Do not let human nature derail your transformation initiative
Address conflicting incentives early to keep your leaders working together
Self-interest is at the root of human nature, and it creates corporate inertia in stressful times that can hinder a company's ability to respond to change and adapt to new challenges. As leaders, managers, and employees navigate their way through a transformation, companies must expect everyone to think first about how an upcoming change will impact them and what steps they can take to protect their own self-interest. This is perfectly rational and predictable. In response, transformation leaders must extend their thinking about change management to include the right incentives that will align the workforce with the desired outcomes of the transformation effort.
Setting this path at the beginning is essential. How employees approach their day-to-day work is driven by what they – and their managers – are measured on. Without a focus on incentives, inertia can overwhelm even the most compelling company messaging. Employees will try to respond to leadership messages about the need to think differently, optimize, and do what is best for the company. But they also need to be confident that those decisions will not work against them at bonus time, or they will revert to prior behaviors that have been previously rewarded. If companies seek to fundamentally change how a business operates, they must create new financial incentives to reflect those new expectations.
Aligning incentives around a successful transformation does not require a multi-year re-think of compensation and performance systems. Instead, companies should take the following steps:
1) Simplify & Focus: Simplify and focus performance targets for everyone, especially senior leaders. Removing divisional and functional targets will avoid system sub-optimization and eliminate perverse incentives. Instead, a small number of shared performance targets that set the goal line for the transformation program should be implemented quickly and communicated widely.
2) Retain Flexibility: Relying solely on quantifiable performance targets is not enough to combat self-interest. Transformation leaders or sponsors need the flexibility to provide qualitative input that rewards the desired behaviors, attitudes, and tone necessary to achieve the transformation goal so that everyone believes that they won’t be penalized for making the best decisions for the company.
3) Implement Feedback Loops: Transformation leaders and sponsors need to implement feedback loops that provide ongoing clarity about progress toward the transformation’s goals and send clear signals about the leaders who are enabling the transformation.
Addressing incentives early in a transformation can be a major accelerant to change taking root; ignoring them can derail even the most well-executed restructuring effort.
We have seen first-hand how critical it is to address the incentive issue at the beginning of a transformation effort. We supported a company seeking to change its operating model to break down long-standing silos and accelerate growth through cross-unit collaboration. They attempted to preserve their existing performance reporting system, which was based on separately measuring the profitability of each legacy line of business. In one specific instance, the company attempted to create operational efficiencies by giving one senior sales leader the responsibility for selling products from two separate legacy businesses. At an enterprise level, the company’s profitability was not impacted by how sales differed between the two legacy product lines. However, because the company’s internal performance measures (and therefore of the sales leader and each of the product line leaders) differentiated between sales of each product line, there was substantial confusion about how to apportion revenue from that sales team between the brands, and how the sales team’s compensation would be impacted. Attempting to resolve these issues consumed vast quantities of staff time as the operational teams were not able to revise the underlying budgeting and reporting processes on which the performance metrics were based.
Unsurprisingly, the new operating model failed to take root quickly. The company had long understood that its approach to internal reporting and performance measurement often stymied efforts to redesign the operation, but it had always believed that rethinking these processes would take too long. In this case, they would have saved substantial time and effort had they treated this sales team as an enterprise-wide function for performance management purposes and given them metrics that were distinct from their legacy line of business.
In another case, we were working with a company that was reorganizing itself to accelerate a new go-to-market strategy partially funded by the efficiency gains from re-assembling functions in a manner that would unlock material cost savings through better scaling. There was considerable concern about how the legacy business systems could be utilized to produce new management reports to support the new operating model and performance metrics. We recognized that the new teams needed to come together quickly to deliver and could not wait for extensive system redesign work to support detailed metrics. Moreover, leadership wanted the new operating model to foster cooperation, rather than individual team performance. We worked with leadership to rethink its entire approach to performance management. Rather than invest precious time in detailed metrics, they adopted the near-term approach of incentivizing all leaders on same corporate performance measures and strategic priorities. They made it clear to all leaders that the new model would prioritize the overall company, and that incentives based on the “old ways” would not return. Moreover, the new performance measurements were very simple – focused on three critical measures – even for executive leadership. When leaders at all levels understood that they would not be penalized for putting the company first, rather than their segment of the business, the shift to a "One Company" philosophy took root, silos broke down, and collaboration improved dramatically.
A simplified incentive system may not address all performance management challenges over the long-term, and over time these can – and should – evolve to become more nuanced. However, at the beginning of a transformation effort, momentum is essential, and removing the friction caused by legacy incentive systems can be a powerful tool in overcoming corporate inertia.