Zheng Yunduan | Ten Dimensions of Business Performance Policy

In day-to-day management, you often run into business leaders and HR folks who see performance management completely differently. With different backgrounds and perspectives, they end up talking past each other — sometimes getting red in the face. There are also business leaders who, when their team hits pressure or setbacks, instinctively blame the comp and performance policy first, then the HR support, then the company's investment. These are pretty common, if naive, coping mechanisms.

To address these issues, Zheng Yunduan, Partner & CHO at Source Code Capital and former CHO at KE Holdings, explored ten dimensions in his article Zheng Yunduan: Ten Dimensions of Business Performance Policy. We're republishing the original here, hoping it offers some useful perspective.

1. Ownership of business performance

2. Compensation competitiveness

3. Performance incentives

4. Incentive budget and culture

5. Policy credibility

6. Business goal-setting

7. Assessment and management

8. Job responsibility design

9. Level design, promotion/demotion, and elimination

10. Policy evaluation criteria and process

Ownership of Business Performance

For functional performance management, HR typically takes the lead in proposing a performance management plan, gathering input from functional heads, and securing CEO approval before execution. HR and the CEO are the primary owners of functional performance policy, since multiple functions share one policy — no single function could easily propose something all others would accept.

Functional departments are professional units not directly accountable for financial results: product and R&D, finance, HR, business operations, and so on. Business units are those directly accountable for financial results: sales, BD, BDMs, directors, and general managers.

The first owner of business performance is the highest leader of that business. Business strategy, goals, budget, roles, levels, compensation, performance, commissions, promotion/demotion, and incentives are deeply integrated as one system. Business performance policy also evolves rapidly, often adjusted quarterly or even monthly. Only the top business leader can truly integrate all these elements — business, finance, org, and performance — in a structural, systematic way.

Operations, finance, and HR are key supporting functions. Operations helps the business leader formulate strategy, goals, pathways, regular meetings, and dashboards. Finance helps model costs, profits, cash flow, and risk. HR helps map out structure, roles, levels, compensation, performance, and incentives.

Depending on how critical the business performance is, the CEO may need to approve the policy.

The core of business management is performance management. Handing off business performance management entirely to a supporting function is either self-deception or laziness on the part of the business leader.

Responsible party, supporting parties, approver — these are roughly the roles. The business performance literacy of the responsible party matters enormously.

Compensation Competitiveness

When talking about compensation competitiveness, first clarify the full definition of compensation, or you'll end up comparing apples to oranges.

Full compensation includes base salary, performance pay, commissions, options, social insurance and housing fund, and other benefits. Generally, competitiveness is compared on annual total cash, with options and other benefits as secondary reference points.

You also need to define who you're comparing against. Usually it's same-industry companies, or where your employees mainly come from or go to. Sometimes it can be non-same-industry but similar roles.

Define your own talent market, don't blindly follow how consulting firms define it for you. Even less should you blindly follow salary data from consulting firms. Competitors' business performance policies are generally hard to keep secret — this differs greatly from functional compensation.

Once you've defined the comparison set and compensation scope, you can position your market competitiveness.

Generally, there's a follower strategy — say, 20th-40th percentile — mainly attracting relatively weaker talent in the market. A competitive strategy — 50th-70th percentile — attracting mainstream talent. A leading strategy — 80th-100th percentile — attracting top talent.

If employees' actual annual income is relatively stable and predictable, and can hit the corresponding percentile in the market, the company will gradually attract talent at that level.

This is highly reliable. Money is smart; talent is smart too.

Higher market positioning on employee compensation inevitably means higher per-capita costs. If business leaders can't organize employees to achieve above-market per-capita productivity, the company is unsustainable. Any manager who hopes for high employee pay without high productivity is naive and running an unsustainable operation.

The solution is what's commonly called "three people doing five people's work, earning four people's pay." Per-person cost can be above market, but if total labor cost ratio is also above market, the company needs to seriously assess whether that's sustainable.

Performance Incentives

Compensation competitiveness is about total package.

Performance incentives are more about the ratio of fixed to variable pay within that total — commonly called the fixed-to-variable ratio. But this framing is a bit too simplistic and crude for business performance design.

