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PAYING BONUSES VS SALARY INCREASES

It just makes sense – doesn’t it?

It just makes sense – doesn’t it? We keep our hourly or salaries at a manageable level and reward our employees when we make a profit through bonuses.

This makes sense from the standpoint of the fiscally conservative agency owner who wants to be fair to the employees but not over-obligate the agency in the event of financial reversals. We have all been through hard markets when rates go up, we enjoy the benefits of higher commission income even in the face of complaining clients and strong contingency income provides rewards that we don’t mind sharing with the employees.

But, similarly, we have all experienced downturns and soft markets during which we work harder to keep clients at both lower premiums and commissions. Loss ratios suffer during extended soft markets since loss exposure doesn’t diminish even as premiums do. So contingency income suffers and if we count on that bonus money to operate our agencies, we suffer financially when the financial “planets” line up incorrectly.

All of this would imply that we should minimize salaries and wages and make up the difference with bonuses when we can.

Unfortunately, natural laws include the Law of Unintended Consequences

Unfortunately, natural laws include the Law of Unintended Consequences. The Law states, “Actions of people… always have effects that are unanticipated or unintended.”

Imagine paying “Sally” $750/week (in whatever fashion you pay your staff) since you hire her seven years ago and bolstering that with generous (from your standpoint) bonuses of between one and three weeks compensation in the “good years” during which you make money – mostly from strong contingency income. From your perspective your compensation costs are controlled and you still feel generous when you can afford it.

However, Sally doesn’t see it quite that way. She can’t count on your once-a-year largesse to pay her bills so from her perspective she has earned $39,000/yr. for the last seven years. She certainly appreciates the X-mas gift (when it occurs) but she considers it ‘found money’ and uses it to pay down her family’s growing debt, not to buy extravagant things for herself.

While that amount was good enough to attract Sally seven years ago, her monthly expenses, like yours, continue to grow, especially if she is raising a family. From her perspective her income has remained stagnant and if financial stresses continue to grow so will her dissatisfaction with the financial arrangement.

If she is assertive enough, Sally will complain to you and, if you are the normal agency owner, you will grant her a raise and continue the same bonus arrangements except now the bonus payments are larger because her weekly compensation is higher. If she’s not assertive and sees no end in sight, Sally will go looking for other opportunities. And there will be opportunities, because of compression if no other reason.

Compression occurs as the market conditions push wages higher

Compression occurs as the market conditions push wages higher for new employees due to economic stresses. If you hire another “Sally” seven years after you hired your first “Sally”, she may easily cost you $45,000 for the same experience level that you got for $39,000 less than 10 years previously.

What happens to your other employees who have had stagnant salaries for many years when you hire someone for $5,000 more than they are earning in the same role? That’s compression! In the worst case scenario we have seen agents give everyone a raise to avoid further dissatisfaction from their veteran employees when a newer employee requires a higher level of compensation to acquire.

It is our opinion and our observation from seeing how high-performance agencies operate (large and small urban, suburban and rural agencies) that a much better way exists to keep your valuable employees with you that doesn’t cost you much more than you are paying now.

As illustrated in the example below, paying a minimal 2% annual raise is only $17/week different than the bonus payment program for this agency while giving the employee a stable weekly paycheck with which to pay her bills.

First you must understand

First you must understand that in order to make more money for yourself on an on-going basis, you must grow at least a few percentage points of revenue annually. That growth could come from rates and natural growth, or from generating more new business than lost business every year. But if you grow even 2% or 3% your expenses will not grow at a similar pace. Most of your expenses are stable. The exception must be your (non-production) employee compensation which represents 20% or more of your revenues in normal agencies. If you advance compensation at the same rate as your growth you are only devoting that same 20% of the growth to your employee costs, leaving 80% to pay for acquisition costs and devote to profits.

So even in the most conservative agencies who value employee retention and satisfaction, they target annual raises averaging the agency’s revenue growth each year. Many agencies also exclude contingency income from the mix. After all Contingencies are on a roller coaster in many agencies and can’t be counted upon. But these agencies do use Operating Income (commissions and fees) as the basis of budgeted raises each year.

So our minimal recommendation is…

So our minimal recommendation is that you reserve your contingency income to sponsor agency growth initiatives when they are generous enough to do so. And, instead of paying bonuses when you feel the inclination, pay regular pay advances to your staff based on average Operating Income growth in the agency.

Our best recommendation…

Our best recommendation is that you pursue our Incentive Compensation Program that rewards your employees for their productivity growth instead of for their longevity with the agency. Each employee will earn according to their value to the agency. Your best employees will end up earning the most and performing at optimum levels. You may lose the weak performers who aren’t as productive as the better performers but isn’t that the right way to run your agency?

Either way we’d like to discourage bonus payments in favor of paying staff at proper levels for their performance. Remember the Law of Unintended Consequences. It does act on you regardless of how generous you believe you have been. Most agents feel the results when they lose someone they value right after a bonus payment has been made.