Talking about pay is uncomfortable. Wherever you sit in an organization, getting down to brass tacks and talking hard numbers can make us feel exposed and vulnerable. And that’s especially true when you’re a manager and your compensation strategy is built on a pay-for-performance model.
Pay-for-performance can be an effective way to build a high-performing, highly-motivated team. But explaining the nuts and bolts behind why some employees get a raise or bonus and others don’t can be tricky — especially when your direct reports’ income depends on how well they hit their targets.
Getting this right depends on having the correct information — and the right words — that create an open, honest, and accessible dialogue on compensation so that everyone feels fairly rewarded and equipped to perform at their best.
What Is Pay-for-Performance?
Pay-for-performance is a compensation model in which employees are paid based on how well they hit their targets.
Common examples include bonuses, commissions, or a salary increase — also known as a merit raise. But pay-for-performance can also include compensation models like profit-sharing, stock options, and bonus plans — where team remuneration is tied to meeting a specific goal.
“Pay-for-performance is a compensation model where you’re rewarding employees based on their level of performance and capability,” explained Matt Bradburn, founder and CEO of people operations consultancy, People Collective. “This can be split in a couple of ways — either by merit or variable.
“In the merit model, you increase people’s base salaries as a result of performance. You’re measuring consistent high performance over time, and giving salary increases based on employees reaching a particular performance level. It can be expressed as a percentage of the employee’s base salary.
“In the variable pay model, you offer employees compensation-based recognition around certain areas — a common example would be sales. This is where you’ve got a clear incentivization structure in place. High-performing sales team members will receive a higher level of remuneration versus a bonus payment, which might be based on company performance.”
When done well, pay-for-performance can be an effective compensation model that taps right into business performance. In Lattice’s 2023 State of People Strategy Report, we found that 64% of top-performing HR teams meeting or exceeding their goals already had a pay-for-performance strategy in place.
Meanwhile, research has found that pay-for-performance can boost employees’ short-term creative output, productivity, and individual performance.
The number one way to drive any kind of change or engagement in your organization is through your managers.
Why Conversations About Compensation Matter
“The number one way to drive any kind of change or engagement in your organization is through your managers,” said Sarah Lovelace, VP of People at Airbase. “So while managers don’t own and control the company’s budget, compensation strategy, or philosophy, what they do own is their relationship with their direct reports, and how the company compensation philosophy pertains to their salary.
“As a manager, explaining how your company does compensation — the philosophy and structure — is really important. But you also need to be able to articulate how progression looks, what employees need to do to progress in their career, which higher salary is an output of, and what timelines look like around compensation discussions.”
In the context of pay-for-performance, transparency on your compensation practices is critical to maintaining trust. Otherwise, your team members might end up feeling underpaid or under-rewarded, leading them to start the job search for a new role.
For Bradburn, this is as much about explaining the “how” as the “why.”
“You have to have a clear understanding as to what goes into the calculations, and transparently set expectations around success,” he said. “You need to understand how employees are going to be measured. In a merit-based model, for example, you need to define expectations as to what level of commission goes to which groups of employees, and be able to communicate it directly to them upfront. You also need to explain how and when these expectations will be reassessed on a regular basis.
“When you clearly enunciate how your methodology works, your processes feel fair, and pay-for-performance is a transparent conversation, not a black box. That will help build trust in your system and methodology.”
What Managers Need to Know When Talking About Pay
Pay can be an emotive issue — and as a hiring manager, the best way to lead a productive discussion is to ensure you’re equipped with the right information on your organization’s compensation philosophy, strategy, and policy.
Lovelace said this starts with creating processes around information-sharing on compensation at an organizational level.
“At the start of every cycle, human resources teams can enable hiring managers to take the lead on pay conversations by creating a document that outlines your compensation philosophy, goals, and how you make decisions,” she said. “Building that muscle internally around compensation helps you make sure everyone has the right information at the right time.”
It’s more impactful to say you don’t know, and that you’ll follow up — or that you will point employees in the direction of someone who can offer them more information.
In addition to understanding how the payscale is calculated for your direct reports’ specific job titles, you need to know the basics around your organization’s compensation philosophy, including how and when pay is reviewed, how performance-related pay is doled out, and how to explain your processes around compensation, like performance reviews.
Try the following talking points as a guide to help you know what level of information you’ll need, and use it to shape discussions:
- How the salary range for your employee’s current role is calculated according to current market value.
- How employees’ salary is calculated in the context of their pay range.
- How and when pay-for-performance applies, such as when bonuses and commission are rewarded.
- How performance is evaluated, and when to expect performance review cycles.
- How often pay is reviewed and updated in line with changing salary trends.
It might sound like a lot of information you need to know all at once. And, well, it is. That’s why there are going to be moments where you might not know the answer — and that’s totally okay, as long as you help the employee get the right information.
“Sometimes employees will ask you a question that you don’t know how to answer,” Lovelace said. “In those moments, it’s more impactful to say you don’t know, and that you’ll follow up — or that you will point employees in the direction of someone who can offer them more information.”
