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Thesis
Using Financial Incentives to Drive Organizational Change:
Can Money Buy Commitment?
Executive Master in Consulting and Coaching for Change 2012-2014
INSEAD
Fontainebleau
Stefan Pap
January 2014
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Table of Contents
ABSTRACT 4
INTRODUCTION 5
RESEARCH BACKGROUND 5
RESEARCH AIM AND OBJECTIVES 7
LITERATURE REVIEW 8
CASE STUDY 25
METHODOLOGY 25
RESEARCH SETTING 25
DATA GATHERING AND ANALYSIS 32
SUMMARY OF FINDINGS AND DISCUSSION 48
PRACTICAL IMPLICATIONS 51
FUTURE RESEARCH AND LIMITATIONS 53
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Figures
FIGURE 1, MOTIVATIONAL IMPACT OF FINANCIAL REWARDS 19
FIGURE 2, RESEARCH SITE ORGANIZATIONAL CHART (SIMPLIFIED) 27
FIGURE 3, TIMING OF NEW INCENTIVE SCHEME 30
FIGURE 4, NEW REWARD MODEL CALCULATION SCHEME (SIMPLIFIED) 32
FIGURE 5, OVERVIEW OF INTERVIEW DATA STRUCTURE 36
FIGURE 6, EVIDENCE FOR THEORETICAL CONCEPTS 37
FIGURE 7, RELATIONSHIP BETWEEN FINANCIAL INCENTIVE AND NEW BEHAVIOR 43
FIGURE 8, STATUS QUO BIAS 46
FIGURE 9, SITUATIONAL USE OF INCENTIVES TO DRIVE CHANGE 52
Tables
TABLE 1, OVERVIEW OF CHANGE MODELS 10
TABLE 2, INTERVIEW QUESTIONNAIRE 34
TABLE 3, LIST OF INTERVIEW PARTNERS 34
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Abstract
Due to the technological, social, and economic developments of the past decade, organizations find
themselves in a quickly evolving market environment, which they need to adapt to. The management
of organizational change therefore remains one of the top priorities for today’s corporations. This is
reflected by the large amount of academic research focused on the management of change both at the
level of the individual and the organization. Organizational change is seen as a multi-‐step process with
the key factor for success being the affected individuals’ commitment to alter their behaviors.
Few studies have so far taken an in-‐depth look at the role of financial incentives during change
processes, even though the use of monetary rewards to create commitment and drive behavior change
might seem like a viable option to many practitioners. To better understand how financial incentives
influence behavior change, when they are viable to use, and how they should be structured, I analyzed
existing literature from the fields of change management, behavioral economics, and motivational
psychology to derive the key theoretical concepts available in today’s research. I then conducted a case
study involving managers from an organization that implemented a new bonus scheme to drive
behavior change. Following a phenomenological approach with semi-‐structured interviews, I collected
additional insights into the implications of explicit financial incentives on the affected employees.
My key finding is that organizations can, under certain limited conditions, profit from using explicit
financial incentives to drive change. This is especially true in highly time-‐critical situations and in
corporate cultures that embrace the use of monetary rewards. In other situations the use of financial
incentives comes with the risk of incurring negative long-‐term effects on cooperation and intrinsic
staff motivation. The framing of a financial incentive can alleviate some of these side effects if
employees do not perceive it to be explicitly targeted at certain behavior changes.
Key words: organizational change, commitment to change, extrinsic motivation, intrinsic
motivation, financial incentives, monetary rewards
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„There is nothing more difficult to take in hand, more perilous to conduct, or more uncertain in its success, than to take the lead in
the introduction of a new order of things.“
– Niccolò Machiavelli
Introduction
Research background
Constant change has become normality for many businesses over the last 30-40 years. Already
in the 1960’s and 1970’s there was a strong uptake in the number of academic and popular
publications on change management, indicating the growing importance of this topic. In their
original 1979 Harvard Business Review article on “Choosing Strategies for Change” Kotter and
Schlesinger (Kotter & Schlesinger, 2008) cite an earlier study done by The Conference Board
that predicted “the ability for organizations to respond to environmental change” to become one
of the major themes for business success in the next 20 years. In hindsight, they could not have
been more right. However, the more recent developments in the areas of technology and
globalization led to even stronger pressures on businesses to change in the first decade of the
new century. Consumer oriented industries, such as travel, media or finance, are forced to
adapt their business models within a few years to suit the new customer interaction channels
that the Internet and social media revolution brings along. The traditional manufacturing
industries are faced with a new market place where their former low-cost suppliers from
emerging countries such as China have suddenly turned into head-on competitors with stronger
technology and a more favorable cost base as it happens, for example, in the lighting industry
(McKinsey & Company, 2011).
With all these challenges, knowledge about how to best manage organizational change
continues to be of high importance. Despite the growing body of research, the vast experience
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many managers have collected in the area of change management, and the armies of
consultants who are readily available to support their clients, there is still a lot of doubt regarding
the success rate of change initiatives. A recent survey of global companies reported that two
thirds of change initiatives were not considered successful by the organizations’ executives
(Shin, Taylor & Seo, 2012).
Challenges in implementing organizational change are also a frequent topic when I speak to my
consulting clients. There are many change initiatives that fail to deliver the planned results.
When I ask my clients for reasons, it mostly comes down to individuals who did not participate in
the change as envisioned by management or who did not show the required degree of
‘commitment’ (Fedor & Caldwell, 2011) to support the change. Also academic research on
change management increasingly focuses on the central role of the individual, acknowledging
that organizations can only change successfully when individuals alter their behavior (Choi,
2011).
From management’s point of view, I often notice difficulty in understanding why individuals did
not participate in a change effort, maybe even some unconscious ‘blaming’ for their lack of
commitment. When I speak to the affected individuals, they will frequently cite reasons such as
stress caused by too many initiatives happening in parallel, lack of clarity and leadership,
interpersonal problems with the originator of the change, and also political considerations such
as loss of personal influence.
In this situation, companies look for ways to increase employees’ commitment and accelerate
behavior changes. One relatively obvious idea is the use of financial incentives to make the
change more attractive for the affected employees. Both classical economic theories as well as
‘managerial common sense’ in the form of lay theories about how people are motivated (Heath,
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1999) suggest that paying employees explicitly for adapting new ways of working will trigger
behavioral changes.
Research aim and objectives
Several academics who focus on organizational change (Bridges, 2010; Kotter & Cohen, 2002;
Schein, 2010) stress the importance of aligning financial incentives with the targeted future
behavior. Otherwise, incentives could turn into systemic barriers that prevent change, as I have
recently seen at a professional services firm that sought to introduce a more collaborative
working style but kept rewarding purely soloist performance.
At the same time, those writers are critical or reluctant when it turns to using financial rewards
as a positive trigger for behavior change. However, there is little in-depth research available that
specifically looks into the question of how financial incentives can impact change situations.
