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Figure 1: Performance meeting (Credit: home thods/ flickr/ Attribution 2.0 Generic (CC BY 2.0))

Learning Outcomes

After reading this chapter, you should be able to answer these questions:

  1. How do organizations effectively use performance appraisals to improve individual job performance, and what are the limitations inherent in the use of various appraisal systems?
  2. What practices are used in the performance appraisal process?
  3. How do managers give effective feedback to subordinates?
  4. How do organizations choose the best appraisal system for their organization?
  5. How do managers and organizations use incentives and rewards effectively to secure the best possible performance from employees?

Case Study


Two Performance Appraisal Interviews

“Janet, thanks for coming in. As you know, it’s that time of year again. I’ve been going over this performance appraisal form and have written in my evaluation. I’d like you to look it over and then sign it.”

Janet looked over her ratings, which were nearly all in the “satisfactory” range. Even the category of dependability was marked “satisfactory”; yet, it was Janet who came in on three different occasions to cover for workers in her group who were absent for one reason or another. Janet mentioned this issue to her boss, Ken.

“Well, Janet, you’re right and that’s exactly what I expect of my employees. You know this is your first year here and you can’t expect to reach the top in one jump. But I like your style and if you keep it up, who knows how far you’ll go.”

Twenty-four minutes after the interview began, Janet left, bewildered and disappointed. She had worked hard during her first year; in fact, she had gone the extra mile on a few occasions, and now she was more confused than ever about what was expected of her and what constituted good performance. “Maybe it just doesn’t pay to work hard.”

Two weeks before their scheduled interview, Mary asked Ron to review his goals and accomplishments for the last six months and to note any major changes in his job that had taken place during that period. In the meantime, Mary pulled out the file in which she had periodically recorded both positive and negative specific incidents over the last six months concerning Ron’s performance. She also reviewed the goals they had jointly set at the end of the last review and thought carefully about not only the possible goals for the next six months but longer-term development needs and goals that might be appropriate for Ron.

On the day of the interview, both Mary and Ron came well prepared to review the past six months as well as to think about and plan for the next performance period and beyond. The interview took nearly two hours. After candidly discussing Ron’s past performance and the extent to which both sides felt he had or had not accomplished the goals for that period, they began to focus on what should be accomplished in the future. The discussion caused both sides to make changes in their original evaluations and ideas about targets for the future. When it was over, Ron left more motivated than before and confident that even though he had areas in which he could improve, he had a bright future ahead of him if he continued to be motivated and work hard.

Performance Appraisal Systems

  1. How do organizations effectively use performance appraisals to improve individual job performance, and what are the limitations inherent in the use of various appraisal systems?

Performance appraisals are one of the most important and often one of the most mishandled aspects of management. Typically, we think of performance appraisals as involving a boss evaluating a subordinate. However, performance appraisals increasingly involve subordinates appraising bosses through a feedback process known as 360 feedback,1 customers appraising providers, and peers evaluating coworkers.

Whether appraisals are done by subordinates, peers, customers, or superiors, the process itself is vital to the lifeblood of the organization. Performance appraisal systems provide a means of systematically evaluating employees across various performance dimensions to ensure that organizations are getting what they pay for. They provide valuable feedback to employees and managers, and they assist in identifying promotable people as well as problems. However, such appraisals are meaningless unless they are accompanied by an effective feedback system that ensures that the employee gets the right messages concerning performance.

Reward systems represent a powerful motivational force in organizations, but this is true only when the system is fair and tied to performance. Because a variety of approaches to appraising performance exists, managers should be aware of the advantages and disadvantages of each. In turn, an understanding of reward systems will help managers select the system best suited to the needs and goals of the organization.

Performance appraisal systems serve a variety of functions of central importance to employees. Appraisal techniques practiced today are not without problems, though. Managers should keep abreast of recent developments in compensation and reward systems so they can modify existing systems when more appropriate alternatives become available.

A key management responsibility has always been to oversee and develop subordinates. In fact, it has been said that every manager is a human resource manager. Nowhere is this truer than with regard to evaluating and rewarding subordinates. Managers are consistently involved with employee training and development, monitoring employee performance, providing job-related feedback, and administering rewards.

In this chapter, we examine three interrelated aspects of the performance appraisal and reward process. As Figure 2 shows, this process moves from evaluating employee performance to providing adequate and constructive feedback to determining discretionary rewards. Where effort and performance are properly evaluated and rewarded, we would expect to see more stable and consistent job performance. On the other hand, where such performance is only evaluated intermittently or where the appraisal and review process is poorly done, we would generally see less consistent performance. We begin our discussion with a look at the nature of appraisals.

We begin by examining three aspects of performance appraisal systems: (1) the uses of performance appraisals, (2) problems found in performance appraisals, and (3) methods for reducing errors in the appraisal system. This overview will provide a foundation for studying specific techniques of performance appraisal. Those interested in more detailed information on performance appraisal systems may wish to consult books on personnel administration or compensation.

A diagram illustrates the positive and negative consequences of performance appraisal and reward process.
Figure 2 The Performance Appraisal and Reward Process(Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)

Uses of Performance Appraisals

In most work organizations, performance appraisals are used for a variety of reasons. These reasons range from improving employee productivity to developing the employees themselves. This diversity of uses is well documented in a study of why companies use performance appraisals.2Traditionally, compensation and performance feedback have been the most prominent reasons organizations use performance appraisals.

