By Bill Fotsch

Maybe because I’m an engineer by training, I like to understand how things work. And I find it frustrating when things don’t work the way they are supposed to. I suspect that’s how many business owners feel about their bonus plans.

The reason? Most bonus plans don’t work. They don’t encourage people to act in ways that help the business. They don’t get employees more engaged. Often they provoke recriminations and disappointment. (“How come she got a bonus and I didn’t?”)

Bonuses are like any tool. Used correctly, they perform well. Used incorrectly, they can backfire or fizzle out ineffectively.

The most common type of bonus plans, for example, are linked to individual performance. The company establishes some metric to gauge employee’s performance—sales figures, pieces per hour, customer-service levels, and so on. If individuals exceed the target, they generate a bonus for themselves. Everybody wins, right?

If only things were so simple. Consider these scenarios:

  • I’m a commissioned salesperson, and I need to hit my sales targets to get my bonus. Think I’m going to share leads with my coworkers? No way! Of course, I like to ignore the fact that my success really depends on the operations folks doing a great job delighting customers. If they screw up, I’ll try to blame them and argue that I should get my bonus anyway.
  • I’m in production. One day the sales team gets a unique, profitable order that means more work per piece. Oh, no! There goes my bonus. I better see if I can get assigned to an easier job.
  • I run customer service. I love our engineers—they just developed a product refinement that is wowing our customers and requires far fewer service calls. I know I’m going to get my bonus, because customer satisfaction will be way up. And I don’t have to do a thing differently.

Individual bonuses are fine if what you really want is individual performance. But most businesses are team sports, and individual performance is only one element of the equation. That’s why I almost always recommend team-based bonuses.

Many executives and company owners tell me they agree with that point, and that’s why their bonus consists of profit-sharing checks. They like the idea of an incentive that’s tied to company performance.

But is it really an incentive? Here are some questions I typically ask about profit sharing:

  • Do your teams understand how they contribute to profits?
  • Do you have a regular weekly update on forecast profits and therefore the forecast bonus?
  • Are variances to budget and forecast continually examined, so the team continues to learn more and more about profits?
  • Do you annually review performance and business issues with your entire team, and adjust the team performance metric for next year accordingly?

If you answer yes to all these questions, you already know everything I have learned about bonuses. Maybe we could trade notes about your experience and your current bonus plan. If your answer was no to one or more, perhaps you’d like to have a conversation to improve your plan.

After all, bonuses should work the way they are supposed to.

By Bill Fotsch

If you google Business Owners, here are some of the images you see:

businessowners

What do you notice as you look at these images? People smiling, welcoming, feeling proud. And it isn’t much of a stretch to imagine how they do business. They work hard, take care of customers as well as employees, pay their taxes, and generally make the world a better place.

Celebrated entrepreneurs—Steve Jobs of Apple, Herb Kelleher of Southwest Airlines, Howard Schultz of Starbucks—are like these owners, only on a bigger scale. Their companies reflect a culture of ownership, which is to say a culture of responsibility. I had the privilege of working with Southwest Airlines a few years ago. When you are at the company’s headquarters at Love Field, in Dallas, you walk down halls lined with pictures of employees who have gone the extra mile. A sense of pride and accountability to one another infuses the place.

Isn’t that the goal of any owner? Owners want their company to succeed. To reach that point, they need to do three basic things:

1. understand their customer’s needs, and create products or services that meet those needs

2. attract and engage employees to deliver those products or services in a manner that delights customers

3. do all that at a profit

When an owner falters, it’s usually because he or she has forgotten about one of those basic points. Maybe the company doesn’t understand what its customers really want.  Maybe its employees don’t know how to deliver great quality or great service. Maybe its costs are spiraling out of control.  But you know what? There are simple things you can do to rectify any such situation.

Here are just two:

1) Interview your customers—now—to see what they really value. If you are not sure how to do this, ask for our free customer interview script. It’s based on a modified version of Fred Reichheld’s The Ultimate Question—a book that has helped many companies transform their relationship with customers.