On the other hand, there is an increasing body of research1 on the drivers of human behavior
and the psychology of motivation, which provides insights into the impact of financial incentives
on employees’ actions. However, this research is, to a large extent, based on laboratory
experiments and leaves the question open whether people will show the same type of behavior
when faced with financial rewards that can have substantial life-style impacts.
I will look into a case study of a Switzerland-based organization with ca. 2,500 employees that
implemented a new reward scheme for middle managers as part of a change project. Through a
number of semi-structured interviews with managers of this organization, I want to shed more
light on how the recipients of the change program felt about its introduction and how this
1 see for example the work of Ariely, Fehr, Frey, Kahneman, Simon, and Tversky
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impacted their behavior in the short- and long-term. Based on theoretical concepts available
from the existing literature and the practical insights from my case study, I will provide answers
to the following questions:
• What are the short-term and long-term effects of a financial reward as part of an
organizational change program?
• Are there specific change situations that warrant or prohibit the use of financial
incentives?
• Which are the most important considerations regarding the design and implementation
of a reward scheme?
Answering these questions, I attempt to narrow the gap between the research streams on
change management and monetary incentives, and I also aim to provide practical insights for
managers who are responsible for organizational change initiatives.
Literature review
In this section, I want to review the relevant academic literature in relation to my research
questions. I will first explore the relevant literature on the topic of change and transition
management. Within this topic, I will look into available research on micro-level / individual
transitions as well as macro-level / organizational change approaches. I also will examine
literature on the role that financial incentives play in motivating employees to enact new
behaviors. In the end, I will summarize the key theoretical concepts, which serve as a basis for
a more detailed analysis of the case study.
Managing change and transitions
Organizational change can be defined as a difference in form, quality, or state over time in an
organizational entity, whereby an entity can be an individual employee’s job, a work group, a
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larger organizational unit, or the organization overall including its relationships with other
organizations (Van de Ven & Poole, 1995; Van de Ven & Sun, 2011). Based on this definition,
change management encompasses the controlled transition from a current state A of an entity
to a target state B in a sustainable and constructive manner.
Managing change is a core challenge faced by many of today’s organizations and generally
constitutes a risky undertaking as it as it is often related to the violation of an organization’s
cultural values and, potentially, the organization’s identity (Jacobs, Witteloostuijn & Christe-
Zeyse, 2012). Therefore, it is no surprise to find a large coverage in academic research and the
more popular business literature. Choi (2011) provides the results of a search across four
electronic databases (Academic Search Complete, Business Source Complete, ERIC, and
PsycInfo), where the keywords “organizational change” and “attitude” result in over 16,000
articles. A search for the keywords “change management” on amazon.com2 leads to more than
90,000 results.
When looking through the available research on the topic, it is possible to broadly classify the
material into three high-level categories (see also Jacobs et al., 2012; Choi, 2011). The micro-
level approaches are mostly concerned with what organizational change does to human
beings and how impacted employees can be supported and guided through change. Macro-
level change approaches, on the other hand, aim to describe and understand how change can
be managed at an organizational level. Within the macro category we can further distinguish
between work that is rooted in the clinical approach and extrapolates individual behavior to
an organizational level (e.g., the work by William Bridges and Edgar Schein) and more
business oriented change implementation models like the one developed by John Kotter.
2 Search conducted on December 10, 2013 on www.amazon.com
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Approach Focus area Examples
Micro-level What drives attitudes and
commitment towards change
at an individual level
Herscovitch & Meyer, 2002
Shin, Taylor & Seo, 2012
Herold, Fedor & Caldwell,
2007
Macro-level with clinical /
psychodynamic roots
How to manage psychological
transition processes
accompanying organizational
change
Lewin, 1951
Schein, 2004
Bridges, 2003
Macro-level with business
orientation
How to prevent the typical
reasons for failure in
organizational change
projects
Kotter, 2007
Table 1, Overview of change models
Researchers rooted in the micro-level approach focus on the individual within the organization
and claim that organizations as a whole can only change when individuals alter their on-the-job
behavior in appropriate ways (Choi, 2011). Some researchers deal with general attitudes and
commitment to change (Seo et al., 2012; Herold et al., 2007; Herscovitch & Meyer, 2002) while
others look at the psychological resources that employees need to be able to cope with change
(Taylor & Cooper, 1998; Fugate, Kinicki & Prussia, 2008, Shin et al., 2012).
Commitment can be seen as the “the glue that provides the vital bond between people and
change goals” (Conner, 1992) and the lack of commitment by the involved people is one of the
most prevalent factors contributing to failed change projects (Conner & Patterson, 1982).
According to Allen and Meyer (Allen & Meyer, 1992) commitment also “increases the likelihood
that an employee will maintain membership in an organization”. According to these authors, we
can distinguish three types of commitment:
o Affective commitment: an employee’s desire to remain with the organization out of a
positive emotional bond
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o Continuance commitment: an employee’s wish to remain with an organization due to
perceived cost of leaving
o Normative commitment: an employee’s perceived obligation to remain with an
organization
All three types of commitment to change will lead to compliance with the explicit requirements of
the change, but only affective and normative commitment will lead to cooperation that goes
beyond minimal rule compliance (Herscovitch & Meyer, 2002). This implies that an employee,
who experiences only continuance commitment, i.e. feels that the cost of leaving the
organization would be too high, might comply with the change, but is unlikely to show
discretionary cooperation that goes beyond the minimum requirements. For the use of
incentives such as extra financial rewards or punishment for non-compliance this could imply
that one can buy an employee’s compliance by making it very costly to leave – however, this
strategy is unlikely to create true cooperation and championing of the change.
Affective commitment has been shown to have the strongest impact on positive discretionary
employee behavior (Herscovitch & Meyer, 2002). It typically develops when individuals start to
derive part of their identity from associating with an organization or course of action. Affective
commitment can be fostered through implementation strategies that increase involvement or
identification such as training, participation, and empowerment. Normative commitment is also
positively correlated with cooperation and develops through socialization or the receipt of
benefits, which induces a need to reciprocate on the side of the employee (Herscovitch &
Meyer, 2002).
In general, there is evidence that normative or affective commitment will be stronger if it is
created through positive emotional experience before the start or during the early phase of a
change process (Seo et al., 2012). Positive or negative emotions can provide immediate
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evaluative information about how well a change is managed and how well an organization treats
its employees (Schwarz & Clore, 2003), and hence positive emotional experiences can lead to
both, affective and normative commitment. Furthermore, affective experience can directly lead
to more supportive and cooperative behavior during a change, independent on its effect on
commitment (Seo et al., 2012). As Huy (2002) has shown, it is the management’s and
especially middle management’s task to provide these positive experiences during a change
process.
