by Robert Millard

Looking at compensation schemes in professional service firms.

One of the most contentious issues in any professional service firm, be it a law firm, accounting practice, architectural studio or consulting engineering firm, is how to equitably reward performance. Approaches between individual firms differ widely. In some, employees are compensated more or less equally depending on levels of seniority and years of service. In others, individual star performers are handsomely rewarded, while those who appear to have contributed less are penalized. In some firms, the process of determining salaries and bonuses is open and transparent. At the opposite extreme, it may be highly secretive.

Yet few things can be more destructive than a compensation system that is perceived to be unfair. Imagine if a computer 'glitch' was to lead to all members of your firm being emailed the full list of everyone's salaries, and what last year's performance bonuses were. In many firms, the consequences of such sudden transparency would be disruptive, to say the least.

People behave as they are rewarded, not as they are told. It is therefore important that a professional service firm's compensation system rewards the behaviour and actions that are required to support the firm's strategy. A good argument can be made for rewarding contribution to team efforts above individual efforts, for instance. If rugby players were rewarded primarily according to the number of tries scored, then flyhalfs would never pass the ball out to the wing. If individuals are rewarded solely for individual billing performance, then there is no incentive to pass work to colleagues that could better serve client needs. On the other hand, star performers are in high demand in the market, and the firm may have to pay such an individual a premium salary merely to retain his or her services.

Another issue deserving consideration is that of the measures that are employed to determine performance. In many firms there is only one measure: billable hours or, in other words, revenue earned. Time not spent on billed work is seen as wasted. Logical though this may appear at first glance, this is usually not in the firm's best interest. True, adequate billing is critical. It is essential to generate sufficient revenues to cover salaries and other costs, plus an appropriate profit margin. Beyond that, however, options do exist. Few firms are able to maintain a level of 100% billability anyway. Today's billing determines this year's financial results. The way in which non-billable time is spent determines how the firm will develop and grow into the future, and therefore future financial results. Non-billable time could (and should) be spent pro-actively and constructively to develop the asset base of the firm. Options include:

• Researching trends and likely future client needs and developing new services to meet these needs;
• Developing better administrative and support systems in the firm;
• Marketing aimed at securing better clients and better work in future;
• Developing the professional and technical skills of individual members of the firm;
• Training junior staff so as to be able to leverage more in future;
• Benchmarking the firm against its competitors and conducting market analysis;
• Working out ways to perform commodity assignments at lower cost to the firm.

Activities like those listed above are essential for ensuring the firm's future competitiveness. If billability or revenues earned are the only measures that are actively rewarded, though, then these other equally important activities will tend to be neglected. Firms that reward billing more highly than other obviously strategically important activities also run the risk of losing or at least demoralizing valuable support staff.

How, then, does one balance the obvious need to reward employees for revenue generation, as well as for less obvious, asset-building activities?

One way is to place the same value on hours spent on approved non-billable asset-building activities, as on time billed to clients. The value of a proposed asset-building project can usually be estimated quite accurately, and then an appropriate number of hours allocated to it. Time spent on such approved projects would then be reflected on time sheets as value-added, rather than simply regarded as wasted.

If the firm's particular circumstances are such that individual rather than group performance should be rewarded, then there are many other easily measurable metrics that can also be used, besides billable hours. These include:

• Project or assignment revenues managed (i.e earned by subordinates);
• Revenue introduced by the individual, irrespective of who does the actual work;
• Number of articles written, or books published;
• Academic or professional advancement.

There are also less easily measured metrics that are at least as important. Usually, the only way of measuring these is to consult clients and colleagues, or conduct a formal peer review. They include:

• Client satisfaction with the individual's performance;
• Professional respect and value of the individual by his or her colleagues;
• Standing of the individual in his or her profession or the community;
• Perceived contribution to his or her work group or team.

In cases where individual performance is deliberately rewarded above group, it is essential that the manner in which individuals are measured be unambiguous and objective. Otherwise, contention could easily arise if an individual feels that he or she has been undervalued relative to his or her peers. It would also be quite reasonable to have different measurables for different posts in the firm, as different staff components have different roles to play in achieving the firm's strategy.

Ultimately, the key is to ensure that the behaviour and the activities that need to be performed well in order to achieve the firm's strategy are identified and understood, and that the firm's compensation system rewards that behaviour and those activities.

All the above also holds good for the manner in which profits are apportioned between partners.

Robert Millard has been a Partner in Edge International since 2003