Feedback to employees. Performance appraisals provide feedback to employees about quantity and quality of job performance. Without this information, employees have little knowledge of how well they are doing their jobs and how they might improve their work.

Self-development. Performance appraisals can also serve as an aid to employee self-development. Individuals learn about their strengths and weaknesses as seen by others and can initiate self-improvement programs (see discussion on behavioral self-management programs).

Reward systems. In addition, appraisals may form the bases of organizational reward systems—particularly merit-based compensation plans.

Personnel decisions. Performance appraisals serve personnel-related functions as well. In making personnel decisions, such as those relating to promotions, transfers, and terminations, they can be quite useful. Employers can make choices on the basis of information about individual talents and shortcomings. In addition, appraisal systems help management evaluate the effectiveness of its selection and placement functions. If newly hired employees generally perform poorly, managers should consider whether the right kind of people are being hired in the first place.

Training and development. Finally, appraisals can help managers identify areas in which employees lack critical skills for either immediate or future performance. In these situations, new or revised training programs can be established to further develop the company’s human resources.

It is apparent that performance appraisal systems serve a variety of functions in organizations. In light of the importance of these functions, it is imperative that the accuracy and fairness of the appraisal be paramount considerations in the evaluation of a system. Many performance appraisal systems exist. It is the manager’s job to select the technique or combination of techniques that best serves the particular needs (and constraints) of the organization. Before considering these various techniques, let us look at some of the more prominent problems and sources of error that are common to several of them.

Problems with Performance Appraisals

A number of problems can be identified that pose a threat to the value of appraisal techniques. Most of these problems deal with the related issues of the validity and reliability of the instruments or techniques themselves. Validity is the extent to which an instrument actually measures what it intends to measure, whereas reliability is the extent to which the instrument consistently yields the same results each time it is used. Ideally, a good performance appraisal system will exhibit high levels of both validity and reliability. If not, serious questions must be raised concerning the utility (and possibly the legality) of the system.

It is possible to identify several common sources of error in performance appraisal systems. These include: (1) central tendency error, (2) strictness or leniency error, (3) halo effect, (4) recency error, and (5) personal biases.

Central Tendency Error. It has often been found that supervisors rate most of their employees within a narrow range. Regardless of how people actually perform, the rater fails to distinguish significant differences among group members and lumps everyone together in an “average” category. This is called central tendency error and is shown in Figure 3. In short, the central tendency error is the failure to recognize either very good or very poor performers.

A graph plots strictness, central tendency, and leniency as parabolic curves.
Figure 3 Examples of Strictness, Central Tendency, and Leniency Errors (Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)

Strictness or Leniency Error. A related rating problem exists when a supervisor is overly strict or overly lenient in evaluations (see Figure 3). In college classrooms, we hear of professors who are “tough graders” or, conversely, “easy A’s.” Similar situations exist in the workplace, where some supervisors see most subordinates as not measuring up to their high standards, whereas other supervisors see most subordinates as deserving of a high rating. As with central tendency error, strictness error and leniency error fail to distinguish adequately between good and bad performers and instead relegate almost everyone to the same or related categories.

Halo Effect. The halo effect exists where a supervisor assigns the same rating to each factor being evaluated for an individual. For example, an employee rated above average on quantity of performance may also be rated above average on quality of performance, interpersonal competence, attendance, and promotion readiness. In other words, the supervisor cannot effectively differentiate between relatively discrete categories and instead gives a global rating.

These types of bias are based on our perceptions of others. The halo effect occurs when managers have an overly positive view of a particular employee. This can impact the objectivity of reviews, with managers consistently giving an employee high ratings and failing to recognize areas for improvement.

Whether positive or negative, we also have a natural tendency to confirm our preconceived beliefs about people in the way we interpret or recall performance, which is known as confirmatory bias.

For example, a manager may have a preconception that her male report is more assertive. This could cause her to recall instances more easily in which her report asserted his position during a meeting. On the other hand, she may perceive her female report to be less assertive, predisposing her to forget when the report suggested an effective strategy or was successful in a tough negotiation.

The halo effect is often a consequence of people having a similarity bias for certain types of people. We naturally tend to favor and trust people who are similar to us. Whether it’s people who also have a penchant for golf or people who remind us of a younger version of ourselves, favoritism that results from a similarity bias can give certain employees an unfair advantage over others. This can impact a team to the point that those employees may receive more coaching, better reviews and, as a result, more opportunities for advancement.3

Recency Error. Oftentimes evaluators focus on an employee’s most recent behavior in the evaluation process. This is known as the recency error. That is, in an annual evaluation, a supervisor may give undue emphasis to performance during the past months—or even weeks—and ignore performance levels prior to this. This practice, if known to employees, leads to a situation where employees may “float” for the initial months of the evaluation period and then overexert themselves in the last few months or weeks prior to evaluation. This practice leads to uneven performance and contributes to the attitude of “playing the game.”

Personal Biases. Finally, it is not uncommon to find situations in which supervisors allow their own personal biases to influence their appraisals. Such biases include like or dislike for someone, as well as racial and sexual biases. Personal biases can interfere with the fairness and accuracy of an evaluation and are illegal in many situations.