For executives, the cash-to-options ratio matters more. For employees, the base-to-performance or base-to-commission ratio matters more. This article focuses more on the latter.

Employees always want fixed pay to be as high as possible — which is why many highly educated employees prefer functional specialist roles, since the fixed ratio is higher.

But for business roles like sales, if fixed pay is too high, it's hard for employees to have strong self-driven motivation to keep challenging higher goals, or even basic goals.

If fixed pay exceeds a certain threshold, the inertia management has to fight against increases dramatically. Business growth is about challenging inertia — it's hard.

Generally, total package = base + performance bonus + commission + options + benefits.

Base and benefits serve to cover basic living needs, with basically no incentive function. Base ratio generally shouldn't exceed 50%. In extreme business models and teams, base can be eliminated entirely — like delivery riders, real estate agents, drivers.

Performance bonuses generally assess process metrics. Performance indicators usually have weights and coefficients, floors and caps, and can have red-line veto items.

Performance bonuses are generally used in business launch phases, when outcome metrics are still unstable and you're mainly driving actions to discover outcome metrics, while ensuring relatively stable employee income and controllable labor costs for the company. But action metrics aren't outcome metrics — they're easier to fake and pad. So caps and floors are needed to avoid distorted incentives that warp behavior.

Generally, good process metrics may lead to good outcome metrics. But very good process metrics don't guarantee good outcomes, because different managers' breakdowns of process metrics may not actually reflect business规律. So performance bonus ratio in total package shouldn't be too high — say, 10-20%.

In mature business models and mature teams, performance bonuses can be eliminated entirely. Process metrics aren't driven through performance assessment at all, but through process management, data management, and review coaching.

Commissions generally assess outcome metrics. Commissions sometimes also exist as piece-rate payments. Outcome metrics generally mean ultimate financial metrics like revenue and profit, or operationally-derived metrics with direct linear relationships to revenue and profit.

Commission ratio generally shouldn't be below 30%, ideally not below 50%, and in extreme cases can be 100% of total package. As long as commission or piece-rate income is stable — even dynamically stable — employees will develop trust in the performance policy.

In practice, you can ensure fixed pay is no lower than competitors, while variable and total pay exceed competitors.

Functional performance generally uses broadband pay, because functional performance has ambiguity and subjectivity. Also, broadband promotion and adjustment cycles are longer — say, once or twice a year — with more complex budgeting and approval.

Business performance generally uses point pay, because business performance has objectivity and immediacy, and can't and doesn't need to wait for long windows. Promotions, demotions, and competitive selection for business roles can happen anytime. Because of objectivity, quantification, standardization, and process orientation, promotions, demotions, competitive selection, and elimination can happen more frequently without cumbersome processes and approvals.

Options aren't the focus of this article; performance-based options can be an effective component of dynamic incentives.

Incentive Budget and Culture

In business performance management, you often need to organize single-item short-term incentive contests. These generally reinforce certain actions or behaviors, occasionally certain outcomes.

Unlike income structure and indicator structure, contests lack stability and standardization. So they're generally managed by budget and principles, not by rules.

Incentive budget can be accrued at 10% of variable pay budget.

Two principles for using incentive budget:

(1) There must be clear, quantifiable standards that are open, fair, and transparent.

(2) If the incentive target is an outcome metric, cash incentives can be used. If the incentive target is a process metric, prizes and recognition should be used as much as possible.

As the saying goes: "Pay for results, cheer for process." Only those who bring cash back to the company should take cash from the company. If it's just good actions, cheer for them — prizes and recognition are what's appropriate.

Many managers use cash incentives for every contest regardless of type. That's not very thoughtful.

Policy Credibility

Managing performance for large business teams is like the Qin military merit system — only with the principle and spirit of Shang Yang's "moving the log to establish trust," winning employees' trust in the performance policy, will the team unleash tremendous kinetic energy and explosive power.

First, there must be clear business performance rules — clear means quantifiable. Second, rules must be fair, open, and transparent. Third, respect the rules. No changing orders overnight, no backroom deals, no power above rules, no fuzzy decisions.

