Annual Reviews: Why You Should Separate Performance and Pay

Both middle market managers and their employees dislike annual reviews. Managers, already overburdened by the year's end, must prepare reports and sit down with each of their team members to evaluate performance and salary issues. Employees, on the other hand, are anxious about their bonuses and are only listening for how their performance ratings impact their income. Could anything be more uncomfortable and a waste of time on both sides?

Don't lump together feedback and discussions about bonuses in annual reviews. These hybrid discussions can distract employees from learning.

What Goes Wrong?

In short, plenty. Let's look at two possible examples from an imaginary middle market company:

  1. Employees and managers work hard under tough market conditions, growing their skills significantly while their company outperforms a down market by growing 1 percent. While managers explain to employees that they've worked hard and improved their capabilities, the largest salary increases for the top performers are 2 percent. The result: demotivation and disappointment.
  2. Employees and managers coast in a booming market. The company grows 10 percent while its competitors take even more market share. Employees and managers get double-digit bonuses, even though they've failed to focus on skills development for the future. The result: contented employees who are not developing skills and are thus falling behind competitors.

Change the Annual Review

Tom DiDonato, chief human resources officer at Lear, believes that annual reviews aren't being done correctly, and that salary reviews and performance reviews should be separated. As he wrote in a Harvard Business Review article, "Performance reviews that are tied to compensation create a blame-oriented culture. It's well known that they reinforce hierarchy ... work against cooperative problem solving, discourage straight talk and too easily become politicized." DiDonato explains how Lear has separated salary and feedback: "By taking away concerns about money and status, we've freed employees to relax and hear what their managers have to say, and vice versa."

Management consultant Michael Beer, a professor emeritus of business administration at Harvard Business School, agrees. "You can't get someone to really be listening and trying to learn about what they can do to change or problem solve when they know the meeting is about what their bonus is," he says in Inc. "They're going to be very defensive and closed." When a bonus is the elephant in the room, performance feedback often equates to a discussion about compensation. It shouldn't be this way. Your company would be better served by getting the elephant out of the room and focusing only on performance feedback.

Separate Talk on Performance and Salary

Your workforce's development is simply too important to let compensation talk bury it. When you review performance, the focus must be purely on what the employee did and how he or she can do it better next time. Whether you call this a performance review, a feedback session, coaching or assessment, it doesn't matter. The key is to have an open and frank discussion where everyone involved listens and exchanges views. People will be defensive, so you'll need to train your employees on how to give and receive feedback, and you'll need to have criteria that are as objective as possible.

You shouldn't be offering feedback at just one meeting once per year; rather, give it constantly. The best middle market firms have a culture where feedback is constant and continuous. Timely feedback nearer the performance review is best. Suggestions for improvement need to be specific and actionable. Results should be monitored and measured constantly. And feedback should always be about the performance and never the person. If your middle market company has a few people skilled at giving and receiving evaluations, have them train others in this important skill.

As for salary reviews, make sure your people understand how bonuses and raises are calculated. After all, how can they be motivated by a mystery? As in all processes, the more objective and understandable something is, the more people can change their own actions. Salary reviews are demotivating because they often feel like a judgment against an employee. If the criteria for a raise seem difficult to grasp, then an employee will assume getting a raise is about garnering favor with the boss rather than performing well.

Communicate the details of how people qualify for raises and bonuses. Make sure people in your company understand that it's based on merit and nothing else. If the company had a bad year, make sure employees understand that you share the pain proportionally. Let fairness, sharing and transparency be your key values, and your people will reciprocate.

The takeaway here is that annual reviews should not combine performance reviews with salary reviews. These two things are too important and too likely to get blended together in a way that diminishes the most vital goal for your middle market company: your employees' development.

Does your company have any special practices for how it presents employee feedback? Who conducts reviews, and who provides feedback? Tell us by commenting below.

Boston-based Chuck Leddy is an NCMM contributor and a freelance reporter who contributes regularly to The Boston Globe and Harvard Gazette. He also trains Fortune 500 executives in business-communication skills as an instructor for EF Education. Circle him on Google+.


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