Reducing Errors in Performance Appraisals

A number of suggestions have been advanced recently to minimize the effects of various biases and errors on the performance appraisal process.4 When errors are reduced, more accurate information is available for personnel decisions and personal development. These methods for reducing error include

  • ensuring that each dimension or factor on a performance appraisal form represents a single job activity instead of a group of job activities.
  • avoiding terms such as average, because different evaluators define the term differently.
  • ensuring that raters observe subordinates on a regular basis throughout the evaluation period. It is even helpful if the rater takes notes for future reference.
  • keeping the number of persons evaluated by one rater to a reasonable number. When one person must evaluate many subordinates, it becomes difficult to discriminate. Rating fatigue increases with the number of ratees.
  • ensuring that the dimensions used are clearly stated, meaningful, and relevant to good job performance.
  • training raters so they can recognize various sources of error and understand the rationale underlying the evaluation process.

Using mechanisms like these, better employee ratings that can have greater meaning both for the individual employee and the organization will result.


  1. What are performance appraisals, and how are they used in organizations?
  2. How are performance appraisals used as a reward system, and what problems can they cause?



  1. What types of feedback do performance appraisals provide to all organization members?


Reward Systems in Organizations

  1. How do organizations choose the best appraisal system for their organization?

After a company has designed and implemented a systematic performance appraisal system and provided adequate feedback to employees, the next step is to consider how to tie available corporate rewards to the outcomes of the appraisal. Behavioral research consistently demonstrates that performance levels are highest when rewards are contingent upon performance. Thus, in this section, we will examine five aspects of reward systems in organizations: (1) functions served by reward systems, (2) bases for reward distribution, (3) intrinsic versus extrinsic rewards, (4) the relationship between money and motivation and, finally, (5) pay secrecy.

Functions of Reward Systems

Reward systems in organizations are used for a variety of reasons. It is generally agreed that reward systems influence the following:

  • Job effort and performance. Following expectancy theory, employees’ effort and performance would be expected to increase when they felt that rewards were contingent upon good performance. Hence, reward systems serve a very basic motivational function.
  • Attendance and retention. Reward systems have also been shown to influence an employee’s decision to come to work or to remain with the organization. This was discussed in the previous chapter.
  • Employee commitment to the organization. It has been found that reward systems in no small way influence employee commitment to the organization, primarily through the exchange process.9 That is, employees develop ties with organizations when they perceive that the organization is interested in their welfare and willing to protect their interests. This exchange process is shown in Figure 6 To the extent that employee needs and goals are met by the company, we would expect commitment to increase.
  • Job satisfaction. Job satisfaction has also been shown to be related to rewards, as discussed in the previous chapter. Edward E. Lawler, a well-known researcher on employee compensation, has identified four conclusions concerning the relationship between rewards and satisfaction: (1) satisfaction with a reward is a function of both how much is received and how much the individual feels should have been received; (2) satisfaction is influenced by comparisons with what happens to others, especially one’s coworkers; (3) people differ with respect to the rewards they value; and (4) some rewards are satisfying because they lead to other rewards.10
  • Occupational and organizational choice. Finally, the selection of an occupation by an individual, as well as the decision to join a particular organization within that occupation, are influenced by the rewards that are thought to be available in the occupation or organization. To prove this, simply look at the classified section of your local newspaper and notice how many jobs highlight beginning salaries.
A diagram illustrates the exchange process between employee and organization.
Figure 6 The Exchange Process Between Employee and Organization (Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)

Reward systems in organizations have far-reaching consequences for both individual satisfaction and organizational effectiveness. Unfortunately, cases can easily be cited where reward systems have been distorted to punish good performance or inhibit creativity. Consider, for example, the Greyhound Bus Company driver who was suspended for 10 days without pay for breaking a company rule against using a CB radio on his bus. The bus driver had used the radio to alert police that his bus, with 32 passengers on board, was being hijacked by an armed man. The police arrested the hijacker, and the bus driver was suspended for breaking company rules.11Such incidents hardly encourage employees to focus their efforts on responsible performance.

Bases for Reward Distribution

A common reality in many contemporary work organizations is the inequity that exists in the distribution of available rewards. One often sees little correlation between those who perform well and those who receive the greatest rewards. At the extreme, it is hard to understand how a company could pay its president $10 to $20 million per year (as many large corporations do) while it pays its secretaries and clerks less than $15,000. Each works approximately 40 hours per week, and both are important for organizational performance. Is it really possible that the president is 1,000 times more important than the secretary, as the salary differential suggests?

How do organizations decide on the distribution of available rewards? At least four mechanisms can be identified. In more cases than we choose to admit, rewards go to those with the greatest power (either market power or personal power). In many of the corporations whose presidents earn eight-figure incomes, we find that these same people are either major shareholders in the company or have certain abilities, connections, or status that the company wants. Indeed, a threat of resignation from an important or high-performing executive often leads to increased rewards.

A second possible basis for reward distribution is equality. Here, all individuals within one job classification would receive the same, or at least similar, rewards. The most common example here can be found among unionized workers, where pay rates are established and standardized with little or no reference to actual performance level. Instead of ability or performance, these systems usually recognize seniority as the key factor in pay raises or promotions.

A screenshot shows a handwritten text reading the important points for a team-based review.
Figure 7 Team Based Rewards Performance appraisals, whether team or individual, provide feedback to workers or organizational teams. Traditionally, performance evaluations provide information to help improve individual performance, increase efficiency and define management’s expectations. Performance appraisals compare work performed against measurable objectives that the employee and supervisor agreed to at the beginning of the appraisal period. As work has become more team oriented, performance appraisals now measure how a team of workers perform rather than just how an individual performs his job. (Attribution; Deb Nystrom/ flickr/ Attribution 2.0 Generic (CC BY 2.0))

The basis for the social welfare reward system in this country is need. In large part, the greater the need, the greater the level of support. It is not uncommon to see situations in business firms where need is taken into account in layoff situations—where an employee is not laid off because she is the sole support of a family.