2) Engage your employees by making the economics of your business transparent.  Once they understand how the company makes money and how they contribute to profitability, they’ll begin coming up with ideas about how to make more—particularly if you share the extra profit with them. In effect, you’ll be turning them into owners.

We would like to see you be a successful owner. Customers, employees, your community and your fellow owners will all be better off. Why not become the Southwest Airlines of your industry? If we can help, let us know.

By Bill Fotsch

If you have read the three previous posts, you know the importance of a clearly understood, common goal. You have done the homework, involved your employees, managers, financials and customers in determining the right definition of winning for your business right now. So what’s next?

The answer is this: it’s time to drive results, engaging everyone in the organization. A great starting point is to develop a scoreboard and an incentive plan.

The scoreboard should make it clear how the company is doing overall. It should also highlight the key drivers of success that employees can influence. Let’s discuss some examples.

  • At AAMCOM, a telecom service company, the winning performance metric is revenue per paid hour. AAMCOM employees forecast revenue and paid hours for the next 2-3 months, so they can see what is coming down the pike. They update their forecast every week for everyone to see, and people learn client by client when revenue is moving up or moving down. Each week they discuss efficiency improvements, new sources of clients, increases in repeat revenue, and so on. Everyone learns each week.
  • At Gourmet Events Hawaii, the winning performance metric is gross profit. Employees there realize that they win or lose with each event. So they track every event to see how they are doing and how it contributes to the whole. They look at the profit margins of different events and focus their sales efforts accordingly. And since they just got started, they ask every employee what he or she individually can do to improve gross margin and thus the likelihood of better performance.
  • At One Week Bath, a remodeler based in Los Angeles, the winning performance metric is net profit. In this case the scoreboard is more complex. These employees have to track and forecast each job; they also must track backlog and operating expense. They make it manageable by breaking down the responsibilities. The scoreboard lets everyone see how they contribute to the whole. (This company’s progress is particularly satisfying for me, since One Week Bath is one of the few coaching clients I have invested in.)

Once you have defined winning and have created a scoreboard that tracks and forecasts the key numbers, it’s important to share whatever incremental wealth you and your employees generate. I am a big fan of team-based annual incentive plans, plans that get reassessed as part of the yearly planning process. This sets up a natural quarterly progress review, focusing on what is working, what isn’t and what needs to be focused on. If sales are below plan, for example, what are the key reasons? What should we do about that? If margins are higher than expected, why is that—and how can we capitalize on the trend?

Be sure to celebrate wins along the way. Share the losses and discuss what can be learned from them. And if you come across a really powerful insight, please share it with us. That’s how we continue to grow in our understanding, refine our methodology, and win our own game.

By Bill Fotsch

Some people say the journey is just as important as the destination. That’s certainly the case when it comes to defining winning. True, you want to be sure that the definition of winning you come up with is right. But the process you use to develop that definition is just as important.

We have continually refined our process of helping companies define winning over the past 20+ years. It’s the typical starting point of our work. Our current recommended process involves the following five steps, done in parallel:

  1. Gathering input from all employees through an employee survey
  2. Gathering input from management, using a management questionnaire
  3. Assembling the past five years’ worth of financials, along with budget versus actual for the current year to date
  4. Assembling existing management reports
  5. Gathering input from customers as captured in our customer outreach script. (This will be used in determining your winning metric; it should also increase repeat and referral revenue.)

You can see how much participation we recommend in the process. Every employee is asked for his or her input—all in confidence, to encourage candid responses. We suggest you ask them questions like these: What is the biggest opportunity to increase profits? What is our biggest opportunity to strengthen our relationship with customers and increase revenue? Such questions not only generate great input; they also get employees thinking about the business in a more holistic way. The same is true for input from managers, though in their case you’ll want to focus a bit more on competition.