There is so far no concrete evidence available, but we can hypothesize that also financial
incentives could support the creation of normative or even affective commitment if employees
experience them as unconditional positive regard rather than reward for clearly defined
behavior. This is also in-line with the findings of Shin, Taylor and Seo (Shin et al., 2012) that
organizations can make an investment of positive inducements, which will in turn lead to more
positive work attitudes and higher performance. Organizational inducements can be both,
intangible (training, empowerment, etc.) as well as materialistic. Therefore, a company wanting
to use incentives should always question whether more cost-efficient alternatives than monetary
rewards might be available.
Positive emotional experiences can furthermore enable employees to build up state positive
affect, which can be an important resource during times of change (Fugate et al., 2008; Shin et
al., 2012; Choi, 2011). Change situations can be emotionally and physically stressful for
employees because of uncertainty, fear of failure, sense making, and actual or perceived loss of
control (Herold at al., 2007), which not only reduces employee’s current performance but can
also have long-term detrimental health effects (Taylor & Cooper, 1998). How well employees
can deal with the requirements of a change depends on the specific situation and also on
certain personality traits of the individual. In general, persons with an internal locus of control
and a positive outlook will find it easier to cope (Taylor & Cooper, 1998), but all affected
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employees will need resources in the form of positive experiences to build up psychological
resilience required for coping (Shin et al., 2012).
Macro-level change models deal more with how change can be managed from a holistic point
of view. Some of the most widely used change models include those of Edgar Schein, William
Bridges, and John Kotter (Stragalas, 2010). Bridges and Schein are both psychologists by
training and built their models based on insights into transitional experiences of individuals that
can be extrapolated to the organization as a whole, thus these models could be said to have a
psychodynamic orientation. John Kotter’s change model, on the other hand, is based on several
years of observing why change efforts fail in organizations (Kotter, 1995) and has a stronger
business orientation.
Edgar Schein’s transition management model is rooted in his experiences working with US
Army Veterans following the Korea War. As Schein explained in an interview with the Harvard
Business Review (Coutu, 2002), he discovered that “something had happened in Korea” that
resembled brainwashing. Schein used the term “coercive persuasion” to describe circumstances
where people “are in situations from which they cannot physically escape and are pressured
into adopting new beliefs” (Coutu, 2002). Later, when Schein had returned to the US and taken
a new job at MIT’s Sloan School of Management, he came to the realization that the way
American companies were indoctrinating their managers resembled how the Chinese
communists had treated American prisoners of war. Schein also explained that change
programs “to the extent that these programs require a shared commitment to new values - as
well as punishment for those who depart from them – […] constitute coercive persuasion”
(Coutu, 2002 p 102). According to Schein (Coutu, 2002; Schein, 2005) all change creates a
certain level of learning anxiety in the individuals targeted by the change effort, as change and
learning new behaviors always involves giving up some familiar behaviors that have worked in
the past, which is inherently risky as one might fail at the effort of learning. However, individuals
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will start to take up new behaviors, if they perceive the risk of not doing so high enough. This
second type of anxiety is referred to as “survival anxiety” by Schein (Coutu, 2002). In order to
facilitate change, companies can either try to increase survival anxiety (threat of job loss or
losing valued rewards) or decrease learning anxiety by creating a psychologically safe
environment. While companies frequently focus on survival anxiety, Schein claims that reducing
learning anxiety is the more effective strategy to achieve long-term successful change.
Companies increasing survival anxiety by too much risk eliciting general defensiveness to any
kind of change on the side of the impacted employees (Schein, 2005).
Overall, Schein identifies three stages of an organizational change process (Schein, 2005;
Stragalas 2010) – unfreezing, cognitive restructuring, and refreezing – and eight conditions for
creating psychological safety required for change. These conditions include: a compelling
vision, formal training, involvement of the “learners” (i.e. individuals required to change), time to
practice, coaching, feedback, and a reward and discipline system that is consistent with the new
way of thinking and working. Schein is very clear that financial incentives need to be adapted to
be in-line with the new behavior, but does not see them as a trigger for change – rather, he
explicitly notes them as the last step in what he considers to be a chronological listing of
prerequisites for change (Schein, 2005).
Similar to the three stages of change described by Schein, also William Bridges (Bridges, 1986)
identifies three distinct phases of a transition, which he refers to as the “ending phase”, the
“neutral zone” and the “vision or new beginning” (Bridges, 1986). Bridges makes an explicit
distinction between change and transition. He considers change to be “something that happens
at a particular time”, that can be managed and typically has structural, economic, technological
or demographic components (Bridges, 1986). While change is external from the affected
employees’ point of view, there’s also an internal process that needs to be worked through. This
internal transition is a psychological reorientation that people have to complete before any
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change can work (Bridges & Mitchell, 2000). The internal transition can take much longer to
complete than the external change – Bridges and Mitchell (2000) provide examples of a major
change in a team structure which can take up to six months and a merger which can take up to
two years until the organization leaves the neutral zone.
A method for managing through the phases of a transition includes the following steps (Bridges
& Mitchell, 2000):
• Ending phase:
o develop a succinct description of the change and why it must happen
o understand who is going to let go of what
o plan steps to allow employees to respectfully let go of the past
• Neutral zone:
o constantly communicate change purpose, future vision, clear plan, and the
employees role
o create temporary solutions, such as structures, processes or reward schemes for
the neutral zone
• New beginning:
o clearly articulate new attitudes and behaviors needed to make the change
o role model, provide practice, and reward the new behaviors and attitudes
Consistent with Schein (2005) also Bridges clearly states that reward schemes need to be
adapted to be in line with new behaviors (Bridges, 2010). However, also Bridges sees new
reward models as a supporting mechanism to work through the neutral zone and establish the
new beginning rather than an original trigger of change.
John Kotter’s change model (Kotter, 2007) was developed based on his study of more than 100
change programs conducted in mid- to large-sized US and international organizations over a
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period of around ten years. Based on this sample, Kotter identified the main reasons why
change programs failed, and then developed a change approach with eight crucial stages to
ensure that all key conditions for success are addressed. Kotter’s change method starts with
creating a sense of urgency to ensure that at least 75% of involved managers believe that
remaining in the status quo would be more dangerous than doing the change. The next steps
include forming a guiding coalition of at least 20-50 senior managers, creating and
communicating a clear vision, empowering employees to act, creating short-term wins,
consolidating improvements and institutionalizing the new approaches.
According to Kotter (Kotter & Cohen, 2002) inappropriate evaluation and reward systems that
are at odds with the direction of the new behaviors can result in a “system barrier” to successful
change implementation. So, incentive systems do need to be aligned with the change effort, but
at the same time, they should not be misinterpreted as the main driver for change as “the
addition of bonuses and raises does not necessarily motivate a change in behavior” (Kotter &
Cohen, 2002 p 76). In certain situations, the use of incentives as a means of negotiation can be
a feasible way to overcome actual or possible resistance from certain employee groups (Kotter
& Schlesinger, 2008). This can be especially appropriate whenever it is clear that certain
employee groups are going to lose out as a result of the change, yet their power to resist is
significant.
