From the July 2011 issue of Investment Advisor • Subscribe!

July 1, 2011

The Road to Happiness

There are four elements to make people happy—and advisory firms successful

In May, I returned from FPA Retreat where I was asked to give two speeches. In both my talks, I alluded to Tony Heish’s book “Delivering Happiness.” In his book, Tony concludes his analysis of the “path to profits, passion, and purpose” that led to the success of Zappos.com with this short list of what businesses need to keep their employees happy: perceived control, perceived progress, connectedness, and vision/meaning.

I know Heish didn’t make up this list: I’ve seen it or similar sentiments expressed in many other books on motivating employees from Daniel Pink’s “Drive” to “Streetwise Motivating” by Alex Hiam to “Stumbling on Happiness” by Daniel Gilbert. My experience working with advisory firms also has led me to conclude that the key to running a successful business is simply making employees happy.

This goal turns out to be easier than it sounds, and the way to achieve it probably isn’t what you’d expect. Often, giving employees what they say they want doesn’t work, and, in fact, can even make things worse. Instead, firm owners should strive to give their employees what they need: A perfect example of this is how one should structure employee bonuses.

Giving employees what they need is the point of Heish’s book. According his research, and mine, employees need to feel a sense of control over their jobs and their compensation (perceived control); they need to feel that they are working toward improving themselves and their firms (perceived progress); they need to feel part of a team that they can depend on and that depends on them (connectedness); and finally, employees need to feel part of something that’s bigger than they are, such as making clients’ lives better or building a successful business (vision/meaning). To fully motivate employees to be their best and make meaningful contributions to the success of their firms, firm owners need to create a working environment that fulfills each of these needs.

Properly structured bonuses go a long way toward meeting these “happiness” needs of employees and I have found in my 10 years in the industry that only a small few practices have bonus programs that meet these needs. After my talks at FPA Retreat relating to bonus programs and happiness principles, I figured out that very few advisors actually understand the types of bonus programs available.

There are essentially three ways advisors can structure bonuses for their employees: Merit bonuses, profit sharing and revenue-based bonuses. Regular readers of my column will probably already know that I favor revenue-based bonuses over the others. My more candid feelings are that the other two structures simply don’t work, and are, in fact, classic examples of the law of unintended consequences (more often than not, they result in employee behavior that is contrary to what the employer had hoped for).

Let me explain. The majority of advisors who contact me initially want to create a merit-based bonus program: That is, they want to pay their employees a predetermined amount for accomplishing some specific task or goal. For instance, they might offer to pay a junior advisor an additional $5,000 to implement a rebalancing software program, over three months.

The first problem with this “bonus structure” is it has removed forever the task the bonus pays for from the employee’s job description, making it “extra” work. From now on, whenever that employee is asked to perform a similar task related to implementing a new software program, she or he will expect to be paid extra for it. Bad precedent. You have sent the message that employees will and should be paid extra for any work outside of their job descriptions.

What’s more, you’ve also sent the message that employees’ jobs are fixed, finite tasks, strictly limited to their exact descriptions, with no need or requirement to look outside of their duties for ways to help the firm or its clients. You have eliminated any motivation for exercising initiative, or taking on additional responsibility.

Finally, the worst thing about merit bonuses is that they put a price tag on each task or goal. Since the task in question has been “added to” an employee’s regular duties, their natural reaction (believe me, they all do this) is to calculate whether it’s “worth it” and how much effort they can “afford” for it to be cost effective. In the above example, the employee will mentally estimate how long it will take to implement the new software program, and divide the $5,000 “bonus” by that number of hours. If it’s going to take, say, 200 hours, that works out to be $25 per hour. If the employee believes their time is more valuable than $25 per hour then the employee will decrease their effort to bring the hourly wage more into an acceptable range, or decide their time is not worth the extra $5,000 you are paying and simply not do the work. Is that really how you want your key projects undertaken?

As you can imagine, merit bonuses do very little to meet any of the four elements of employee happiness and usually have a negative effect. Instead of feeling control, employees are given a fixed task for a fixed amount; the only control they can exert is to limit their working time to increase the hourly pay (or take control and simply not do the task). Instead of feeling part of a team, they have been further isolated in a lone task, with compensation completely separated from the other employees and the firm. Instead of making progress, they are stuck with one project. Instead of feeling they are part of something bigger, their job is actually made smaller. That’s why merit bonuses do little to motivate people.

As for profit-sharing, their deficiencies are glaringly obvious: Profits in a small, closely held business are entirely controlled by the owners. Many firms are understandably run to show as little profit as possible. Even when they aren’t, “profits” are often eaten up by investments in new technology, marketing strategies, new offices, or other capital improvements. Don’t get me wrong, there’s nothing wrong with these strategies, and often much is right from a tax perspective. But, as they see it, it’s patently unfair to expect your employees to equally shoulder the burden of growing your firm.

On the happiness scale, we’ve already covered the sense of control (employees have zero control over profits and bonuses on profits). When firm revenues go up, but profits—and bonuses—go down, that doesn’t translate into much of a sense of progress either. And it doesn’t make one feel like a team player when one’s rewards are taken away without one’s consent. Do you really want your employees feeling cheated every time you go to a conference?

This leaves us with revenue-based bonuses, which I have talked in detail about before but will reiterate here as it relates to “happiness.” Nothing connects employees to their firms better: When bonuses are tied to revenues, everyone is playing on the same team. Employees feel a sense of control because they will find ways to help increase revenues; revenues of a company cannot be manipulated (unlike profits) and revenues are not subjective (like a merit-bonus task or goal.) Most employees can’t bring in new business, but they can make clients happy; and since most advisory firms grow through referrals, that’s usually the best way to attract new clients. Employees feel that they are contributing to—and sharing in—their firm’s growth. They are now part of the team, working to grow their firm, and they are indeed part of something much bigger than themselves. (Now ask them to implement a new rebalancing program. I guarantee they will do it, without question or additional pay.)

Revenue-based bonuses hit all the happiness goals. A great indication that this is true is that once a revenue-based program is in place, money ceases to be an issue. Unhappy employees invariably believe that if they were just paid more, all their problems would go away. Yet, higher salaries almost never solve their problems. However, even employees who were constantly complaining that they were underpaid suddenly are satisfied with revenue-based bonuses. Not because they get more money—that often takes a while—but because they suddenly feel they are part of the firm, part of something bigger than themselves (connected).

I’ve had firms actually decrease salaries in order to make a revenue-based program work; interestingly, not a peep from the employees, who were thrilled with the change. When it comes to creating happy employees, few strategies are more effective than revenue-based bonuses, and when it comes to creating a great independent advisory firm, I can’t think of a better strategy than happy employees. There is just no substitute for employees who are totally motivated to work together toward building a successful firm.

Click here to read the rest of the July 2011 issue of Investment Advisor.

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