Analysis of trends from the financials tells the company’s story from a financial perspective. We particularly look to see if the company is heavily in debt and has weak cash flow. If that’s the case, we know that “winning” will involve some measure related to generating cash. As for existing managerial reports, those usually reveal what the company is currently focused on.

In the past five years we have added customer input to the mix. We have found that using a modified version of Fred Reichheld’s “Ultimate Question”—how likely is it that you would recommend us to a friend or colleague?—has been very powerful. It produces great input and at the same time strengthens a company’s relationship with its customers.

Since all five steps can be done more or less simultaneously, you don’t need much calendar time to complete the process—typically two or three weeks is plenty. Then we suggest you hold a working session with six-to-twelve team members to go through this input and come to a consensus on the key issues facing the company in the next few quarters. Usually, you can then distill the key issues down to a performance metric that defines winning. Depending on your situation, winning might mean increasing your revenue, boosting gross margins, increasing customer loyalty, or something else entirely.

Since everyone in the company has at least some input into the process, the level of understanding and “buy in” is very high. Of course, there’s always some need for reinforcement and education, but this approach provides both better definitions of winning and better implementation. That’s why I recommend both the process—the journey—and the resulting destination, a company that understands and can focus on winning.

By Bill Fotsch

At many companies, you find that most employees have no idea whether their company is winning.

Instead you hear talk about goals. Employees have their key performance indicators (KPIs). Managers have their sales goals or production goals or budget goals. It’s like a basketball team where one player focuses on his free-throw percentage while another is worrying about the number of rebounds he gets—and nobody’s paying attention to the score. 

But wait! (I hear you say). Business isn’t sports. In business there are always multiple objectives—increasing market share, improving quality, boosting revenue, maintaining margins, raising employee retention rates, and so on. Look at the Balanced Scorecard, developed at Harvard Business School. That’s one way of incorporating many different measures into one overall dashboard.

Right. I actually graduated from Harvard Business School. But where the Balanced Scorecard is concerned, I’m reminded of what a lot of people think of socialism. Might be a nice idea in principle, but it doesn’t work in practice.

The trouble with multiple success metrics arises when someone has to make a decision that involves trading off one goal for another. Do we want to improve market share by lowering our prices—or do we want to maintain our prices to protect our profitability? Higher market share is good. Profitability is good. But when you must make a decision on pricing, you may have to trade off one versus the other. So what’s the right decision?

A simple definition of winning—one single metric, with a clearly defined target—solves that problem. It makes things simple and straightforward for everyone. You can make the appropriate tradeoffs because you know what the company’s priority is right now.

And that’s the key: the definition of winning can and should change from one year to the next, reflecting a company’s changing business situation.

If a company is highly in debt and has a shaky cash flow, its focus has to be on generating cash. Improved market share is fine so long as it doesn’t interfere with generating cash. If a company is well funded and looking to grow, by contrast, higher market share may be more important that near-term profits or even cash flow. This company’s definition of winning might be a certain goal for revenue growth. 

To be sure, some companies find that they have two competing priorities in the near term, so coming up with a single “winning” metric is hard. Take an application software business. The money it makes in the current year comes from sales of upgrades and features developed in the previous year. So if you ask the software company which is more important, development of new upgrades and features vs. sales and profits from last year’s developments, you’ll stump them.

But there’s usually a solution to this kind of dilemma. One software company I worked with, for instance, decided to focus everyone on current-year sales and profits, but with a budget for development of next year’s products. Even though it wasn’t spending the development money right away, it still deducted the budget from profits.

The result? The team had no incentive to underinvest in development. But if it spent more than it had budgeted, the difference came out of profit. So everyone knew what it meant to win.

If you’re not sure how to come up with one metric for your business, check out next week’s blog, which will be on that subject. Better yet, get in touch with me directly. I’d be glad to talk it over with you and come up with a solution together.