Financial incentives and motivation
Traditional economic theory was built on the assumption that all individuals act fully rationally
and always try to maximize their expected utility from a situation. If this statement were true, we
would expect that an individual would comply with any prescribed behavior change if offered a
financial incentive that is higher than what he or she perceives to be the cost of complying.
Similarly, we would expect effort and performance to be directly linked to compensation. When
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Frederick Taylor developed his scientific management approach in the early 20th century, he
argued that the deal between organizations and their members should emphasize extrinsic
factors: “what workers want most from their employers beyond anything else is high wages”
(cited in Heath, 1999).
However, during the past decades increasing evidence became available that this statement is
not true – humans are neither rational decision machines nor do they purely look for extrinsic
motivation in the workspace. Rather, humans judge options (such as how to react to a new
incentive scheme) in emotional and often irrational ways (Gneezy at al., 2011; Constantinescu,
2010).
One of the first scholars to introduce the notion of irrationality into economics was Herbert
Simon (Augier & March, 2001) through his work at the University of Chicago in the 1950s.
Today, some of the best-known or most cited economists such as Daniel Kahneman and Amos
Tversky work in this area (Nelson, 2012). Popular books such as Kahneman’s Thinking Fast
and Slow (Kahneman, 2011) or Dan Ariely’s Predictably Irrational (Ariely, 2008) have
contributed to the increasing acceptance of behavioral decision models over the past decade.
Psychologists (Dolan et al., 2012) have identified two distinct systems that operate in parallel in
the brain: ‘System 1’ processes, which operate in an automatic, uncontrolled, associative, and
affective way, and ‘System 2’ processes, which are reflective, controlled, rule-based, and
rational. System 1 generally is effortless, fast, and operates on an unconscious level, while
System 2 requires effort, is slower, and relies on conscious thought processes. System 2 offers
deeper analytical insight, but has limited capacity, which means that many of our daily decisions
are happening within System 1. Kahneman distinguished these two modes of thinking and
deciding as Intuition (System 1) and Reasoning (System 2) in his 2002 Nobel Lecture
(Kahneman, 2002).
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Traditional economic assumptions regarding rational behavior mostly relied on System 2,
assuming that individuals would perform cognitive assessments of all available information to
derive the costs and benefits impacting their decisions (Dolan et al., 2012). However, there is
increasing empirical evidence (e.g., Tversky & Kahneman, 1992) that this assumption does not
hold true in many real life situations where individuals rely on System 1 processes when
deciding under uncertainty. More particularly, the framing of an option can have impact on a
person’s decision (e.g., whether a financial incentive is framed as a potential gain or potential
loss). Individuals generally have non-linear risk preferences meaning they will often value a
riskless option (e.g., a smaller, but guaranteed bonus) much higher than a risky alternative. At
the same time, persons might be risk seeking when trying to avoid losses. Loss avoidance is a
general phenomenon meaning that individuals put more emphasis on possible losses than on
potential gains when evaluating alternative options (Tversky & Kahneman, 1992). Lastly,
individuals have a strong bias to remain in the status quo and are very reluctant to give up
something they already own, which is referred to as the endowment effect (Kahneman, Knetsch
& Thaler, 1990).
These are all findings that need to be taken into consideration in the concrete design of an
incentive system, but there are further considerations for an organization that wants to use
financial incentives as a trigger for behavioral change. There is evidence that monetary
incentives are not the only motivational factor for employees in the workplace. Next to financial
(extrinsic) motivations, Fehr and Falk (2002) identify three intrinsic factors that drive employee
motivation:
o the motive to reciprocate,
o the desire for social approval,
o and the desire to work on interesting tasks.
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If companies can manage to cater to all motives of their employees, they are likely better off in
the long-term than if they focus purely on extrinsic financial motivation, which is typically more
costly to maintain.
Every change in an existing incentive system will have two kinds of effects (Gneezy et al.,
2011): there is a direct price effect, which makes effort and performance more attractive due to
higher earning opportunities. But, there is also an indirect psychological effect, which can impact
the intrinsic motivation of an employee. Sometimes, these two effects go in opposite directions
and the net motivational impact of an increase in financial incentives can turn negative. If used
in the wrong way, financial incentives might backfire and negatively impact employees’
motivation in the long term, even after the incentive is removed (Fehr & Falk, 2002).
Figure 1, Motivational impact of financial rewards
There is evidence that high base salaries motivate employees for higher performance (Akerlof,
1982). Employees might see the part of their salary that exceeds the minimum required for their
Directpriceeffect
Indirectpsycho-logicaleffect
Impact of an increase infinancial incentives on
employee motivation
–
+
Extrinsicmotivation
Intrinsicmotivation
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efforts as a gift. In turn, they reciprocate by offering voluntary cooperation and show effort levels
above minimum rule compliance (Fehr & Falk, 2002). However, once companies move to
explicit incentives, this picture changes. Fehr and Gächter (2002) show in a laboratory
experiment that the introduction of an explicit incentive reduces employees’ voluntary effort. In
the experimental set-up participants were divided in three groups, one without a variable
incentive, one group with a positively framed incentive (“bonus”) and one with a negatively
framed incentive (“fine”). The latter two options resulted in exactly the same pay-out pattern, the
only difference being the framing used in the communication to participants. In line with the
above-mentioned findings of Kahneman and Tversky, the framing of the incentive had
substantial impact on the effort provided by experiment participants. Participants with the
negatively framed incentive showed lower levels of effort than those receiving a positively
framed incentive. In addition – and in contradiction to ‘conventional’ expectations (Heath, 1999)
– participants who did not receive any kind of incentive showed the highest level of effort of all
three groups. A possible explanation could be that the explicit incentive changes the principal
agent relationship as the agent could interpret the introduction of an incentive as a sign of
mistrust by the principal (Fehr & Falk, 2002; Gneezy at al., 2011).
Individuals might generally be less likely to offer high levels of voluntary cooperation in
situations that are framed by a financial incentive. Money focuses individuals on personal
results and makes them less likely to offer their help to others – even the mere mentioning of
money as a concept has substantial impact on the helpfulness and degree of cooperation
(Vohs, Meade & Goode, 2008). Individuals who were exposed to money (physically or through
reminders) were less likely to help others but also less likely to ask for help in an experiment
conducted by Vohs, Meade and Goode (2008). In the same experiment, individuals who saw a
screen saver with dollar bills would physically distance themselves from others compared to a
test group who saw an empty screen or screen saver with colorful fish. Similar reactions might
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also be triggered by the emotion of envy once an employee realizes that his or her level of
compensation is below that of peers (Duffy et al., 2012). Even though envy has been found to
have a positive impact on individual performance (Eisenkopf & Teyssier, 2012), it also has a
dark side and can lead to aggressiveness or other forms of social undermining in personal
relationships (Duffy et al., 2012).