A fourth mechanism used by organizations in allocating rewards is distributive justice. Under this approach, employees receive (at least a portion of) their rewards as a function of their level of contribution to the organization. The greater the contribution (such as performance), the greater the reward. This mechanism is most prominent in merit-based incentive programs, where pay and bonuses are determined by performance levels.

Extrinsic and Intrinsic Rewards

The variety of rewards that employees can receive in exchange for their contributions of time and effort can be classified as either extrinsic or intrinsic rewards. Extrinsic rewards are external to the work itself. They are administered externally—that is, by someone else (usually management). Examples of extrinsic rewards include wages and salary, fringe benefits, promotions, and recognition and praise from others.

On the other hand, intrinsic rewards represent those rewards that are related directly to performing the job. In this sense, they are often described as “self-administered” rewards, because engaging in the task itself leads to their receipt. Examples of intrinsic rewards include feelings of task accomplishment, autonomy, and personal growth and development that come from the job.

In the literature on employee motivation, there is considerable controversy concerning the possible interrelationship of these two kinds of reward. It has been argued (with some research support) that extrinsic rewards tend to drive out the positive effects of some intrinsic rewards and can lead to unethical behavior.12 Consider, for example, the child next door who begs you to let her help you wash your car. For a young child, this task can carry considerable excitement (and intrinsic motivation). Now, consider what happens on a Saturday afternoon when you need your car washed but the child has other options. What do you do? You offer to pay her this time to help wash your car. What do you think will happen the next time you ask the neighbor to help you wash the car for free? In other words, when extrinsic rewards such as pay are tied closely to performance (called performance-reward contingency), intrinsic motivation—the desire to do a task because you enjoy it—can decrease.

Also, it is important to keep in mind that because extrinsic rewards are administered by sources external to the individual, their effectiveness rests on accurate and fair monitoring, evaluating, and administration. Implementation can be expensive, and the timing of performance and rewards may not always be close. For example, you may perform well on a task, but unless there is a way for that to be noticed, evaluated, recorded, and rewarded within a reasonable time frame, an extrinsic reward may not have a significant impact. Intrinsic rewards are a function of self-monitoring, evaluation, and administration; consequently, these rewards often are less costly and more effectively administered. For example, even if no one else notices or rewards you for superior performance on a task, you can still reward yourself with a mental pat on the back for a job well done or a sense of satisfaction for overcoming a challenge. The implications of this finding will become apparent when exploring efforts to enrich employees’ jobs.

Money and Motivation: A Closer Look

A recurring debate among managers focuses on the issue of whether money is a primary motivator. Some argue that most behavior in organizational settings is motivated by money (or at least monetary factors), whereas others argue that money is only one of many factors that motivate performance. Whichever group is correct, we must recognize that money can have important motivational consequences for many people in many situations. In fact, money serves several important functions in work settings.13 These include serving as (1) a goal or incentive, (2) a source of satisfaction, (3) an instrument for gaining other desired outcomes, (4) a standard of comparison for determining relative standing or worth, and (5) a conditional reinforcer where its receipt is contingent upon a certain level of performance. Even so, experience tells us that the effectiveness of pay as a motivator varies considerably. Sometimes there seems to be an almost direct relationship between pay and effort, whereas at other times no such relationship is found. Why? Lawler suggests that certain conditions must be present in order for pay to act as a strong motivator:14

  • Trust levels between managers and subordinates must be high.
  • Individual performance must be able to be accurately measured.
  • Pay rewards to high performers must be substantially higher than those to poor performers.
  • Few, if any, negative consequences for good performance must be perceived.

Under these conditions, a climate or culture is created in which employees have reason to believe that significant performance-reward contingencies truly exist. Given this perception (and assuming the reward is valued), we would expect performance to be increased.15

Pay Secrecy

Secrecy about pay rates seems to be a widely accepted practice in work organizations, particularly among managerial personnel. It is argued that salary is a personal matter and we should not invade another’s privacy. Available evidence, however, suggests that pay secrecy may have several negative side effects. To begin, it has been consistently found that in the absence of actual knowledge, people have a tendency to overestimate the pay of coworkers and those above them in the hierarchy. As a result, much of the motivational potential of a differential reward system is lost.16 Even if an employee receives a relatively sizable salary increase, she may still perceive an inequity compared to what others are receiving. This problem is highlighted in the results of a study by Lawler. In considering the effects of pay secrecy on motivation, Lawler noted:

Almost regardless of how well the individual manager was performing, he felt he was getting less than the average raise. This problem was particularly severe among high performers, since they believed that they were doing well yet received minimal reward. They did not believe that pay was in fact based upon merit. This was ironic, since their pay did reflect performance. . . . Thus, even though pay was tied to performance, these managers were not motivated because they could not see the connection.17

Pay secrecy also affects motivation via feedback. Several studies have shown the value of feedback in motivating performance (see previous discussion). The problem is that for managers, money represents one of the most meaningful forms of feedback. Pay secrecy eliminates the feedback.