Why Define Winning

April 21, 2015 — 1 Comment

By Bill Fotsch

What would you call a group that shares one clear, objectively defined goal? In sports, that’s the definition of a team. And what do you call a team whose members focus on their own measures or accomplishments but care little about the team’s success? A good name for that team might be “the ideal competitor.” Or maybe “losers.”

Yet many companies lack just such a clear, objectively defined metric of success. Sure, they’re in business to make money. But that goal is pretty vague. Make money at all costs? (Probably not.) Make money in the short term or in the longer term? (Hmm…) Maximize return on sales or return on equity? (Many people might wonder what the difference is.)

The confusion is debilitating. Since employees don’t know what defines success, they don’t know how their efforts contribute to winning. Since they can’t easily make that connection themselves, they have to wait for someone to tell them what to do. The delay hurts the company’s ability to act quickly. Worse, the employees are reduced to serfs, and morale plummets.

Sometimes it’s very clear what defines winning. SRC, the pioneer open-book company, started its life with an 89-to-1 debt-to-equity ratio. If it didn’t make the monthly loan payment to the bank, it would go under. Each week, SRC’s people talked about how to improve the likelihood that they could make the payment. Every employee was enlisted in the cause, and everyone began thinking how they could help generate the necessary cash.

A while into this—long before anyone had heard of SRC—CEO Jack Stack came out of his office one Thursday night. The janitor stopped him and asked if all this talk about the loan payment was serious. Jack was taken aback.  He replied, “You’re darn right we’re serious. The life of our company is at stake.” Or words to that effect.

The janitor then asked these three questions:

Don’t most of our sales come from the trucking industry?

Doesn’t trucking go through a downturn every five or six years?

If we’re so dependent on trucking, won’t we fail to make the payment when the downturn hits?

As Jack tells the story, he just looked at the janitor with his mouth open. The janitor said, “Well, you’re the president, so I figured I should mention this to you.” Then he walked down the hall, pushing his broom.

The following morning, Jack gathered his management team together and took them through the same three questions. At the end he said, “We need to start diversifying, and I mean now.” 

The moral of this story is simple: the janitor knew what winning meant for SRC at that time. He wouldn’t have mentioned his thinking to Jack had he not been aware of the importance of the bank payment. Think of how empowering that was for him. And think how many individuals in your own company might be every bit as valuable and talented as that janitor but don’t have any idea what defines winning. How much insight, motivation and morale are you losing?

Next week’s post will discuss why it’s important to define winning with just one easily understood metric—and the week after that, I’ll explain how you can come up with that metric. But the key to the whole thing is to understand that successful teams know what it means to win—in business just as in sports.

By Bill Fotsch

I worked at Bain & Company for six years after graduating from business school. Back then the firm’s mantra was “data driven analysis.” The reason a bunch of 20-somethings like me could give advice to Fortune 100 executives, one partner explained, was that we had gathered the data. We had done our homework.

It’s no surprise that planning requires homework. Build a home without doing a soil test and you may find that the foundation is unstable. Go up against a good opponent in almost any sport and the game will go better if you have taken the time to understand your competitor. Sun Tsu, author of The Art of War, points out that a successful military strategy stems from a solid understanding of the terrain, the enemy and your own relative strengths and weaknesses.

So the homework is necessary. But it’s not sufficient. Here’s what else I’ve learned since my days at Bain:

If you want a plan to be as strong as possible—and if you want it to be successfully implemented—you need to involve a broad range of employees in the process. Jack Stack of SRC calls it “high involvement planning,” and it works well at his company.

Customers need to have input, too. I have found the work of Fred Reichheld on customer and employee loyalty very helpful in this context. Reichheld’s “Ultimate Question” has become the basis for a customer interview script that is now part of the planning process I recommend. It is a powerful and efficient way to get customer input into planning, and it helps make plans more successful.

How different this is from the typical planning process! At many companies, senior management annually heads off to some offsite retreat, typically a pretty nice place. With the guide of a “planning facilitator,” the top people think great thoughts, often based on little homework and no employee or customer involvement. This Wizard of Oz approach provides lots of Dilbert comedy but rarely any successful plans.

