Adventure of Strategy

Compensation systems may be "Management 101" stuff and my apologies to anybody that feels that I am pitching too low here, but I have come across several cases recently where firms are really struggling to develop a compensation system that (1) drives their strategy, (2) keeps their star fee-earners happy and (3) is easy to administer.

There are few things more contentious than how performance is measured and rewarded amongst the owners (whatever they might be called) of a professional service firm. So firms simply avoid discussions about this like the plague until things reach boiling point. The result is that many tolerate compensation systems that are at best sub-optimal, at worst actually damaging.

Compensation systems fall along a continuum. At one extreme we have 'lockstep,' where everybody at a similar level or, at an even greater extreme, all partners earn the same. On the other we have 'eat-what-you-kill' (EWYK,) which means exactly what it says. Partners share overheads but each individual keeps the profits that she or he generates. Both have advantages and disadvantages. The "best" system varies greatly between firms with most falling somewhere between the extremes.

Lockstep is good for:

- Promoting collegiality
- Encouraging cross selling
- Institutionalizing clients so that they become the firm's rather than any individual's
- Ease of administration
- Encouraging work to be passed to the best person in the firm to do it
- Promoting teamwork
- Encouraging contribution to non-billable value added projects

EWYK is good for:

- Rewarding people directly for their individual performance and so
- Attracting the top brains that expect to be paid a premium
- Encouraging individual initiative

Hypothetically, the ideal may be a lockstep firm that is such a great place to work with such great clients, that the very best people want to work there anyway. This is why many of the top firms in the world operate a lockstep or close to it. But this only works if everybody's contribution to the firm is approximately equal. Not everybody is at the top of their game all the time. Fluctuations in performance are to be expected and accepted. But nothing annoys those that are "pulling their weight" more than subsidizing those that consistently don't. This can be through circumstance as much as through fault - it doesn't matter. Clifford Chance's decision to move off a pure worldwide lockstep recently was not, I'm sure, because the US partners felt that their colleagues in other jurisdictions were lazy. It was simply about who was making the most contribution to the firm's success and how the proceeds should be equitably distributed.

Bluntly, locksteps cannot succeed where consistently sub-standard performance is tolerated. If underperforming partners cannot improve, one way or another, then they must be separated from the firm. This truth may be unpalatable, but in our experience it is incontrovertible. Sure, firing partners harms collegiality. But not as much as where tolerating their underperformance is financed by other partners.

Performance can of course be measured in different ways for different people. Some partners may add real value in non-billable activities that are crucial to the firm's success. The question is: If one is not billing, then what is being done instead and what value is really being added? The keys are openness and transparency.

The problem with deviating from lockstep is dealing with those aspects that are to be measured and rewarded specifically. There is a delicate balance. On the one hand, performance measurement needs to be objective enough to be perceived as fair and comprehensive enough to cover all the activities and behaviors that the firm wishes to reward. On the other, it needs to be simple enough not to degenerate into an administrative nightmare.

At the other extreme, EWYK is not an excuse to ignore performance that falls below required standards either. While EWYK does allow more flexibility in required levels of output (or billability,) it does not mean sacrificing quality, client relationships or anything else that contributes the firm's overall success. This is particularly important given that EWYK cultures tend to encourage 'lone rangers' and other behaviour that does not take well to adhering to group standards.

The only way to find the right system for your firm is to have a very frank, probably uncomfortable and brutally honest discussion amongst the owners of the firm about what you are collectively trying to achieve and what you expect from each other. This has to be face to face, not in the form of documents that are circulated and circulated without the brutal realities ever really being confronted.

How one measures and rewards performance is one of the most fundamental drivers (or killers) of strategy. If the two are out of kilter, then the strategy will not be implemented. It really is as simple as that! Once brutal truths have been confronted and the expected standards agreed, though, documenting the system in an agreeable form is really quite easy.

There are compensation packages and software out there that may hold the key to some of these issues and allow businesses to align their strategic goals to their pay structure.

In particular, I worked at a company that built just such software and was working on a suite of packages to manage the process.

If you are interested in studying the matter google "enterprise incentive management" look through the various companies' white papers.

For the most part the software available would let you tailor any compromise between lockstep and EWYK you can think of.

The trick would be determining how to align incentives and pay with the strategic goals of the firm. That analysis is worth its weight in gold. I haven't found anybody who has developed a repeatable and reusable process to determine this. It is still an art.