When salary information is open (or at least when the range of percentage increases within a job classification are made known to the people in that group), employees are generally provided with more recognition for satisfactory performance and are often more motivated to perform on subsequent tasks. It is easier to establish feelings of pay equity and trust in the salary administration system. On the other hand, publicizing pay rates and pay raises can cause jealousy among employees and create pressures on managers to reduce perceived inequities in the system. There is no correct position concerning whether pay rates should be secret or open. The point is that managers should not assume a priori that pay secrecy—or pay openness—is a good thing. Instead, careful consideration should be given to the possible consequences of either approach in view of the particular situation in the organization at the time.


  1. What is the best appraisal system for organizations to adopt?
  2. How are rewards tied to performance appraisals?

Individual and Group Incentive Plans

  1. How do managers and organizations use incentives and rewards effectively to secure the best possible performance from employees?

We now turn to an examination of various employee incentive programs used by organizations. First, we consider the relative merits of individuals versus group incentive programs. Next, we focus on several relatively new approaches to motivation and compensation. Finally, we suggest several guidelines for effective incentive systems.

Individual versus Group Incentives

Companies usually have choices among various compensation plans and must make decisions about which is most effective for its situation. Incentive systems in organizations are usually divided into two categories on the basis of whether the unit of analysis—and the recipient of the reward—is the individual or a group. Among individual incentive plans, several approaches can be identified, including merit-based compensation (commonly known as merit compensation), piece-rate incentive programs (where people are paid according to the quantity of output), bonus systems of various sorts, and commissions. In each case, rewards are tied fairly directly to the performance level of the individual.

Although individual incentive systems often lead to improved performance, some reservations have been noted. In particular, these programs may at times lead to employees competing with one another, with undesirable results. For instance, department store salespeople on commission may fight over customers, thereby chasing the customers away. After all, customers don’t care who they deal with, only that the service is good. Second, these plans typically are resisted by unions, which prefer compensation to be based on seniority or job classification. Third, where quality control systems are lax, individual incentives such as piece rates may lead employees to maximize units of output while sacrificing quality. And, finally, in order for these programs to be successful, an atmosphere of trust and cooperation is necessary.

In order to overcome some of these shortcomings, many companies have turned to group or organizational incentive plans. Group incentive programs base at least some of an employee’s rewards on group or organization performance. Hence, employees are encouraged to cooperate with one another and with the corporation so that all employees can benefit. Programs such as profit-sharing or gain-sharing plans (discussed below) are designed to tie the employees’ future rewards and prosperity to that of the company and reduce the age-old antagonism between the two. The results are often dramatic.

Creative Pay Practices

Recently, we have seen several innovations in the way corporations approach reward systems. These efforts are designed to facilitate the integration of employee and company interests in a way that maximizes both productivity and quality of working life. Five such creative pay practices should be noted: (1) gain-sharing plans, (2) skills-based incentives, (3) lump-sum pay increases, (4) participative pay decisions, and (5) flexible benefits programs. These approaches, along with their major advantages and drawbacks, are summarized in Table 7.

Advantages and Disadvantages of New Pay Practices
Pay Practice Advantages Disadvantages
Gain sharing Ties pay to performance; encourages group cooperation Plans that focus exclusively on productivity may lead employees to ignore other important objectives, such as quality.
Skills-based incentives More flexible and skilled workforce; increased satisfaction Higher training and salary costs
Lump-sum increase Greater visibility of pay increases; increased pay satisfaction Cost of administration
Participative pay decisions Increased trust in a satisfaction with pay decisions; better pay decisions Time-consuming
Flexible benefits Increased satisfaction with pay and benefits Cost of administration
Table 7 (Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)

Gain-Sharing Plans. Giving executives and senior managers bonuses to reflect their contributions to organizational effectiveness is commonplace. In fact, in some companies executive bonuses are often larger than salaries. Recently, companies have increasingly applied this same principle to all employees in the form of gain-sharing (profit-sharing) plans. Here, employees are given a chance to share in corporate productivity gains through increased earnings. The greater the productivity gains, the greater the earnings. Several variations on this theme can be found, including the Scanlon Plan, IMPROSHARE, the Ruker Plan, and the Lincoln Electric Plan. Regardless of the title, the basic plan is similar.

For example, under the Scanlon Plan (probably the oldest such program), three operating guidelines are used: (1) each department or division is treated as a business unit for purposes of performance measurement, (2) specific cost measures associated with the production process are identified and agreed to by all parties, and (3) bonuses are paid to all employees according to a predetermined formula tying the amount of the bonus to the actual cost savings realized during the time period. Under such a plan, it is clearly in the employees’ best interest to contribute to cost savings, thereby increasing their own incomes.


Providing Feedback in Different Countries

Global workplaces are increasing within the world businesses, and it has become a trend to have managers from one country, most likely the country in which the headquarters arise, manage employees abroad. An important consideration when managing globally is how cultural differences can have a profound effect on performance evaluations, negotiations, and criticisms.

For example, oftentimes in the United States, a method of critical feedback in the “hamburger method” (Step 1: Identify tasks. As a group, identify technical steps that would be involved in implementing. Step 2: Identify options for tasks. Split the team into several small groups. Step 3: Combine results.) is acceptable, while other countries give their feedback with just the meal alone. This strategy in the Netherlands and Germany can be off-putting to other cultures, and when you read into another culture’s technique with your own lens of reference, it can feel wrong.

Managing globally means that you need to do your research on which approach for feedback is best received for the employee’s cultural differences. For example, being direct is key when communicating with a Dutch person. In contrast, in England or the United States, criticism is not delivered directly, but with positive pieces wrapped around the negative. In Asian countries, feedback is often avoided or the message is blurred in order to “save face.” With all of these complications and considerations, it is ever more important to acutely understand the culture, the cultural understandings of employees who are direct reports, and also the lens through which feedback is being viewed as well.


