Table of Contents
- What are the types of bonuses?
- When do companies give bonuses?
- How are bonuses determined?
- What are the possible advantages of a bonus?
- What are the possible disadvantages of a bonus?
- What to read next
What’s it: A bonus is compensation beyond the regular salary paid by the company to employees or management, usually once a year. In a narrow definition, it refers only to cash payments. However, a broad definition may include share ownership schemes such as employee stock ownership plans (ESOPs). Then, in some cases, the company may also offer non-cash incentives, such as extra days off.
What are the types of bonuses?
The type of bonus varies between companies and between countries. In Indonesia, for example, the four common types of bonuses are achievement bonuses, retention bonuses, tantième, and holiday allowances. Meanwhile, in other classifications, bonuses may be divided into two: performance-related bonuses and profit-related bonuses.
This bonus is also known as a performance-related bonus. The company gives it based on employee performance. For example, your company gives awards to employees who excel every year. They show excellent performance and achieve the annual targets you set. So, you give them a bonus as an appreciation for their performance.
Performance-based bonuses are important to encourage employee motivation. They become eager to achieve targets and give their best for the company, hoping to get a bonus at the end of the year.
Retention bonuses represent incentives provided by companies to prevent employees from leaving. Therefore, it’s important to retain key talents.
Key employees make an important contribution to the company’s competitive advantage. Thus, when they resign, its operations and performance may be disrupted. What’s worse is if they move to a competing company, possibly weakening its competitive position.
Such incentives are usually contained in the employment contract agreement. In addition, arrangements often require employees not to leave the company for at least some time to be eligible for a bonus.
Tantième is an incentive by shareholders to directors and commissioners. It is taken from the profits recorded by the company and given based on the company’s performance.
For example, the company achieves higher profits than targeted. Then, the shareholders decide to give tantième, which is based on the percentage of realized profit. Each director and commissioner will receive a different share – in which the main director receives the largest share – following established policies.
This is an extra incentive to employees and is given near the holidays to employees who have worked for a certain period. In Indonesia, the company gives it regularly every year during Eid and Christmas. The nominal allowance is the same as a month’s basic salary.
This is also known as a profit-related bonus. It is given when the company’s profit equals the target or exceeds it. Unlike performance-related bonuses, companies give them to all employees, not just top performers.
Profit-sharing bonus is optional. Thus, there is no bonus when the company does not achieve the targeted profit.
When do companies give bonuses?
Bonuses are optional. The company may give it, and it may not. For example, some companies may only provide performance-related bonuses and tantième. Meanwhile, others may not.
Some companies may provide large bonuses to all employees in the most profitable years. They give it to appreciate the hard work and dedication of their employees. They pay it after the annual performance appraisal at the end of the year.
In other cases, companies only give bonuses to individual employees who perform well. The company appreciates them, hoping they can maintain their best performance. In addition, it becomes a motivation for other employees to improve themselves and perform better in the future.
How are bonuses determined?
As discussed above, the criteria for determining bonuses vary. Now, take profit-related bonuses as an example. Companies determine this based on their performance, usually year-end profit as an indicator. When profit reaches or exceeds the target, they distribute bonuses.
Management evaluates and assesses each employee’s performance. After completion, they determine the nominal bonus to each employee. That is usually equal to several times the employee’s salary, depending on the individual’s performance.
What are the possible advantages of a bonus?
Motivating factor. Bonuses are a means for companies to maintain superior performance. Such compensation incentivizes employees to push their best performance consistently. They are excited because they earn extra dollars at the end of the year and get a monthly salary.
Reduce turnover. Apart from motivating employees, companies provide such incentives to retain key employees. It is also a way to prevent competitors from hijacking employees, and therefore, it is important to maintain a competitive advantage. Moreover, with extra incentives besides salary, employees feel appreciated by the company, so they are reluctant to leave.
Attract quality new employees. In other cases, bonuses are also a way to attract new employees. Thus, more people apply to companies. As a result, companies can have more options for recruiting, increasing their chances of selecting the best.
Clearer targets. When a company offers a profit-related bonus, they have to determine how much profit should be achieved in a year. It requires them to develop targets for revenue and expenses.
Thus, companies can provide work goals and direction to their employees by setting targets. And employees who are motivated by purpose are often more passionate about their work.
What are the possible disadvantages of a bonus?
Additional cost. Companies spend more money on employees to pay bonuses. So, they don’t just pay salaries.
The next impact is to reduce internal capital. This is because companies can only keep less profit as internal capital, which is often important for growing the business in the future.
Disappointed if there is no bonus. When a company pays bonuses regularly every year, it creates “dependency.” Employees expect the company to always provide it. It may not matter when business performance is good.
However, the dynamic business environment often requires companies to invest in the future. Thus, companies should set aside more dollars as capital to support future growth rather than being distributed as bonuses.
In other cases, threats due to changes in the business environment, such as tougher competition, may also make the company’s performance worse. Thus, the company may decide not to distribute bonuses.
Because there are no bonuses, employees are disappointed. They were used to receiving it routinely but, now, no longer receive it. It finally reduces their enthusiasm for work.
Not always effective. Some employees may be less motivated by bonuses. For example, they may prefer a supportive work environment to satisfy self-actualization needs. In addition, they need autonomy and flexibility in their work. So, even though they get a bonus, they may not be enthusiastic about work because the company does not fulfill what they want.
Disharmony. Bonuses increase competition among employees. They seek to pursue more rewards by performing better than their coworkers. Indeed, on the one hand, it can spur self-improvement and higher productivity.
But on the other hand, unhealthy competition can damage interpersonal relationships. Employees attach great importance to personal performance and may find collaborating difficult. As a result, it undermines the company’s overall performance.
Unfair. Favoritism can damage the relationship between superiors and subordinates. For example, when they do not like an employee, the manager may be subjective when evaluating his performance. So, he didn’t get the bonus he should have. As a result, disappointment arose.
What to read next
- Financial Motivation: Why It Matters and Types
- Wage: How it works and Types
- Time-Based Wage: How it Works, Pros and Cons
- Piece-rate Wage: How it Works, Advantages and Disadvantages
- Bonus: Types, Advantages, Disadvantages
- Salary: Influencing Factors, Advantages, Disadvantages
- Commission-Based Pay: How it Works, Pros, Cons
- Performance-Based Pay: How it Works, Pros, Cons
- Share-Ownership Scheme: Its Importance, Pros, and Cons
- Fringe benefits: Examples, Advantages, Disadvantages
- Profit-Sharing as a Motivator: How it Works, Advantages, Disadvantages