Analysis drives Performance
Bonus targets can misdirect. Relative performance motivates in every situation.

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Obermatt CEO Hermann Stern on more pay and more orientation towards the future


Entrepreneur and former public company CEO Douglas Günthardt speaks with Hermann J. Stern on relative performance measurement and management compensation. The exchange contains encouraging words, new insights and constructive criticism on the topic of promoting relative short and long-term executive compensation.

It covers the use of relative profit, relative growth, relative shareholder returns and - with a perspective on what’s to come soon - environment, social and governance performance compensation, the so called ESG bonuses.

Douglas doesn’t stop short on the question of how you can make executives want relative performance measurement. “It pays more” is Hermann’s simple yet often neglected answer. Most executives are overconfident, rendering their own targets excessively high and their variable pay below what they would be getting if their performance were compared relative to peers.

Outperformers such as SIKA were the first to understand this, now a well documented case study available for download.

Growth incentives with market comparison

Successful investor and Financial Times columnist Andrew Smithers in London believes that profit-focused companies save too much and neglect growth. This is understandable, as it is much easier to increase profits in the short term by saving costs than by increasing sales or investing. As a result, profit-sharing schemes lead to the exact opposite of what is desired, namely to the reduction rather than the increase of profits.

An example of this: If I sell an apple with a 10% return and an orange with a 20% return, then my total return is 15%. I can now increase this return to 20% with the simple measure of not selling the apple anymore. A prescription for shrinkage. ROI, ROCE, RONOA, Economic Profit Return and EPS are key figures that reward shrinkage: You save yourself sick.

The Obermatt Bonus Index motivates growth because growth incentives are a central part of the Bonus Index incentive system.

In Switzerland, it has been proven that companies using growth incentives such as the Obermatt Bonus Index grow more than three times faster than companies that limit themselves to profit metrics such as ROI, ROCE, RONOA or EPS. In addition, the stock return is five percentage points higher for companies using growth incentives. Go to the article in the NZZ am Sonntag. More on the topic of "Incentive Reduction" and a recent article in the NZZ (all in German).

Simplest method - measure it like in sports

The Obermatt Bonus Index assesses performance using the ranking method of indexed performance measurement. The higher the company's rank compared to its peers, the higher the compensation. It's that simple. And on average, it pays out 100% of market compensation - no more, no less. This is another advantage of indexed compensation compared to goal-based methods. Because people often overestimate themselves, targets tend to be more demanding than they are meant to be. The result: although people expect more than 100%, they often get less than expected. With the Obermatt Bonus Index, you get 100% of the agreed salary in the long run, which we have seen time and again with our clients.

Stability and acceptance

Companies that have been using the Obermatt Bonus Index for many years, report three key benefits:

  1. Stable payouts: Payments are largely stable over the years because the indexed performance fluctuates less than previous year, budget or target comparisons.
  2. No sandbagging: Sandbagging in target setting and budgeting processes stops because compensation is no longer linked to it.
  3. Greater acceptance: Remuneration results are met with greater understanding internally because they are not dependent on subjective target negotiations and can therefore be better represented externally.

The Obermatt Bonus Index puts an end to the bonus debate, as executives receive stable payouts and shareholders are more likely to accept these payments. In fact, key stockholders' representatives, known as proxy advisers, explicitly use the indexed operating performance measurement on which the Obermatt Bonus Index is based to assess the appropriateness of executive compensation.

Why are the bonus debates stopped? Because of the characteristics of indexed performance measurement: payouts are stable, performance measurement is transparent and compensation levels are in line with expectations, because gut instinct always thinks relative. Managers want stable pay that is in line with the market, and shareholders want performance transparency. The Obermatt Bonus Index delivers both simply and sustainably.

These benefits lead to more satisfied employees and neutralize the biggest mistakes of goal- and budget-based compensation procedures. Watch the videos of the compensation trilogy and see how you can increase the acceptance of your compensation system with simple measures. There are also other benefits of indexed compensation.

 

Understanding the Bonus Index

Obermatt CEO Hermann Stern explains the concept of the Bonus Index in detail in this article. He shows how indexing performance neutralizes distortions from economic cycles and other external factors in performance measurement, making executive bonus payments stable despite fat tail distributions in financial metrics. The author believes that independent indexing, such as the Obermatt Bonus Index, ends of the current bonus debates because executives receive stable, market typical compensation which are entirely transparent to shareholders. Download the Article from SSRN