  1. How can a new manager that is working with international employees ensure she is providing reviews in an appropriate manner?
  2. What methods can a manager employ in her preparation for the review to be successful when providing feedback to employees of different cultures?


Skills-Based Incentives. Typical compensation programs are tied to job evaluations. In these, jobs are analyzed to assess their characteristics, and then salary levels are assigned to each job on the basis of factors such as job difficulty and labor market scarcity. In other words, pay levels are set on the basis of the job, not the individual. This approach fails to encourage employees to improve their skills on the job, because there is no reward for the improvement. This thinking also keeps all employees in their places and minimizes the possibility of inter-job transfers.

Under the skills-based incentive program, employees are paid according to their skills level (that is, the number of jobs they can perform), regardless of the actual tasks they are allowed to perform. This approach has proved successful in organizations such as Procter & Gamble and General Foods. Employees are encouraged to learn additional skills and are appropriately rewarded. The organization is provided with a more highly trained and more flexible workforce. However, training and compensation costs are necessarily increased, so the program is appropriate only in some situations. The technique is most often seen as part of a larger quality-of-working-life program, where it is associated with job redesign efforts.

Lump-Sum Pay Increases. Another technique that has received some attention is to allow employees to decide how (that is, in what amounts) they wish to receive their pay raises for the coming year. Under the traditional program, pay raises are paid in equal amounts in each paycheck over the year. Under the alternate plan, employees can elect to receive equal amounts during the year, or they can choose to take the entire raise in one lump-sum pay increase. This plan allows employees greater discretion over their own financial matters. If an employee wants to use the entire pay raise for a vacation, it can be paid in a lump sum in June. Then, if the employee quits before the end of the year, the unearned part of the pay raise is subtracted from the final paycheck. This plan increases the visibility of the reward to the employee. The employee receives, for example, a $600 pay raise (a rather sizable amount) instead of twelve $50 monthly pay raises. As with the flexible rewards system discussed below, however, the administration costs of the lump-sum plan are greater than those of the traditional method.

Participative Pay Decisions. In addition, of concern to many managers is the extent to which employees should be involved in decisions over pay raises. This is the issue of participative pay decisions. Recently, several organizations have been experimenting with involving employees in pay raise decisions, and the results seem to be quite positive. By allowing employees to participate either in the design of the reward system or in actual pay raise decisions (perhaps through a committee), it is argued that decisions of higher quality are made on the basis of greater information. Also, employees then have greater reason to place confidence in the fairness of the decisions. On the negative side, this approach requires considerably more time for both the manager and the participating subordinates. Costs must be weighed against benefits to determine which approach is most suitable for the particular organization and its goals.

Flexible Benefits Systems. A typical fringe benefit package provides the same benefits—and the same number of benefits—to all employees. As a result, individual differences or preferences are largely ignored. Studies by Lawler indicate variations in benefit preferences.18 For instance, young unmarried men prefer more vacation time, whereas young married men prefer to give up vacation time for higher pay. Older employees want more retirement benefits, whereas younger employees prefer greater income. Through a flexible benefits program (also called a “cafeteria benefits program”), employees are allowed some discretion in the determination of their own packages and can make trade-offs, within certain limits. Organizations such as PepsiCo, TRW, and the Educational Testing Service already use such programs. Although certain problems of administration exist with the programs, efforts in this direction can lead to increased need satisfaction among employees.

Which approaches are most effective in motivating employees? This is obviously a difficult question to answer.  One such study asked major employers which of a variety of approaches had been used with a high success level. The results are shown in Table 8. Skills-based compensation, earned time off, and gain sharing all received high marks from personnel executives, although other programs are also widely supported. It would appear from these results that many approaches can be useful; the choice of which one to use would depend upon the circumstances and goals of a particular organization.

Guidelines for Effective Incentive Programs

Whatever incentive plan is selected, care must be taken to ensure that the plan is appropriate for the particular organization and workforce. In fact, a simple test of the effectiveness of an incentive plan would be as follows:19

  • Does the plan capture attention? Do employees discuss the plan and take pride in their early successes?
  • Do employees understand the plan? Can employees explain how the plan works, and do they understand what they must do to earn the incentive?
  • Does the plan improve communication? As a result of the plan, do employees understand more about corporate mission, goals, and objectives?
  • Does the plan pay out when it should? Are incentives being paid for desired results, and are they withheld for undesirable results?
  • Is the company performing better as a result of the plan? Are profits or market share up or down? Have any gains resulted in part from the incentive plan?
Companies Successfully Using Creative Incentive Plans
Type of Incentive Percent of Companies Reporting Success
Source: Data adapted from J. Horn, Psychology Today, July 1987, pp. 54–57.
Skills-based compensation 89%
Earned time off 85
Gain-sharing plans 81
Small-group incentives 75
Individual incentives 73
All-salaried workforce 67
Lump-sum bonus 66
Table 8 (Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)

If a new (or existing) pay plan can meet these tests, it is probably fairly effective in motivating employee performance and should be retained by the organization. If not, perhaps some other approach should be tried. On the basis of such a test, several specific guidelines can be identified to increase the effectiveness of the programs. These include the following:20