4 Example Scripts for Discussing Pay-for-Performance
Whether you’re explaining your pay-for-performance strategy to job seekers during the hiring process or existing team members you’re trying to retain, having the right words can defuse the potential for misunderstandings or frustration later on.
With that in mind, we’ve created a few templates to help you navigate these conversations with clarity, transparency, and ease.
Scenario 1: As part of a job offer or salary negotiation conversation.
The context: You’re in the middle of the interview process, or you’ve just extended an initial offer to a brilliant new candidate for the sales team. As part of the salary negotiation process, your potential employee-to-be asks about how pay works at your organization.
What to say: “At [Company], our sales team works based on a commission model. This means that your income is tied to the amount of revenue you bring in. So, if you’re on 10% commission, you’d earn $2,000 for selling a subscription worth $20,000. If you consistently earn on target, your salary could be $X,000 each month.”
Advice from our experts: “Ideally, conversations on pay-for-performance start as part of your job interview questions when you start to discuss salary expectations for the role,” Bradburn noted. “It’s far more effective to have this conversation before a new hire accepts the job offer, because it communicates your culture and compensation philosophy upfront.”
Scenario 2: Your employee doesn’t understand pay-for-performance.
The context: An employee has come to ask for more detail on how pay-for-performance works in your team.
What to say: “Our compensation strategy is based on employee performance. This means that during our annual performance review process, we evaluate your performance based on how well you’re hitting key KPIs. When employees deliver a truly outstanding performance, we usually reward them with a raise at X% on their base salary, depending on where they fall in the current salary range. We assign salary increases using a sliding scale based on employee performance.”
Advice from our experts: “Don’t try to obfuscate what might be an uncomfortable conversation,” Bradburn said. “It’s far better to be clear and upfront with folks and explicitly lay out how your pay-for-performance model works, and that — yes — during a performance review period, some people on our team might get a big pay increase, some get a mid-size one, and others get nothing. You must also stress that the decision-making process is as fair and objective as possible.”
Scenario 3: An underperforming employee is feeling underpaid and is asking for a raise.
The context: A long-tenured employee’s performance has been slipping over the past year — but they’re noticing that their peers are getting paid more than them because they’re consistently hitting their KPI-related bonuses.
What to say: “Over the past year, we noticed that you seem to be struggling to hit individual KPIs around customer retention and satisfaction. In your last performance review, we highlighted a few areas of improvement we’d like you to work on to reach the next level, including your project management skills when working with new customers. How would you say your progress is going on meeting those performance targets? What can we do to support you better in reaching these new goals?”
Advice from our experts: “Managers and employees are likely to approach this kind of discussion very differently,” Lovelace said. “From the employee perspective, they’re likely to be focused on their compensation as their key priority. But for a manager, it’s a case of focusing on the employee’s needs and skills in that moment. As a manager, you need to approach the discussion from the perspective of helping them understand what they need to improve, and how you can support them to improve their capabilities and skills that relate to their current role — or even get them ready for the next role all within the context of the business.”
Scenario 4: A consistent high-performer hasn’t quite made the grade this quarter.
The context: One of your team’s high-flyers has a proven track record over the last year, and consistently earned their fair share of commission. But over the last quarter, they haven’t managed to hit their targets — and they’re now asking why they didn’t get their expected financial windfall.
What to say: “Over the past year, your performance and progress at [Company] has been excellent, and you’ve been a consistent high-performer that has always exceeded quarterly targets. But to move to the next level of performance, there are some specific areas and capabilities we’d like you to work on. Why don’t you talk us through what you see the next level of your career looking like with us, and we can work together to create a plan to support you.”
Advice from our experts: “This can be one of the more difficult conversations managers have to have with their team members, which is usually caused by what’s termed a “perception gap”,” Bradburn explained. “From the employee’s perspective, they think they’re performing well and deserve their performance bonus or raise. But from the manager’s perspective, they might have plateaued a bit in the last quarter, so they’re not hitting their goals.
“The first thing you need to illustrate is that career paths aren’t linear — you don’t move up each year,” Bradburn added. “You also need to work to close that perception gap. You need to be realistic about the reasons as to why the employee didn’t hit their targets, and how they can improve performance for next time. Make sure you ask them for their own thoughts too — and make it clear you’re here to support them.”
Scaling Equitable Compensation Practices
When done well, pay-for-performance can be a great addition to your compensation strategy that motivates employees to perform and grow to their fullest potential. But to maximize its potential benefits, it must be coupled with transparency, empathy, and equitable compensation practices.
That starts with having honest conversations. Having the right information is key to instilling the confidence needed to lead a transparent discussion — and managers must be able to explain how and why compensation is calculated, and how this connects to employee performance.
To find out more about how to build a successful pay-for-performance strategy, check out our ebook: How to Reward Top Talent With Pay-for-Performance
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