Moving Beyond Pay for Performance

In a previous post, we discussed how linking employee performance directly to salary increases—commonly known as merit pay. However, as the idea of an annual performance review loses its lustre, alternative methods of ensuring equitable salary increases need to be investigated.

The Limits of Traditional Pay for Performance

Traditional Pay for Performance systems often involve a high degree of discretion, whether it’s in the initial performance rating that feeds into the salary review or in the decision regarding the exact increase. As organisations grow more conscious of pay equity, this discretion can introduce risks, such as unconscious bias or favouritism. Furthermore, merit pay can lead to unhealthy competition and risk-taking as some employees will do almost anything to secure their own pay rise. Structured, skills-based salary progression presents a compelling alternative. By rewarding measurable achievements and personal development, organisations can reduce bias, promote fairness, and build a stronger foundation for long-term success.

Exploring Alternative Approaches

Moving beyond traditional merit pay opens the door for many creative options for employee rewards. Some of these strategies can complement existing salary practices, motivating employees while maintaining fairness and cost control. These options include:

• Incidental Pay/Salary Increases

• Step Systems and Career Progression Ladders

• Spot Bonuses

• MBO Bonus Schemes

• Organisation-wide Profit Sharing Schemes

• Stock Options or Phantom Stock & Stock Appreciation Rights (SARs)

• Cash Equity Programs

These strategies offer flexibility by rewarding individual achievements, skill development, and career growth, while also celebrating team accomplishments. They can provide large potential rewards without adding to recurring salary expenses. Additionally, provisions can be made to align incentives with company performance, reducing the risk of overcommitting resources. When implemented thoughtfully, these alternatives create a win-win: employees feel valued and motivated, while companies manage budgets responsibly.

Building Comprehensive Pay Structures

It is important to look beyond base salary as the only remuneration for employees. A comprehensive pay structure will combine base pay with bonuses and commissions, at a minimum, to create a more balanced and motivating compensation system. These structures align employee interests with corporate goals, offering higher rewards for higher achievement.

Tailoring compensation plans to fit different roles ensures that the incentives are appropriate and effective for diverse job responsibilities. This approach can enhance motivation, loyalty, and overall performance, creating a win-win situation for you and your employees.

Reward and a Skills-Based Organisation

The concept of a “Skills-Based Organisation” is gaining traction. In such an organisation, the focus is on the skills employees possess rather than the roles they hold. Each position has defined skill requirements and competency levels. For example, a Senior Web Designer might need mastery-level skills in “Cascading Style Sheets,” while a Junior Designer may only need to be competent.

Designing a reward program for such an organisation presents a good opportunity to explore alternatives to the traditional “Pay for Performance” model. If the organisation’s focus is on skills, then so should the reward model. Rather than having salary increases depend on the performance of the employee in the past year, the salary should be tightly linked to the skills they have gained. An employee can increase their salary not by working hard, but by improving themselves – skill development earns them a pay increase. To the organisation, employees that see a direct link between self-improvement and reward will benefit from motivated employees that are getting increasingly skilled.

How then, does this linkage occur? The key lies in correctly connecting skills with a role and then each role with a salary. As an employee gains skills and moves to a new role, their salary will go up. Each gain of skills doesn’t necessarily mean a new position – rather, employees will make steps within a position (progression) rather than changing positions (promotion). It is important too that the each level within a position has distinct and public associated salaries. Consider the below structure:

Each Position/Grade/Level combination has a distinct set of associated skills and competencies defined, so as an employee gains skills, they move from level to level. The salary for each combination increases each year – hopefully in line with inflation – so an employee always gets a bump to keep up with their own costs. To get a bigger jump, however, they need to spend time investing in themselves. 

Example:

Employee A, a T4-2, currently earns £51,400, the same as all other T4-2s. During the year, they worked hard, but ended up on the same level. Their salary is increased to £52,600, an increase of a 2.33%.

Employee B, also a T4-2, gets the same £51,400. However, during the year, they were able to take some courses and progressed to be a T4-3. Their new salary is therefore £55,100, an increase of 7.2%. The employee is rewarded with more pay and the company gets a more skilled employee.

As employee on the same grade/level combination are paid equally, there is no opportunity for bias. How then, do employees stay motivated to work hard rather than just chase new skills? This is where bonus programmes come into play. Bonus schemes need to be tightly aligned with individual performance. Higher performing employees get a bigger bonus than those who perform at lower levels. Profit Sharing programmes (whether part of the bonus process or as a separate reward) would also be a boon – employees will feel that their self-investment not only helps them, but also the company itself, who says thank you by sharing their success.

Consider as well the introduction of Spot Bonuses. These work especially well in project-oriented environments, where the completion of a big project will be rewarded with a tidy sum. Defined criteria for the project completion are key, so employees know what is required in order to earn the bonus. These bonuses are also great ways to continue to motivate those employees who may have reached the top of their career path.

To be successful with this approach, there are a few elements for success.

1. Clear Job Architecture with multiple discrete levels

2. Salaries directly tied to specific jobs, with distinct pay for each level

3. Training opportunities to allow employees to gain skills

4. Regular progression opportunities at any point in the year

5. Salary structures that update to reflect inflationary impacts

6. Bonus and profit-sharing programmes to reward high performers

Challenges to Consider

While this approach offers many benefits, there are a few potential challenges:

1. Transparency in salary structure may be difficult for some organisations and regions.

2. Employees reskilling for a parallel move may not see significant salary increases aside from inflation adjustments.

3. Employees reaching the top of a job ladder may get frustrated at lack of salary growth opportunities

4. Recruiting top talent

Some of these challenges can be managed by considering the impact of longevity on salary. Long-term employees who have consistently made significant contributions should be recognised and rewarded for their dedication, ensuring that tenure is valued alongside skill development. For example, those employees who have reached the top of their grade (consider a T4-3 in the above table) will get a defined percentage multiplier or fixed increase to their salary after a set number of years in that position. Multiple levels of tenure could also be rewarded to retain long-term employees.

Recruitment can be difficult if there is no flexibility with salary. It would need to rely on correctly placing the employee in the job structure (e.g., hiring a person as a T3-2 rather than a T3-1). Additional compensation can be offered in the form of equity – either shares, restricted shares, or phantom shares – or by some form of cash-based LTIP.

The biggest hurdle is switching an organisation to a skills-based pay structure. It is likely that currently employees doing the same job are paid differently. This would lead to a potentially expensive exercise in pay adjustments as salaries are normalised.

Conclusion

As work evolves, so too must the ways we reward it. Traditional pay-for-performance models are no longer enough. By embracing alternative compensation strategies—skills-based pay, bonuses, profit sharing, and structured progression—organisations can build reward systems that are fair, motivating, and future-ready.

Effective People, a trusted SAP SuccessFactors partner since 2005, has helped organisations around the world rethink how they structure compensation and develop their people. From building robust job architectures to enabling skills-based pay in SAP SuccessFactors, we partner with HR teams to create tangible business impact.

The key to lasting success? Design reward strategies that reflect your values, align with your goals, and inspire your people—not just to work, but to grow.