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Gone are the days in which performance reviews and terror walked hand in hand. Companies that already embraced the future of work center review processes around People development — and not just for their employees’ benefit.

Happier, engaged employees perform better and are less likely to churn. What’s more, investing in your People’s development expands the skills they’ll bring to work. It’s a win-win. So why do performance reviews remain a touchy subject? For some specialists, direct ties to compensation may be to blame.

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Traditionally, the outcome of a performance review determined if your career and finances hung in the balance. And that’s, indeed, as crucial as it gets in a world in which not everyone can afford the same privileges. However, many forward-thinking employers are decoupling performance reviews from pay, or at least not centering appraisals around raises and promotions — the focus shifts, then, to employee development.

Separating performance reviews from remuneration may be more art than science, and the approach you’ll decide to take will communicate your company culture to current and potential employees. There isn’t one single path, and opinions are split among HR and People Ops professionals and thought leaders (not to mention workers). While organizations like automotive technology leader Lear have almost entirely steered away from a salary-performance connection, others have adopted hybrid compensation models.

This article will explore the pros and cons of linking pay to performance reviews and different ways of doing so.

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The purpose of reviews


Performance reviews aim to build up communication between managers and reports via constructive feedback, as well as foster self-reflection and identify strengths to be explored and areas for improvement.

While performance appraisals are often part of the criteria for compensation and promotion assessment, we advocate for reviews centered around development, whatever your wage structure is. This way, the process loses its finger-pointing nature. It becomes a tool to align your team, adjust expectations, and help employees understand why investing in specific development paths would be valuable (for them and your organization).

According to “The Performance Management Revolution” by Harvard Business Review, “regular conversations about performance and development change the focus to building the workforce your organization needs to be competitive both today and years from now.” As already argued, this is a mutually beneficial approach. Performance reviews shouldn’t be about blame and punishment.

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The purpose of compensation plans

Talking about the purpose of pay may seem odd — but is it, really? This questioning can help normalize discussions about money at the workplace, making your company culture more transparent. This approach could increase overall job satisfaction and empower employees who may otherwise not communicate with their managers about issues causing them to disengage.

Paying someone for their time, meeting legal requirements, and attracting and retaining talent are some of the most obvious purposes of compensation. However, we’ve had a chat with HR consultant Marie Richter, who brought attention to other objectives: “eliminating financial worry/threat for employees, showing appreciation of their work, and differentiating between responsibilities.”

On top of what we see as compensation (salary, bonuses, stock options), you may also offer indirect compensation. Pension plans, insurances, a development budget, wellness benefits, and childcare facilities are some examples.

Having a clear understanding of what compensation (direct and indirect) is and its purposes can help you shape these practices in line with your company culture. This includes recognizing the kind of relationship your organization wants to build between compensation management and employee performance.

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Pitfalls of linking compensation to performance reviews

We’ll walk you through best practices and things to watch out for.

Compensation vs. OKRs


Binding wages to OKRs isn’t a recommended practice. OKRs are meant to help your organization align behind the same vision. They should be inspiring but ambitious. As we’ve explained in our guide to setting the right Objectives and Key Results,

“100% fulfillment isn’t what you should focus on when establishing OKRs. If you’ve set the right OKRs (in a sweet spot between challenging the status quo and a ‘pie in the sky’), hitting 80% of your target should already validate your efforts and courage.”

Linking compensation to OKRs might lead your employees to feel that tasks that aren’t tied to OKRs don’t matter, limiting their vision and possibly setting them up for disappointment. This might also increase frustration and competitiveness, making you seem unfair — especially as team members often work together toward the same OKRs.

Self-assessments


Would people give their genuine opinion if they knew that how they rate themselves could negatively impact their livelihood?

Self-assessments should drive development, not fear. And even the most ethical people might see a blurred image in the mirror if their livelihood is at stake. Would they reflect upon their shortcomings and ask their manager for direction? Or would they, even if unconsciously motivated, fail to see that they’ve underperformed in a particular area?


Biases

Biases are still a reality, and to some extent, they may always be. Yet, progressive HR and People Ops professionals should still work to purge biases from their organizations.

As an illustration, employees may not give their peers honest ratings in a 360° review if they know that their department’s salary raise and promotion budget is quite limited. The opposite could also happen: peers may want their colleagues to receive wage bumps and promotions, giving them exaggerated positive reviews.