Also beyond the willingness to reciprocate, financial (extrinsic) incentives have been found to
crowd out other forms of intrinsic job motivation (Gneezy et al., 2011; Frey & Jegen, 2001;
Harvey, 2005) such as the desire to work on interesting tasks and the desire for social approval.
According to general interest theory (Eisenberger, Pierce & Cameron, 1999), the content of
tasks and the context in which they are presented, including reward, can increase motivation
when they convey a positive view of the task (e.g., working on a highly paid task can be
perceived as being prestigious). Conversely, financial rewards reduce intrinsic motivation when
they communicate that the task is irrelevant or antithetical to needs, wants, or desires of the
agent (e.g., if the agent perceives the task’s high reward as an indication that the principal
considers the task to be uninteresting or cumbersome).
A financial incentive can also lead to a feeling of impaired self-determination when individuals
perceive the locus of control to shift from inside to outside of the person affected (Frey & Jegen,
2001). Furthermore, an intrinsically motivated person could feel that their intrinsic motivation is
rejected by the principal, a fact which debases the motivation’s value. As a result, individuals
could feel a negative impact on their self-esteem, which would lead them to reduce their effort.
A monetary reward could also reduce the social approval an individual receives for carrying out
a task (Fehr & Falk, 2002). In some corporate environments, we could expect that an
employee’s social approval from his peers reduce if he or she is perceived to be performing a
Using Financial Incentives to Drive Organizational Change
22
task purely for an explicit financial incentive rather than based on intrinsic motivation or a wish
to cooperate.
However, there is also some evidence that the mentioned psychological effects can be offset by
large incentives, at least in the short run. In an experiment with high-school students collecting
donations, Gneezy and Rustichini (2000) found that effort decreased when a small donation
was offered to students compared to no financial incentive at all. But, once the amount of the
donation was increased substantially, effort started to increase as well.
In situations where substantial financial rewards are at stake, one could also observe a ‘choking’
effect where the performance of employees actually deteriorates because they cannot deal with
the higher level of stress associated with big reward opportunities (Mobbs, 2009). In line with
Schein’s change model discussed earlier, this higher level of stress could result in increased
survival anxiety.
Summary of theoretical concepts
Given the vast amount of research available on the topic of change management, it is surprising
to find a very limited number of authors who have explored the question of financial incentives
during an organizational change process in more detail. Most of the change literature has either
a psychodynamic or a business-oriented background, but in both cases there is a clear focus on
practical applicability. The practical applicability is reflected by the large number of case studies
and quantitative or qualitative field research included in the literature.
The research on financial incentives and motivation, on the other hand, is to a large extent
based on laboratory experiments and provides only a small number of business cases, which is
mostly due to the fact that it would be difficult to design controlled studies involving ‘real’
financial rewards in a business environment. There have been some exceptions (e.g., Fehr &
Using Financial Incentives to Drive Organizational Change
23
List, 2004), but by and large the question remains whether individuals in a business
environment will react in the same way as subjects in a controlled laboratory experiment when
confronted with large financial rewards that can have substantial and lasting life-style impacts.
Therefore, I see value in bridging the gap between the two research streams and in providing
practical insight for organizations faced with the question if and how to use financial incentives
during a change project.
Based on available literature, I deducted the following theoretical propositions that should be of
relevance for the introduction of financial incentives as part of a change program:
Motivational impact of money
• Financial or non-financial incentives can have a positive price effect (extrinsic
motivation) that can stimulate employees to adapt new behaviors. This is especially true
for sums that are large relative to the individual’s situation
• At the same time, explicit financial incentives can have a detrimental long-term
(psychological) effect and reduce employee effort as they ‘crowd-out’ intrinsic
motivation if they are perceived as a sign of mistrust between the principal and agent,
shift the locus of control from internal to external, or make the task appear less
interesting or fulfilling
Commitment to change
• Explicit financial incentives (directly linked to behavior change) can increase short-term
rule compliance through continuance commitment if they make leaving the organization
very costly for the employee
• Financial or non-financial incentives can have a positive impact on employees’
normative or affective commitment and lead to long-term attitude changes if they are
Using Financial Incentives to Drive Organizational Change
24
perceived as unconditional regard. Explicit incentives (targeted at specific behavior) are
not expected to influence normative or affective commitment in the same way
Money as a psychological frame
• Introducing the concept of money can change how people interact in relationships,
making them less cooperative. This could negatively impact the cooperation with peers
within an organization during a change situation
• For some employees, an increased variable compensation component can lead to
feelings of stress and potentially lead to ‘choking’ situations where performance
deteriorates. Also a source of stress can stem from feelings of envy once employees
start comparing their level of compensation to that of peers
Costly removal of incentives
• Once an additional incentive has been introduced, employees will quickly see it as the
‘new normal’. It will be costly to remove, as employees will experience the loss more
strongly than the original gain due to status quo bias and loss aversion effects
I will explore these concepts further during the data analysis linked to the case study presented
in the next chapter.
Using Financial Incentives to Drive Organizational Change
25
Case Study
Methodology
I will firstly explain the empirical study upon which this paper is based. I will discuss the
research methodology, the background of my research site, the data collection process, as well
as the steps in the data analysis.
I aim to understand the impact of financial incentives during a change situation from the
perspective of the reward recipients. Given this focus on understanding and making meaning of
the individuals’ lived experience, I chose to follow a phenomenological approach (Norman,
1967) in the design of my research study. This was best supported by a number of semi-
structured face-to-face interviews with managers who had been involved in a real-life change
situation. In the conversations, I asked interviewees to describe their experience and emotional
reactions in relation to a new reward model.
Given that I know the research site and all of the interview partners from prior consulting work, I
was able to perform the conversations in an informal manner, which contributed to the creation
of a ‘permissive atmosphere’ as described by Blum (cited in Buchanan, 1993). This way, I could
expect to receive comparatively open and unfiltered responses.
Research setting
The research site is a large station3 operated by a division of one of the world’s largest airport
ground-handling companies. At the time relevant for the study, the company was present at
3 In the airport ground-handling industry the term ‘station’ refers to operations at one specific airport
Using Financial Incentives to Drive Organizational Change
26
nearly 200 airports and employed more than 30’000 staff. The station observed was the largest
and economically most important in the company’s network with around 2’500 employees in a
non-unionized environment. It offers all sorts of white-collar and blue-collar labor performed at
an airport to its customer base consisting of national and international airline carriers.
Before presenting the key facts around the new incentive scheme, it is useful to briefly describe
the company’s history and organizational structure to better understand the reasoning behind
the introduction of a new reward model.
