introduced Incentive Compensation Programs (ICPs) to the Independent Agency System several years ago.
During the soft market, ICPs provided a self-defense mechanism for many agents squeezed between declining revenues and employees who expected salary increases because they were working so hard.
In a receding marketplace, as most agencies shrink and employees don’t receive raises, they’ll find it hard to get another job in an industry that’s suffering along with their employer. However, most employees just didn’t understand the economics of their agency.
In many cases, the employees weren’t told about the agency’s results. The agent feared that if they told employees times were tough they’d either leave for greener pastures or tell companies and clients that the agency was suffering. The agent was embarrassed, even though the crisis was industry-wide.
In fact, it’s as important for employees to know the agency’s performance as it is for the principals. After all, the employees are making a career out of the agency. Their greatest fear is that the agent will decide to sell without telling them. The fear of the unknown is always worse than any reality. When agents told their employees about their problems, the employees usually pulled together and tried to help.
One of those problems dealt with compensation in tough times. Agents who created ICPs during the soft market found that once their employees understood the relationship between their compensation and the agency’s productivity and profitability they were willing to tighten their belts — as long as the owner tightened theirs as well.
Many agents didn’t believe that their employees would either understand or care about the need for the agency to grow and profit. However, in most cases, the employees understood the issues and pulled together to enhance the agency’s growth and bottom line. In almost every case of an agency ICP during the soft market, the agency outperformed the market by both growing faster and controlling costs better than expected.
Now that the market is hardening, agencies are using Incentive Compensation Programs to reward employees and keep the strongest performers in their agencies.
GROWTH AND PRODUCTIVITY
Every agency feels the need to grow. However, growth alone doesn’t define productivity (revenue per employee) or profitability. Although the statistics that we gather every year define the 'averages,' these figures shouldn’t matter to you — unless you’re striving to be average. What matters should be your agency’s historical productivity and annual growth rate.
Productivity alone doesn’t equate growth. If you lose a permanent employee and keep the same number of clients and revenue with the remaining employees, you’ve increased productivity. But no one has ever shrunk to greatness! Growth must accompany productivity to achieve the goal of building profitability and value.
PROFITABILITY
We’ve analyzed many agencies that enjoy good growth — even though they can’t meet payroll. Agencies in deep financial trouble need to grow because they count on growth dollars to pay last month’s bills. They’ve over-extended themselves to the point that constant growth has become their only alternative to bankruptcy. These agents feel like hamsters in a cage. Although they run fast and put a lot of mileage on their wheels, they never make any progress.
If your operations are too expensive for your agency’s revenue, the best solution is to overhaul your financial and administrative operations. Do not implement any type of Incentive Compensation Program in the hope that you won’t have to pay as much as in a subjective salary review because the profitability isn’t there. Not only will the ICP fail, you’ll also probably lose your best employees (the mediocre ones always seem to hang around). Solve your profit problem first — then install an ICP.
ICPs: THE NUTS AND BOLTS
An ICP fits best in an agency that’s profitable, but needs to grow and would like to see its employees participate in creating and enjoying the rewards of growth At first blush, that sounds like most agencies. But there are a number of 'ifs' involved:
- An ICP will work if the owner either has or wants to build a participative management agency. A participative management agency isn’t a democracy — it’s a business in which all employees share in the creative process of business development.
- An ICP will work if employees feel that the owners value their input and will act on their ideas.
- An ICP will work if the employees can track their progress toward salary increases on a month-by-month basis.
- An ICP will work if the owner replaces a subjective salary administration program with one that’s totally objective.
The ICP begins with the owner setting the two 'Strike Points' of the program. The first Strike Point is the Minimum Profit Level below which no raises will be granted. In some agencies, this level is zero. In other agencies, debt requires achieving a minimum profit before the owners can earn a fair return on their investment. The second Strike Point is the profit Growth Goal at which the entire salary advance is given. Below this level, the employee will receive only a portion of their advance.
Once the agency achieves its Minimum Profit Level, the percentage of the full salary increase given will be a pro-rata percentage of the Growth Goal. For instance, if the agency’s profit were 80% of the Growth Goal, the employee would earn 80% of the raise.
If an agency doesn’t have jobs easily measurable in revenue per employee, the Strike Points determine the qualifications of the employees for raises. For instance, small agencies usually have a number of employees who all interact and perform the same functions. In this situation, the agency owner selects a percentage of the growth that’s available for raises. Hint: take your compensation and divide it by total revenue to come up with a good guesstimate of the required percentage.
If the owner selects 20%, then 20% of the growth will be devoted to raises next year (as long as the profit is above the Minimum Profit Level). The percentage of raises earned by each employee is equivalent to their compensation divided by total agency compensation in the previous year. For instance, if an employee earned $40,000 of a total $500,000 in agency payroll, they’ll earn a raise equivalent to 8% of the available raise fund.
If employees have jobs from which you can calculate productivity — for example, CSRs responsible for a book of business — their ICP gauge is the increase in their specific productivity factor (i.e. the growth in their book), along with department growth and profitability factors. Their raise will be based on the growth in their productivity growth (i.e. if productivity grows by 12%, so does compensation) as long as department growth and profit meet their Strike Points.
The ICP, whether based on individual productivity or agency growth and profit, only pays a portion of growth to compensation, leaving more than enough to cover other expenses and make a profit for the agency.
Agents that use ICPs to partner their employees into the continued growth, productivity, and profit of the agency raise the enthusiasm of employees since they themselves calculate their own raises each year. However, an ICP shouldn’t replace employee evaluations. The ICP assumes that the employee is performing strongly enough to remain in the agency. If so, the employee, not the manager or owner, will determine their own compensation through individual or group productivity and performance.