  • Any reward system or incentive plan should be as closely tied to actual job performance as possible. This point was discussed earlier in this chapter.
  • If possible, incentive programs should allow for individual differences. They should recognize that different people want different outcomes from a job. Flexible benefits programs such as the ones discussed here make an effort to accomplish this.
  • Incentive programs should reflect the type of work that is done and the structure of the organization. This simply means that the program should be tailored to the particular needs, goals, and structures of a given organization. Individual incentive programs, for example, would probably be less successful among unionized personnel than would group programs such as the Scanlon plan. This point has been clearly demonstrated in research by Lawler, which points out that organizations with traditional management and those with more participative management might approach reward systems quite differently in order to be effective.21 As shown in Table 9, both types of company can be effective as long as their reward systems are congruent with their overall approach to management.
  • The incentive program should be consistent with the culture and constraints of the organization. Where trust levels are low, for example, it may take considerable effort to get any program to work. In an industry already characterized by high levels of efficiency, basing an incentive system on increasing efficiency even further may have little effect, because employees may see the task as nearly impossible.
  • Finally, incentive programs should be carefully monitored over time to ensure that they are being fairly administered and that they accurately reflect current technological and organizational conditions. For instance, it may be appropriate to offer sales clerks in a department store an incentive to sell outdated merchandise because current fashion items sell themselves. Responsibility falls on managers not to select the incentive program that is in vogue or used “next door,” but rather to consider the unique situations and needs of their own organizations. Then, with this understanding, a program can be developed and implemented that will facilitate goal-oriented performance.
Matching Reward Systems to Management Style
Reward System Traditional Participative
Source: Adapted from E. E. Lawler, The Design of Effective Reward Systems, Technical Report (Los Angeles: University of Southern California, 1983), p. 52.
Fringe benefits Vary according to organizational level Cafeteria—same for all levels
Promotion All decisions made by top management Open posting for all jobs; peer group involvement in decision process
Status symbols A great many, carefully allocated on the basis of job position Few present, low emphasis on organization level
Pay type Hourly and salary All salary
Base rate Based on job performed; high enough to attract job applicants Based on skills; high enough to provide security and attract applicants
Incentive plan Piece rate Group and organization-wide bonus, lump-sum increase
Communication policy Very restricted distribution of information Individual rates, salary survey data, all other information made public
Decision-making locus Top management Close to location of person whose pay is being set
Table 9 (Attribution: Copyright Rice University, OpenStax, under CC BY-NC-SA 4.0 license)


  1. What are the differences between individual and group incentives?
  2. What is the variety of reward incentives available to organizations?


Key Terms

Central tendency error
The failure to recognize either very good or very poor performers.
Halo effect
Results in a supervisor assigning the same rating to each factor being evaluated for an individual.
Leniency error
Fails to distinguish adequately between good and bad performers and instead relegates almost everyone to the same or related categories.
Performance appraisals
A system that provides a means of systematically evaluating employees across various performance dimensions to ensure that organizations are getting what they pay for.
Recency error
Occurs when, in an evaluation, a supervisor may give undue emphasis to performance during the past months—or even weeks—and ignore performance levels prior to this.
The extent to which the instrument consistently yields the same results each time it is used.
The extent to which an instrument actually measures what it intends to measure.
Strictness error
Fails to distinguish adequately between good and bad performers and instead relegates almost everyone to the same or related categories.
Assessment center
Consists of a series of standardized evaluations of behavior based on multiple inputs.
Behaviorally anchored rating scale
A system that requires considerable work prior to evaluation but, if the work is carefully done, can lead to highly accurate ratings with high inter-rater reliability.
Behavioral observation scale
Identifies observable behaviors as they relate to performance and is less demanding of the evaluator.
Critical incident technique
A technique where supervisors record incidents, or examples, of each subordinate’s behavior that led to either unusual success or unusual failure on some aspect of the job.
Graphic rating scale
A performance appraisal technique where the supervisor or rater is typically presented with a printed or online form that contains both the employee’s name and several evaluation dimensions (quantity of work, quality of work, knowledge of job, attendance). The rater is then asked to rate the employee by assigning a number or rating on each of the dimensions.
Management by objectives
Closely related to the goal-setting theory of motivation.
Distributive justice
Where employees receive (at least a portion of) their rewards as a function of their level of contribution to the organization.
Extrinsic rewards
Rewards that are external to the work itself.
Intrinsic motivation
The desire to do a task because you enjoy it.
Intrinsic rewards
Rewards that are external to the work itself.
Skills-based incentives
Rewards employees on the basis of the skills they possess and not just the skills they are allowed to use at work.
Flexible benefits system
A rewards program where employees are allowed some discretion in the determination of their own packages and can make trade-offs, within certain limits.
Gain sharing
An incentive plan in which employees or customers receive benefits directly as a result of cost-saving measures that they initiate or participate in.
Lump-sum pay increase
A technique that allows employees to decide how (that is, in what amounts) they wish to receive their pay raises for the coming year.
Participative pay decisions
Involving employees in pay raise decisions.

Performance Appraisal Systems

  1. How do organizations effectively use performance appraisals to improve individual job performance, and what are the limitations inherent in the use of various appraisal systems?

If performance is to be changed or improved, it must be rewarded. To be rewarded, it must be measured. However, great care must be taken to (1) measure important behaviors and outcomes (individual, group, or organizational) and not just those that are easy to measure, (2) measure them with the appropriate technique(s), and (3) tie appropriate rewards to the desired behaviors and outcomes.

Organizations use performance appraisals for several reasons: (1) to provide feedback to employees, (2) to allow for employee self-development, (3) to allocate rewards, (4) to gather information for personnel decisions, and (5) to guide them in developing training and development efforts.