Even more common is the lack of any ongoing planning process. Company leaders often explain that they are way too busy dealing with day-to-day problems to devote any time to planning. Sure, everyone has heard the comment, “If you are too busy to plan, you are planning to fail.” But they don’t act on it.

The problem with planning is that it does not provide an immediate payoff. It requires time and effort that could be spent on pressing day-to day-challenges. The phone is ringing and we have to answer it. A new order needs to get filled today. An employee mistake has to be remedied.  Stephen Covey refers to this as the “tyranny of the urgent” blocking out time to deal with the important. I think he is right. 

Like a sports team that needs to set aside time for practice to win the big game, companies need to do their homework to develop successful plans. And they need systematic input from employees, managers, and customers as well as from the financials. A coach may be able to facilitate the process. But there will be work you and your team need to do. 

That’s the bad news. The good news is, if you do your homework and involve your people—and particularly if you do all that better than your competitors—your likelihood of success will soar.

By Bill Fotsch

Years ago, former House speaker Tip O’Neill uttered the famous phrase, “All politics is local.”  You don’t have to share Tip’s political views to know that he was on to something. In business, there’s a parallel truth: what matters most are the local economics. 

In a small company, everyone can pretty much understand the company’s basic economics, meaning how it makes money and how they contribute to that goal. But as a company gets bigger, the economics vanish into a haze. It’s hard for a product designer or financial analyst at General Motors really to see how what they do matters to the company’s performance.

But that doesn’t mean that you can’t engage people in understanding and driving the local economics.

Take General Motors again. GM’s Dayton, Ohio, brake plant has about 300 employees. It’s not hard for those employees to understand the economics of their plant and how they can improve them. By improving their local economics, they contribute to the company’s performance. It’s much the same with every unit or function in the company.

I got a great lesson in the importance of local economics when I was working with the Zambian Consolidated Copper Mine in Zambia. The company needed to generate more cash from the mine, and it needed employees to come up with ideas about how to do so. But it wasn’t immediately obvious how to get 50,000 union miners thinking and acting like owners.

So we started with five initial pilots: the concentrator, the smelter, a mine development project, a maintenance department, and the Mufulira mine. Each pilot was charged with creating initiatives that would increase the company’s cash. 

Four of the five were phenomenally successful. But the Mufulira mine was a failure. The difference? Each of the successful pilots had between 50 and 500 employees, while Mufulira had 2,000. That was just too large for the team to understand the local economics. People couldn’t see how their individual efforts could make a difference.

I also worked with Carlson Wagonlit Travel to help the company improve its results. Carlson at the time had 27 offices, ranging in size from 40 to 350 employees. We selected three representative offices as pilots and helped employees at each one understand the local economics. The three exceeded budgeted profits by 10%, 17% and 20%, in a year when none of the other 24 offices was able to hit budget. Not surprisingly, Carlson chose to roll out open-book principles to the rest of its offices.

The challenge of applying local economics was harder at Capital One, the big bank and credit-card company. Our focus was on the back office. While it was a support organization—a “cost center”—we helped employees view their unit as an independent supplier contracting with Capital One. That mindset brought the local economics alive.

The idea that all economics is local has a big payoff: the same tools that work well with small and midsize companies can work well with larger corporations. In both cases, employees can learn to understand which numbers are important and to see how they can affect results. That’s how I came to believe, like Tip O’Neill, that what matters most is what happens locally.

By Bill Fotsch

Many businesspeople think that the best way to get great performance is to link compensation to results—in other words, set up an incentive plan. 

Incentive plans can be useful tools, particularly if they are thoughtfully developed and applied.  But here’s a far more powerful method of improving results: ask your organization to take responsibility for forecasting.

Forecasting empowers people. It clarifies responsibility and priorities, thereby encouraging cooperation. It gets the team thinking about cause and effect—what they can do now to improve future results or avoid some identified risk.