The company was founded in the 1990’s as a 100% subsidiary of a European national air
carrier as part of the carrier’s strategy to grow into adjacent service businesses. This airline was
generally seen as a national icon and many of the company’s employees were extremely proud
to be working there, which was reflected in low staff turnover and long tenure of employees.
When the airline had to sell the ground-handling subsidiary due to the financially challenging
environment of the early 2000’s, this came as a shock to many employees. The company was
first sold to a private equity investor, who exited the investment through a trade sale to a large
infrastructure conglomerate after a few years.
In 2010, at the time relevant for my research question, the company was again undergoing a
divestment process and was eventually acquired by another private equity firm. Before the sale
was announced, management implemented a number of cost optimization initiatives. These
were driven, on the one hand, by the need to adjust to the increasingly competitive market
environment with cost pressure being exercised by the customers (airlines), and, on the other
hand, by the wish to present an attractive business case to a potential buyer.
These developments are important to understand the situation of the company’s staff. Many of
the middle managers, who were in scope of my analysis, had been with the company for at least
15-20 years and had never worked for other organizations. They had originally joined a
Using Financial Incentives to Drive Organizational Change
27
successful and highly prestigious airline at a time when the industry was still in its boom times.
The company offered attractive career prospects, an international environment, and competitive
compensation levels. Over time, however, the employees witnessed the decline of the air travel
industry’s profitability, increasing cost pressures and frequent changes in the company’s
ownership – every time accompanied by further cost saving measures and shifts in strategy.
Several of the interviewed middle managers mentioned that they could have made more money
outside of the industry, but still preferred to stay because they enjoyed the work so much. This
contrasts quite sharply with the top management, which consisted mostly of outsiders who had
joined the organization more or less recently, and junior staff, who typically had a rather short
tenure.
The following chart depicts the relevant organizational structure.
Figure 2, Research site organizational chart (simplified)
Passenger Servicesca. 1000 FTE
Ramp Servicesca. 1000 FTE
CentralServices
ca. 100 FTE
Head of Passenger Services
Group Management
Station CEO
Unit Heads
Head of RampServices
Using Financial Incentives to Drive Organizational Change
28
The airport station is run fairly independently and is managed by a local CEO, who reports to
the executive group management. The direct reports of the CEO include a Head of Passenger
Services and Head of Ramp Services as well as several central services (finance, HR, planning,
etc.). Passenger Services includes the “white-collar” jobs performed at the airport while Ramp
Services deals with baggage handling and related “blue-collar” activities.
The middle management is comprised of ca. 15 Unit Heads, who run organizational units of 50
to 200 FTE (full time equivalents, headcount is about 30-50% higher). These organizational
units typically deal with one to two major airport processes such as check-in and gate handling,
cargo loading and unloading, baggage transportation, lounge management, etc. The Unit Heads
are responsible for the entire day-to-day management of their departments, including resource
demand planning, staff selection, on-going people management and performance evaluations,
and customer interactions with regards to their area of responsibility. Unit Heads are measured
based on input (number of resources used) and output performance indicators (service level
achievement) as well as a number of qualitative objectives.
The Change
In late 2010, the company was undergoing a major cost reduction program at the station in
scope of my research. The objective of this program was to identify cost savings opportunities,
mostly through process or technological changes, to offset revenue declines driven by lower
price levels.
The company employed the help of an external consulting company to run this cost reduction
program. The consulting firm chose to use a “bottom-up” idea generation process that involved
a fairly large number of staff from all departments to come up with possible improvement ideas.
Employees would participate in several rounds of idea generation workshops, remain involved
Using Financial Incentives to Drive Organizational Change
29
in the following detailed assessment of possible improvements, and would eventually also
champion the implementation of their ideas.
As one result of this process, there was fairly widespread involvement of employees throughout
the organization. However, the involvement of Unit Heads (the middle management layer)
varied. While some actively participated in the idea generation process, others were rather
reluctant to participate or even openly opposed any changes that would result in a larger
deviation from the status quo.
Hence, the company looked for a way to solidify the involvement of those Unit Heads who
already actively participated in the project and to also obtain the commitment of their more
critical peers. Eventually, the decision was taken to implement a new incentive scheme that
would make it financially more attractive for Unit Heads to look for cost saving opportunities.
The underlying assumption of this incentive system was to change the way Unit Heads would
do resource planning – eventually, the aim was to use fewer resources whenever possible.
Examples of how a Unit Head could achieve this objective include planning shorter shifts (e.g.
7:45h or 7:30h instead of full 8:00h) or not replacing employees who are sick and cannot come
to work. Those are all measures that naturally could be unpopular with the work force – by
offering a new bonus scheme that would allow Unit Heads to participate in savings that they
implemented (vs. budget), the company expected that managers would act in a more
entrepreneurial fashion and implement also unpopular measures.
The new incentive scheme was introduced in April 2011 and remained operational until the end
of that year. The initial experiences with the incentive scheme were mixed. While some Unit
Heads reacted positively, there was also critical or cynical feedback. Therefore, the company
decided to stop the new scheme after the first cash bonus payments had been made in 2012.
Using Financial Incentives to Drive Organizational Change
30
There was, however, the understanding that a new reward model would be introduced in 2014
to compensate for the financial loss.
I conducted the interviews at the research site in 2013, when the originally introduced incentive
program had already been stopped, but no new replacement program had yet been announced.
My interviews covered the entire period from 2010 (before introduction) through 2011
(introduction) until 2013 (after withdrawal of the additional reward opportunity).
Figure 3, Timing of new incentive scheme
Old incentive scheme
Until 2011 Unit Heads received a two-tier variable compensation. One part of the variable
compensation depended solely on the achievement of the station’s annual EBIT target. If the
target was hit, all Unit Heads and other employees in a team-leading role received a lump sum
bonus of CHF 4’000. If the EBIT target was not hit, there was no payment at all.
In addition, there was a second, more individually oriented bonus component that was based on
the result of the annual performance evaluation process. Depending on their degree of reaching
Cost saving program
Introduction of new incentive scheme
Removal of new incentive scheme
Inter-views
Incentive scheme operational
Time period covered through interviews
2010 2011 2012 2013
Using Financial Incentives to Drive Organizational Change
31
agreed objectives Unit Heads would receive a certain percentage of a maximum bonus amount
of 5% of their base salary. Typically, this percentage was around 70-80%. Objectives used as a
basis for this bonus calculation were of quantitative and qualitative nature, but there was no
single hard quantitative target used for calculating financial rewards.
In a typical year, Unit Heads would receive a total variable compensation of 4-8% of their base
salary based on both bonus components.
New incentive scheme
The main objective of the new incentive scheme was to change the behavior of Unit Heads. The
company envisioned that Unit Heads would generally act more cost consciously and become
more pro-active in identifying possible cost savings opportunities, if they could financially
participate in the achieved savings. As mentioned above, some Unit Heads had already been
fairly involved in the 2010/2011 cost optimization project while others were rather reluctant. The
reward model should address both groups – it should solidify the behavior of those managers
who already acted in a cost conscious way and trigger a behavior change in the others.