Techniques of Performance Appraisal

  1. What practices are used in the performance appraisal process?

Performance appraisals are subject to several problems, including central tendency error, strictness or leniency error, halo effect, recency error, and personal biases.


  1. How do managers give effective feedback to subordinates?

Among the most common appraisal systems are graphic rating scales, critical incident technique, behaviorally anchored rating scales, behavioral observation scales, management by objectives, and assessment centers. Assessment centers represent a special case of evaluations in that they focus on assessing an employee’s long-term potential to an organization.

Reward Systems in Organizations

  1. How do organizations choose the best appraisal system for their organization?

Rewards serve several functions, including (1) stimulating job effort and performance, (2) reducing absenteeism and turnover, (3) enhancing employee commitment, (4) facilitating job satisfaction, and (5) facilitating occupational and organizational choice.

Rewards may be distributed on the basis of power, equality, need, or distributive justice. Distributive justice rests on the principle of allocating rewards in proportion to employee contribution. Intrinsic rewards represent those outcomes that are administered by the employee (e.g., a sense of task accomplishment), whereas extrinsic rewards are administered by others (e.g., wages).

Gain-sharing incentive plans base some of the employees’ pay on corporate profits or productivity. As a result, employees are generally more interested in facilitating corporate performance. Skills-based incentives reward employees on the basis of the skills they possess, not the skills they are allowed to use at work. As a result, employees are encouraged to continually upgrade their skill levels.

A lump-sum salary increase simply provides employees with their pay raises at one time (possibly shortly before summer vacation or a major holiday).

Participative pay decisions allow employees some input in determining their pay raises.

Individual and Group Incentive Plans

  1. How do managers and organizations use incentives and rewards effectively to secure the best possible performance from employees?

Flexible benefits allow employees to choose the fringe benefits that best suit their needs.

A good reward system (1) is closely tied to performance, (2) allows for individual differences, (3) reflects the type of work that is being done, (4) is consistent with the corporate culture, and (5) is carefully monitored over time.

Chapter Review Questions

  1. Identify the various functions of performance appraisals. How are appraisals used in most work organizations?
  2. What are some problems associated with performance appraisals?
  3. Define validity and reliability. Why are these two concepts important from a managerial standpoint?
  4. How can errors in appraisals be reduced?
  5. Critically evaluate the advantages and disadvantages of the various techniques of performance appraisal.
  6. Discuss the role of feedback in employee performance.
  7. What is the difference between intrinsic and extrinsic rewards?
  8. Identify the major bases of reward distribution.
  9. How does money influence employee motivation?
  10. Discuss the relative merits of individual and group incentive programs.
  11. Describe the benefits and drawbacks of several of the new approaches to reward systems. Which ones do you feel would be most effective in work organizations?



Management Skills Application Exercises

How Would You Rate Your Supervisor?

Instructions: Think of your current supervisor or one for any job you have held, and evaluate her on the following dimensions. Give a “1” for very poor, a “3” for average, a “5” for outstanding, etc.

Very Poor Average Outstanding
  1. Your boss’s knowledge of the job
1 2 3 4 5
  1. Your boss’s leadership skills
1 2 3 4 5
  1. Your boss’s communication skills
1 2 3 4 5
  1. Your boss’s ability to motivate subordinates
1 2 3 4 5
  1. Your boss’s attendance and promptness
1 2 3 4 5
  1. Your boss’s commitment to the organization
1 2 3 4 5
  1. Your boss’s long-term potential for promotion
1 2 3 4 5
  1. What is your overall assessment of your supervisor?
1 2 3 4 5

Think of a current or previous job, and evaluate the source and quality of the feedback you received from your supervisor. When you are through, refer to Appendix B for scoring procedures.



How Much Feedback Are You Getting from Your Job?

Instructions: Think of a current or previous job. With this in mind, answer the following questions as accurately as possible.

  1. My boss lets me know when I make a mistake.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  2. My coworkers help me improve on the job.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  3. I receive formal evaluations from the company on my job.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  4. My boss always tells me when I do a good job.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  5. This company really appreciates good performance.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  6. When I do something especially well, I receive a “thanks” from my boss.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  7. My coworkers are very appreciative when I do a good job.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  8. My coworkers compliment me on the quality of my work.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  9. My coworkers are very supportive of my efforts.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  10. I know when I have done a good job.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  11. My job provides me with solid feedback on my performance.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7
  12. I can see the results when I learn to do something better.

    Strongly Disagree Strongly Agree
    1 2 3 4 5 6 7


C. Solbach. “Feedback through cultural looking glass.” Krauthammer, September 16, 2015,;

M. Abadi. “The exact same sentence from your boss can mean ‘yes,’ ‘no,’ or ‘maybe’ depending on the country where you work.” Business Insider, December 7, 2017,; J. Windust. “An International Approach to 360-Degree Feedback.”

Cognology, July 26, 2016,; “Giving Employee Feedback To A Culturally Diverse Workforce.” Impraise Blog, accessed January 26, 2019,


K. Korosec. “Tesla Fires Hundreds of Workers After Their Annual Performance Review.” Fortune, October 14, 2017,; D. Muoio. “Tesla fired 700 employees after performance reviews in the third quarter.” Business Insider, November 1, 2017,;

J. Wattles. “Elon Musk agrees to pay $20 million and quit as Tesla chairman in deal with SEC.” Money, September 30, 2018,


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