And it pays off in all kinds of ways, expected and unexpected. Some examples:

A manufacturing company I worked with focused on job margin dollars per month, meaning shipment revenue minus direct labor and materials. When the team began weekly forecasting, members naturally started figuring out how to improve margin dollars on each job and how to get more jobs done in a given month. Ideas came from everywhere: ways to avoid rework, ways to save on materials, and so on. etc. Variances between actuals and forecasts, both good and bad, led to more learning and further improvements. 

An engineering services firm focused on revenue per paid hour, as this metric drove its financial results. Here, too, employees began thinking about what they could do to improve outcomes. But then came a big challenge: two companies representing more than 70% of revenue substantially reduced their volume. The forecasts revealed the inescapable truth that the firm needed new customers. Although some employees weren’t particularly comfortable taking on a sales role, they did so. Sales soared.

Another client has an HVAC parts supply business. Each of the company’s seven branches updates its profit forecast weekly, and everyone sees the forecast of every branch. So not only do each branch’s employees think about how to improve results, they also see what their colleagues at other branches come up with. This company recently established an employee stock ownership plan, or ESOP. Now when it updates the profit forecast, it also updates the valuation, which is based on a multiple of prior profits. As you might imagine, this really brings the ESOP to life.

Like most valuable endeavors, forecasting takes practice. But you can get started just by trying to forecast next month’s results. Over time, stretch your forecasting efforts to several months out. When your forecast is consistently close to your actuals, you know you have the business under control.

Jack Stack once said that a company that can forecast its future controls its destiny. He’s right. Incentive plans can be good, but forecasting is better.

By Bill Fotsch

“Happiness” is a tricky concept, particularly at work. Some people seem to be happy most of the time. Others are congenital grouches. Still, there’s no doubt that some workplaces feel like a great place to work—they feed people’s happiness. Others seem to make people gloomy or stressed out.

What accounts for the difference? Think about the last airplane trip you took. The staff at some airlines—well, you just wouldn’t describe them as happy. At best they’re merely professional. At worst, they can be cold, impatient, or downright surly.

And then there’s Southwest Airlines. Veteran flyers know that most SWA employees usually have grins on their faces. They laugh a lot. They’re pleasant to be around, which suggests they’re pretty happy.

I don’t mean to be too mechanistic about happiness, but surely management has something to do with it. Most of the other big airlines have gone through bankruptcy. Their labor relations have often been contentious. People have been laid off or furloughed with regularity.

Southwest, by contrast, has been consistently profitable since its founding in 1967. No bankruptcy. No layoffs. Sure, it has its challenges because of its rapid growth. Even so, Southwest employees have a level of job security that is the envy of their colleagues in other airlines. They have had profit sharing for years, and most of them own stock in the airline. When I was working with them to apply open-book principles a few years ago, I was impressed with how they naturally collaborate to improve results.

One episode has always stuck in my mind. It was years ago, when the airline industry was going through a particularly tough time.  I happened to be in Dallas that morning, and heard a report on the local news that SWA was the only airline not making any layoff announcements. 

I happened to be flying on SWA that morning. As I was checking in, I had the following exchange with the gate agent:

Me: Boy, you guys got some great press this morning.

Her: Yes, we are all very proud.

Me: Sure, the rest of the industry is laying people off, but not Southwest.

Her: Right, but do you want to know why we are not laying anyone off?

Me: Absolutely. I’ve been a SWA fan, investor and customer for years. Tell me.

Her: Well, we knew eventually a rainy day would come, so we have been saving money. All the other airlines are loaded up in debt and consequently they have no choice. We have over a billion in cash. So we have lots of options. Would you like to hear about the new markets we’re going to enter?

Wow, I thought.  She is checking me in, yet she sounds brighter than a lot of CEOs. That’s the power of open-book management.

Oh, yes. She looked pretty happy, too.