To achieve these goals, a third bonus component was introduced. This so-called performance
bonus (‘PEB’) was directly linked to the amount of resources (calculated as staff hours) used in
comparison to the agreed budget. Whenever a Unit Head used fewer resources than budgeted
in any given month, he or she would receive a positive allocation on this bonus account.
Excessive resource usage in a month would, on the other hand, reduce the amount in a Unit
Head’s bonus account with a cap on both, positive and negative allocations in any given month.
Using Financial Incentives to Drive Organizational Change
32
Figure 4, New reward model calculation scheme (simplified)
To ensure that Unit Heads would not focus exclusively on cost reductions at the expense of
their qualitative targets (e.g., staff satisfaction and customer service levels), the bonus amount
in a Unit Head’s account would still be multiplied with a qualitative goal achievement factor at
the end of the year, i.e., in the example depicted in the above graph the Unit Head might only
receive 80% of the CHF 6,000 if this was his or her qualitative goal achievement factor.
Overall, with the newly added performance bonus component, the total variable compensation
of a manager could more than double reaching ca. 15% of base compensation.
Data gathering and analysis
I performed interviews with a total of nine managers at the research site. Out of those, seven
were Unit Heads (the main target audience of the new incentive scheme), one was an
Operations Control Manager who supported Unit Heads in the resource planning and
scheduling process and also received a performance bonus, and one person was a member of
Last quarter of previous year
Current year First quarter of following year
12 x Building up individual bonus account
Definition of monthly resource budget based on volume
Actual resource
usage
Analysis of difference
1'000 900
-300
1'000 1'000
-300 -100
1'000 400 300
1'000 100
6'000
Jan Feb Mar Apr May Jun Jul Aug Sep Oct Nov Dec Total
Using Financial Incentives to Drive Organizational Change
33
the senior management team and headed the entire Passenger business. The latter did not
receive any performance bonus, but contributed his view of how his direct reports reacted to the
new reward scheme. One of the Unit Heads had been in a different role when the performance
bonus was introduced and hence did not participate in the original bonus scheme. The average
company tenure of my interview partners was 27 years with a range from 18 to 35 years.
All interviews were conducted within a two-week timeframe in October 2013. The single
interviews lasted between 60-90 minutes and followed the guideline included below. Depending
on the interviewee’s role and interest, some additional time was also spent on general
discussions of the company’s strategy and potential ideas around future incentive schemes.
1. Personal background a. Since when have you been working for the company, since when at this station? b. What is your role? c. Since when have you been in that role? d. What was your role at the time of implementation of the performance bonus (PEB)?
2. Involvement in PEB a. Where you involved in the design of PEB, if so to which extent? b. Were you one of the recipients of PEB? c. Did you actually receive a PEB bonus? If so, how much (as a percentage of your salary)? d. Do you know how PEB is calculated?
3. PEB Introduction a. How did you first learn about PEB? b. Do you remember your first intuitive reaction to PEB? What were your first feelings? c. Why do you think management implemented PEB? d. Did you see any connection between PEB and a larger change that was triggered by the cost saving initiative at that time?
4. Change in behavior a. Can you provide me with examples of concrete actions that you took because of PEB? How much savings did you implement successfully? Would you have implemented those savings without PEB being present? b. How did you explain those savings to your team members or peers? How did you explain them to your boss? c. How did you feel about those savings? How did you feel when communicating them to your team? d. How did you feel about reviewing savings targets with your boss? Did the regular review process help you improve your work?
Using Financial Incentives to Drive Organizational Change
34
5. Team work a. Do you think that your peers or other managers contributed more or less from PEB than you did? b. How did you feel about that? c. Did you view of your colleagues change at all when PEB was introduced? If so, how? d. Did your relationship to your team members change when PEB was introduced? If so, how? e. Did your relationship to your boss change when PEB was introduced? If so, how?
6. Own motivation a. Did PEB change how your saw your role? b. Did you feel more motivated to perform your work in general? c. How did you focus on the areas covered by PEB, what exactly did you do to maximize your bonus? d. What did you do differently from before PEB had been introduced?
7. Discontinuation a. Why do you think PEB was discontinued? b. What did you feel when you learned about the discontinuation? c. What was the impact on your level of compensation? How do you feel about your level of compensation without PEB? d. Are you still trying to implement savings? Can you provide me with a concrete example of a savings idea that you implemented after PEB had been discontinued? e. What – if anything – has changed in how you view your work since PEB first has been introduced and then later discontinued?
Table 2, Interview questionnaire
The following table summarizes the roles and backgrounds of my interview partners.
Interviewee Current role Tenure with company (in years)
Tenure in role (in years)
PEB recipient
A Head of Passenger Services >20 >5 No B Unit Head Departure Services
Support 22 1 No
C Operations Control Manager 26 6 Yes (reduced)
D Unit Head Transport and Push-‐Back
28 2 Yes
E Unit Head Transit and Ticketing 35 2 Yes F Unit Head Ramp Services 33 2 Yes G Unit Head Load Control 26 2 Yes H Unit Head Dedications 27 2 Yes I Key Account Manager 18 1 Yes
Table 3, List of interview partners
Using Financial Incentives to Drive Organizational Change
35
Following the interviews, I prepared transcripts and performed a first coding of interviewee
responses. I particularly looked for statements that would support the theoretical concepts
identified during the review of existing literature on the topics of change management and
incentives. I tried to be mutually exclusive when assigning statements or evidence provided in
interviews to one of the categories, but naturally there are some correlations – for example,
interview partners showing evidence of a positive price effect of the monetary reward will also
be more likely to provide examples of short-term behavior compliance.
Figure 5 depicts the data structure used in this analysis and the following chart shows the
percentage of interviews that contained evidence (statements, opinions, examples of
implemented actions) for the various theoretical concepts.
In the following sections, I will analyze the findings with regards to each theoretical concept in
more detail.