Business performance rules, including resource allocation and benefit distribution rules, must follow principles of objective quantification, open transparency, and rules above power.

Inexperienced managers always want to leave maximum discretion for themselves. Either no rules, or non-quantifiable rules, or non-public rules, or arbitrarily breaking rules, or frequently changing rules.

All of these lead employees to manage upward rather than serve customers. They lead to unspoken rules, backroom manipulation, rent-seeking by power — with the company ultimately paying the price.

Business teams without values, without rules, are mercenaries. Mercenaries are purely money-driven, clique-driven, easily poached, move in groups, without internal drive, loyalty, or identification.

Business teams without rules, that don't respect rules, are teams without management credibility, and can hardly sustain fighting power.

Business Goal-Setting

The basic framework of business performance is: for a given role, set total compensation level, total compensation structure, performance assessment indicators, and commission incentive indicators.

Overall, the business performance framework should be basically stable. Total compensation level, structure, performance assessment items, and commission incentive items should stay relatively constant. What's relatively unstable is the goal-setting for performance and commission indicators.

Assessment and incentive indicator setting is a business strategy capability. The indicators chosen reflect the business leader's depth of business understanding and ability to decompose pathways — more deep strategic thinking. Unclear strategy, wrong strategy, strategy that can't be decomposed means the team can't focus on the right things.

Goal-setting is an operations capability. The goal levels set reflect the business leader's assessment of business development challenges and team organizational capability — operations capability. Unclear goals, unquantifiable goals, goals too high or too low lead to missed targets, free rides, or demoralization.

Goals set too high lead to missed performance, failure to achieve target performance and commission income, directly causing high turnover, low morale, and negative sentiment.

Goals set too low lead to easy achievement, free riding, low per-capita and per-dollar productivity, and inability to eliminate low performers.

Some business leaders, because goals are too high leading to low variable income and high turnover, then turn around and demand higher fixed pay and benefits. In practice, this kind of counterproductive, barking-up-the-wrong-tree phenomenon is also common.

Assessment and Enablement

Performance assessment and commission incentives are just one part of business performance management.

Closed-loop business performance management includes goal-setting, enablement coaching, performance evaluation, and performance incentives.

What's commonly called performance assessment should include goal-setting, performance evaluation, and performance incentives — though the gap between different managers' capabilities is vast. Most business leaders only want to do performance assessment — what's commonly called "managing through assessment alone."

Some managers can't even set goals properly before "settling accounts after autumn." Others artfully manipulate performance incentives, creating "egalitarianism," "rewarding laziness and punishing diligence," "whipping the fast ox," "unclear rewards and punishments," or "promoting favorites."

In reality, performance assessment doesn't improve individual or team capability. Simple "managing through assessment" is managerial dereliction — and the "assessment" may not even be that sophisticated.

Managers should spend no less than 50% of their time and energy coaching employees and teams, continuously decomposing and iterating pathways and methods, improving the team's ability to hit performance targets. Only such managers can lead teams to sustained performance.

For business teams, regular meetings and reviews are effective mechanisms. Morning kickoffs, evening shares, weekly meetings, monthly reviews — repeating simple things is the most effective shortcut for performance coaching and management.

Often, you get what you assess. But often, assessment without enablement also fails.

A manager's value to employees is 50% goal-setting, 50% enablement coaching.

Job Responsibility Design

A defining feature of business performance is that it's role-specific. BD, BDM, PM, GM — each role should have its own total compensation level, income structure, performance assessment items, and commission incentive items.

Professional managers effectively "decompose" their own indicators into subordinate roles' indicators. Superior and subordinate indicators often differ because responsibilities, influence, and granularity differ.

Managers lacking deep strategic thinking sometimes simply copy their own indicators to subordinate roles, simply "allocating" their own goals downward.

"Decomposition" versus "allocation" is the dividing line between business managers' strategic thinking and pathway decomposition capabilities.

Business managers easily attribute problems to compensation and performance design when facing pressure and setbacks. In reality, it's often because they lack the ability to "decompose" business and pathways.

Level Design, Promotion/Demotion, and Elimination

A common problem in business performance design is conflating roles and levels.

