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Profit Sharing
Another type of STIP is profit sharing, where the company sets aside a percent of total profits in a fund. Each manager's share of this fund is determined by their base pay.
Profit-sharing plans focus managers on the company's bottom line. Managers are more aware of the profit margin, since they receive a piece of the pie. These plans also allow the company's compensation bill to rise in good times and shrink in bad.
Unfortunately, profit-sharing plans have drawbacks. Profitability may be achieved at the expense of quality. In addition, profits are influenced by so many variables that it may be difficult for an individual manager to feel that their contributions really impacted the organization's results.
Discretionary Bonuses
It is possible to establish a discretionary plan where the Board of Directors determines each year if a bonus will be distributed for the past year's performance. The board may also determine the payout amount. The undefined nature of this procedure reduces the motivational value of the plan and is not considered an "incentive" plan per se.
To learn more about PFPs, please see DLC Course 77: Pay-for-Performance.
Memory Jogger
Which type of variable pay plan will best motivate managers?