In a more subtle context, would reports be sincere when reviewing their managers? Or would they omit constructive feedback, hoping not to be punished when it’s time for their appraisal?

Finally, race bias, gender bias, ageism, affinity bias, and other forms of unconscious bias are still blatant. How they often come into play in compensation-oriented performance reviews might widen systemic wage gap issues — such as women earning less than men and BIPOC women being paid even less.

It’s not easy to admit that this might happen within the company cultures we’re trying to build. Still, not acknowledging the intricacies of interpersonal relationships and systemic issues isn’t going to make our cultures flourish.

Blame culture

Lear rolled out a new performance review program over 10 years ago. For their 115,000 employees across 36 countries (at that time), quarterly performance review sessions no longer affect pay decisions.

According to Tom DiDonato, now Lear’s SVP and Chief Administrative Officer:

“Performance reviews that are tied to compensation create a blame-oriented culture. It’s well known that they reinforce hierarchy, undermine collegiality, work against cooperative problem solving, discourage straight talk, and too easily become politicized. They’re self-defeating and demoralizing for all concerned.

Even high performers suffer because when their pay bumps up against the top of the salary range, their supervisors have to stop giving them raises, regardless of achievement.”

Pros of linking compensation to performance reviews

Tying compensation to performance reviews isn’t always a matter of choice — some organizations need to comply with board and union regulations that mandate a pay vs. performance connection. Furthermore, some companies prefer to work with incentive plans for top performers. Yet, this doesn’t mean that development can’t be the focal point of your company’s review process.

We’ve interviewed Aldo Bressan, CTO at Summa Solutions and a People Ops enthusiast. According to him, “after a performance review, there could be a salary increase (quite often there should be), but it shouldn’t be the main result of the review, much less the only one.” The CTO continues:

“If you can get reviews to be rhythmic consolidating points for a continuous, frequent conversation between your organization and the people in it, you could get better performance boosts than just relying on compensation.

That ongoing conversation would help the employee and the company to better understand the person’s values, strengths, interests, dislikes (their hindsight); the company’s objectives, needs, and challenges (the company’s foresight); and together look for the leverage points that align them.

Performance reviews are great checkpoints for that process, to see what’s working and what’s not, and to reflect on how to keep going (why not make it bidirectional? ‘How’s the company doing it in this relationship?’).”

Amelia Friedman, COO and co-founder of Hatch Apps, bets on performance rewards and sometimes cushions offers with “a lucrative bonus structure, commission pay, or other performance incentives.” According to Amelia Friedman, employees “get paid for the value they add.” This “shrinks the gap between cash going out and coming in for the company since you’re often not paying out the money until the additional revenue is banked.”

Yet, the COO advises other executives to “make sure incentives align with metrics over which the employee has control. Otherwise, you’re setting them up for a disappointment that could lead to their resignation.”

Let’s move on to the pros of tying compensation and performance reviews.

Recognition


Financial rewards for high performance is one of the ways to make employees feel valued. It conveys to your team that their efforts also impact their personal lives, and they’re not just making more profit for the company. It gives the message that you’re growing together. Moreover, companies compete for talent, and financial compensation for a job well done can improve retention.

Marie Richter believes that “compensation and performance should be inherently linked, as the exchange that takes place between an employee and a company is that their output, i.e., performance, is being compensated through either salary increases or promotions. These, in turn, impact how much an employee is paid in terms of base salary.”


Transparency


If tied to performance reviews, salary bumps and other financial compensation might be perceived as less arbitrary by your team. Additionally, it gives employees a better picture of what they need to do to earn more. This strategy requires a great degree of transparency, with clear career paths and policies.

Regardless of financial rewards for high performers, keep investing in employee development. Otherwise, you might end up primarily rewarding the most privileged (for instance, those who could pay for top professional courses) and missing out on the great potential of other team members. Employee development helps your company and is a tool toward equity. Valuable employees come from different backgrounds, and access to opportunity isn’t the same for everyone.


Setting expectations


Knowing that you’ll discuss their compensation after a performance review can help employees feel secure. Without a timeline, workers tend to feel anxious and stressed out, not knowing when and if to bring up the subject of a salary increase. Defining a time for this conversation can make your team feel more trusting of the company’s practices. You will also spare them from the challenging, nerve-wracking task of asking for a raise.