BD, BDM, PM, GM — these are different roles. Job responsibilities differ qualitatively. A BD role might have 5 grades or levels — same role, no qualitative difference in responsibilities, only quantitative differences.

Moving from BD Level 1 to Level 5 is essentially not a promotion policy but a performance policy. BDs with different performance simply have different base pay and incentive coefficients. Such level changes are generally based on performance, on objective numbers, in relatively short cycles, automatic. Generally no superior's subjective judgment needed — just confirmation based on performance adjustment.

Moving from BD to BDM is promotion in the true general sense. Job responsibilities change qualitatively; different competency models are required. In business lines, because every role has many candidates, "open competitive selection" is a core principle. Vacancies must be public, candidate criteria public, selection presentations public, appointments public.

Some business managers, when positions open, appoint candidates based on personal preference without open competitive selection — missing a public opportunity to motivate the team. Over time, this breeds backroom deals, cronyism, cliques, and rent-seeking.

Some business teams also have unclear role definitions for BD and BDM. BDMs are nominally team managers but are actually assessed on individual performance. Under this assessment approach, BDMs can't build or develop teams. BDMs are actually in competitive relationships with BDs — not undermining the team already shows basic values.

Many issues that appear to be compensation and performance problems are actually role and level clarity problems, promotion and performance clarity problems.

If a business team has lots of firefighting promotions and pay adjustments, it's because the "role-level-compensation-performance-process" pipeline isn't smooth, and a "competition-promotion-performance-incentive" virtuous cycle hasn't formed. They can only do case-by-case promotion and pay discussions.

In performance management, we often talk about "271" forced distribution. This is used differently in functional versus business performance.

In functional performance management, "271" itself is the performance rating and result, converted to raise and bonus coefficients. The bottom 10% may face elimination.

In business performance management, "271" is basically just for identifying high-potential and elimination candidates, not for performance incentives. Because performance incentives are directly tied to performance, promptly paid out by cycle.

Employee mobility is one of the core metrics of business performance management.

If a business team performs very poorly but is super stable, even needing severance to terminate people, then either fixed pay is too high or goals are too low.

If a business team performs very poorly with ultra-high turnover, either fixed pay is below industry, or goals are unreasonable and unachievable so variable pay can't be earned.

A poorly performing but super stable business team — that stability must be short-term, because the team's very existence becomes a question.

A poorly performing, high-turnover business team — that too must be short-term, because the team manager's existence becomes a question.

Policy Evaluation Criteria and Process

Many business performance designers focus only on designing pay levels, pay structure, indicator items, and target values, but neglect how to evaluate whether a business performance policy is effective. In other words, too focused on "how to design" and ignoring or not knowing "how to evaluate" — bluntly, unable to "begin with the end in mind."

Business performance policy has two core stakeholders: the company and the employee.

So evaluation criteria come from these two stakeholders.

The company's criteria: whether business goals are achieved, whether per-capita and per-dollar productivity improve, stay flat, or decline, and whether labor cost ratio decreases, stays flat, or increases.

Employee criteria: whether it helps them achieve business goals, target income, career advancement and development, and whether there's sense of honor, belonging, and identification. So average actual employee income and employee turnover rate are employees "voting with their feet" on the business performance policy.

Generally, if business performance policy designers understand these evaluation criteria, they'll design with the end in mind, efficiency first, fairness considered.

The worst cost-cutting, efficiency-improving performance policy is reducing average employee income.

The worst revenue-growing, cost-saving performance policy is an unsustainably high labor cost ratio that prevents the company from continuing to operate.

The best business performance policy is a virtuous cycle of "high standards — high performance — high income."

For business teams' "competition-promotion-compensation-performance" management, the core is "rules-based + performance-standard + data-driven." If rules are clear and transparent, oriented toward performance, respecting and revering rules, the team will feel fairness is present, won't need to manage upward, won't need internal PR, and can go all-out serving customers and improving performance.

"Governing a large state is like cooking a small fish." Business performance policy design and adjustment for large teams must be cautious; any change requires care, review, benchmarking, modeling, and beginning with the end in mind. Large business teams can hardly expand healthily through "shooting from the hip."