Right now, believe it or not, is a good time to evaluate your incentive plan and redo it if necessary. The reason is simple. The economy is in turmoil, with plenty of companies facing unprecedented challenges. Now more than ever, you need to attract and keep good people and get everyone focused on business results. An effective incentive plan helps you accomplish both objectives.

Trouble is, most incentive plans don't do the work they should. Some aren't transparent, meaning that employees cross their fingers for a bonus but don't see how to generate one. Some aren't tied to business performance, so owners wind up rewarding employees without seeing improved financial results. We've evaluated hundreds of such plans, and we've seen the same mistakes crop up again and again.

Mistake No. 1 is offering a bonus for business as usual. That's an appropriate role for annual profit sharing--it's always good to give everyone a stake in the company's success. But an incentive plan should do exactly what it says: give people an incentive to do things differently. If employees don't change how they operate--communicating better, working smarter, coming up with new ideas--you're unlikely to see a change in results. An incentive plan should give people something to reach for, and the payout should be worth the extra effort. 

Mistake No. 2 is paying for something that doesn't generate profit. We've seen companies pay bonuses on variables like increased quality, higher sales, better on-time performance, and so on, even when those improvements don't deliver better financial results. So base your incentive plan on something that links directly to the financials, such as gross profit or billable hours per employee. If the payout is tied to this number, you won't run into a problem with funding the plan. Better yet, your team will soon start paying attention to the key number. They'll learn how their everyday decisions affect it.

Mistake No. 3: paying bonuses on individual performance. Individual performance is hard to track, and rewarding it can be counterproductive. Say your marketers generate lots of leads. If those leads never translate into sales, then why are you paying your top marketers a bonus? Sustained success in business depends on everyone working toward the same goal and then sharing in the same reward.

Mistake No. 4, finally, is a lack of transparency. Once you've determined the formula for the bonus, anyone in the company should be able to tell you the key performance metric and the possible payouts. They should be able to tell you how the company is doing that month in regard to the goal.

Boardman, a custom steel fabricator based in Oklahoma City, put together just this kind of plan a few years ago. The key metric was job margin dollars per month, a measure of gross profit per project. People put their energy toward improvements like reducing rework, thereby boosting the number of jobs they could handle in an average month--a figure that was tracked on their scoreboard every week. By year's end, job margin dollars had increased more than 3,000 percent. Employees pocketed 18 weeks' worth of bonus pay, and got to work setting higher targets for the months ahead.

A healthy incentive plan doesn't only mean better near-term profits. It should naturally foster transparency and employee engagement. That way, your company becomes more valuable to prospective customers, investors, and employees alike--something like a win-win-win.