Having to raise the subject of pay revision is another reason why employees who are more reserved (or have underrepresented backgrounds and identities) sometimes become disengaged. Many people fear losing their jobs and may accept less money than their more privileged counterparts with equal skills.

If your company decides not to tie salary and performance appraisals together, make sure to communicate your remuneration model to employees. This way, they will know what to expect and won’t be left in the dark. Ideally, you will also be transparent about your compensation model during your hiring process.

Other approaches

 

As organizations shift their attention to people development, new compensation models are emerging. We’ll explore some cases.

 

Lear Corporation: a hybrid model

 

Although the company detached performance reviews and salary talks, employees still have their salaries reviewed according to promotions and changing local markets. Lear also motivates top performers with stock awards, offered to “few people every year for extraordinary technical accomplishment.”

 

GrantTree

The R&D tax consultancy firm has a unique organizational philosophy, with “no managers, no subordinates, no hierarchy of personnel.”

Most radically, everyone sets their own salary. In the past, some of the staff even decided to lower their pay. Robert Kellner, head of content at GrantTree, explains the company’s process for a pay increase (or reduction):

“Salaries are reflections of more than an employee’s development or market value. They incorporate the strength of both sides’ bargaining positions and their ability to argue their case.

GrantTree removes negotiation from the procedure and places the decision entirely on the shoulders of the partner, via a process called Pay Self-Assessment.”

GrantTree’s PSA model comprises four stages: 

  • Collection of salary and performance-relevant data;
  • Development of a salary proposal;
  • Feedback;
  • Final decision made by the partner (as the company calls its team members).

Strategies by an HR & People Ops expert

We’ve also talked to Krystall Fierens-Lee, chief people experience officer at Proxyclick:

“I’m a big believer that format follows content. So it’s important to start with what you are trying to achieve. If you want to drive individual performance, you need compensation to be a factor.

If you want collaborative, long-term retention, then a system like Lear’s might be more fitting. Most of the time, companies want a little bit of both, leading to a hybrid model. Then, one still needs to consider what defines performance for them. Is it purely results, or do behavior and values play a role?”

The executive also listed some of her strategies:

  • Running quarterly reviews to help break down recency bias on performance and shift the dialogue to development;
  • Proactively informing employees that everyone gets a compensation review and committing to making market corrections and performance-related adjustments;
  • For two of the quarterly reviews, a talent appraisal is run alongside a compensation assessment. The other quarters are purely focused on development. According to Krystall Fierens-Lee, compensation is not raised during development discussions at her company — compensation discussions are scheduled afterward;

She adds that “none of it works if you don’t trust, and the track record doesn’t support the promise. And that takes time.”

Takeaways

Your compensation practices should reflect your company culture. Whether or not you choose to associate salary talks with performance appraisals, employee development should be at the heart of the review process.

Even if performance directly affects pay in your company, these should be separate conversations. This way, the employee will be more open to feedback and have time to absorb it before talking about money.

Be as transparent as possible about your compensation models from the get-go to avoid dissatisfaction. Consider that a growing number of workers would like their employer’s salary ranges to be public, as well as information on who gets a pay bump or promotion. This strategy may or may not be your cup of tea, but reflecting upon it is a worthy exercise to understand the culture you’d like to build.

Although Marie Richter supports innovation, the HR consultant argues that “expecting a complete decoupling of performance reviews and compensation to achieve full transparency and honesty between people giving each other feedback might be idealistic. Power dynamics won’t go away purely based on that.”

She also believes that employees may not always feel comfortable with compensation based solely on local markets:

“Trusting your employer to get this right so that your constantly developing skill level is being appropriately recognized and matched against the current market rate might be tricky.

One of the main reasons why companies link performance reviews to compensation is to accomplish exactly that: establish a common understanding of the employee’s performance level through a review to then be able to compensate them fairly, according to the current market rate, but also their level of expertise and performance.” 

When deciding what works best for your company, consider your market’s reality and your ideal employee profile. And, once again, stay true to the culture you’d like to build.

Our flexible platform can help you develop an outstanding culture and People Ops processes. Our reviews can be tailored to your company’s needs, generating valuable performance data.

You can also run anonymous surveys to gather employee engagement insights — and that’s just part of what Leapsome can help you do. To learn more about our features, book a call with one of our product experts.

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