Using Financial Incentives to Drive Organizational Change
36
Figure 5, overview of interview data structure
Motivationalimpact of money
Commitmentto change
Costly removalof incentives
Money as 'psychological'
frame
Theoretical conceptsAggregate theoreticalpropositionsFirst order codes
• Signs of positive reception of incentive at introduction
• Statements about change in focus at work• Evidence of extra savings due to PEB
• Mentioning of negative feelings at introduction of PEB
• Statements around feeling loss of self-determination, lower perception of task attractiveness, lower loyalty towards company
• Examples of implemented savings after introduction of PEB
• Continued focus on savings and increased risk-taking / entrepreneurship even after PEB removal
• Statements around cooperation with peers• Reduced / improved self-esteem at work• Mentioning of fairness, comparison of self
to peers
• Statements about perceived fairness of the incentive scheme, comparison of self to others in terms of bonus received
• Mentioning of increased pressure or stress level due to higher variable compensation
• Discontent with removal of PEB• Description of compensation without PEB
as being not sufficient
Positive price effect of extrinsic incentive
Crowding out of intrinsic motivation
Short-term behavior compliance
Status quo bias
Long-term attitude change
Cooperationwith peers
Feeling of envy and stress
Using Financial Incentives to Drive Organizational Change
37
Figure 6, Evidence for theoretical concepts
Motivational impact of money
Based on the literature research, I expected to find two motivational impacts of a newly
introduced incentive model (Gneezy et al., 2011) – a direct positive price effect that would
increase employee motivation and an indirect psychological effect that would crowd out some of
the employee’s intrinsic motivation. Fehr and Gächter (2000) showed that the introduction of an
explicit reward model, such as the performance bonus introduced in my research setting, has an
overall negative motivational impact in a laboratory experiment.
The interviews I conducted show clear evidence for both effects. 63% of my interview partners
indicated that they felt motivated to follow the new behaviors and perform at a higher level
through the introduction of a new financial incentive. Some of the key comments include:
Percentage of interviews showing evidence for…
63
50
50
13
38
75
50
long-term attitude change
impact on cooperation
feeling of envy and stress
status quo bias
positive price effect
crowding out of intrinsic motivation
short-term behavior compliance
Motivational impact of money
Commitment to change
Money as psychological frame
Costly removal of incentives
Using Financial Incentives to Drive Organizational Change
38
“I tried to achieve a good result so that also my wife would be happy [referring to the additional
income available to the family]”
“Yes, it was a very attractive bonus - financially very interesting”
“I really tried to get higher savings wherever I saw an opportunity”
“I found it interesting and welcome! … It was always at the back of my mind - I was thinking
what do I need to do to get those 2%"
On the other hand, there were also statements that clearly indicated some crowding out of
intrinsic motivation in 50% of my interviews. These statements included comments such as:
“To me this felt like management wanted to turn us into small ‘hustlers’ like the people you find
in banks. I'm not into this kind of ego trips"
“I took the money, but I'm not motivated by it. I'm more concerned about what others think about
me… when I read my job spec it says what I should do. I don't need to be paid extra to follow
it… when my boss tells me ‘you have to do this’ I will try my best, but when he gives me money
to do it, I don't”
“It's a nice to have, but goes into the wrong direction. Individual performance is a character trait,
but nothing that should need additional compensation”
Interestingly, the responses of my interview partners were relatively ‘black and white’ with
regards to a positive or negative motivational impact. There was only one interview partner who
provided explicit evidence of both effects – all the others expressed either a purely positive or
negative view of the incentive program.
When looking at the interview partners in more detail, there is some evidence that interview
partners with lower base compensation levels viewed the extra reward more positively and also
Using Financial Incentives to Drive Organizational Change
39
generally tended to be more likely to change their behavior. This concerns especially the
younger, less tenured managers, some of whom have substantially lower levels of
compensation than their more senior peers. Therefore, for a manager with lower base pay the
additional bonus potential would seem more generous in relation to their overall level of
compensation and could really have a ‘life-style impact’ that might off-set possible negative
thoughts.
Another observation is a noticeable difference in how managers in the Ramp and Passenger
unit reacted to the incentive program. Looking at the two units, there are some noticeable
cultural differences between the two. Using Schein’s (Schein, 2004) definition of culture as “a
pattern of shared basic assumptions that was learned by a group as it solved its problems of
external adaptation and internal integration, that has worked well enough to be considered valid
and, therefore, to be taught to new members as the correct way to perceive, think, and feel in
relation to those problems” (p 17), one could trace those differences back to the different
developments the staff in the units went through. In the Passenger area, which covers mostly
‘white-collar’ tasks, many of the staff are fairly young, a large share works part-time (for
example, students), there is an equal share of female workers, and many of the employees are
not fully dependent on their job with the company. Mostly, they don’t need to support a family
and only look for flexible working hours.
The Ramp area has quite different characteristics – here, nearly all employees are male, most
come from modest educational backgrounds, many have been with the company for a long-
time, depend on their income to support a family, and frankly do not have too many outside
options. The work is physically demanding and dangerous as shown by occasional accidents.
These differences led to the emergence two distinct cultures, which becomes visible in the way
managers view their role and how they interact with their staff. To illustrate this difference, let’s
Using Financial Incentives to Drive Organizational Change
40
see how two managers, one from the Passenger and one from the Ramp side, each responded
to the question how they felt when communicating saving measures to their staff:
Passenger services: “I just said we're going through tough times. I had no problem with it. Staff
didn't know about my bonus.”
Ramp services: “This is the wrong way. I felt like we should push our employees into the ‘pain
zone’ … only focused on economics, but not at all on staff…. we should push our staff like
slaves. It felt irresponsible.”
These differences impacted how managers described the impact of the new incentive program
on their intrinsic motivation. Ramp managers were more likely to make statements that support
the crowding out hypothesis. It is also important to note that the company had introduced PEB
explicitly as a new financial reward geared towards achieving higher cost savings from Unit
Heads. It is likely that this ‘framing’ of the incentive scheme contributed to some of the negative
reactions from the Ramp side as it automatically resulted in a negative connotation of the new
bonus program as yet another cost saving initiative in an already stretched situation. This way
the company also positioned the incentive as a payment to Unit Heads for putting additional
pressure on staff. Using a different framing, for example by incorporating PEB into the existing
bonus scheme, might have resulted in less negative reaction from Ramp staff.
Commitment to Change
Commitment to change manifests itself in a mind-set that “binds an individual to a course of
action deemed necessary for the successful implementation of a change initiative” (Herscovitch
& Meyer, 2002). If we want to measure commitment, we can look for evidence of this mind-set
(e.g. through positive statements about the change or the objectives of the change) and we can
also identify concrete evidence for behavior that is in line with the change. Herscovitch and
Using Financial Incentives to Drive Organizational Change
41
Meyer (2002) distinguish between focal behavior and discretionary behavior. Focal behavior is a
course of action that an individual is bound to by his commitment (e.g., remaining with the
organization, following basic requirements of the job), while discretionary behavior is any
additional course of action that is at the discretion of the individual (e.g., exerting extra effort).
With regards to change commitment, I expected to find that a new financial incentive, directly
linked to behavior change, could lead to continuance commitment if it makes leaving the
organization more costly for the employee. Evidence could be provided by concrete examples of
focal behavior. However, in this particular case it will be difficult to judge whether the
continuance commitment is a result of the extra reward opportunity or would have been exerted
in any case. Given that all my interview partners showed focal behavior as they remained with
the organization and performed their (mostly new) roles, even though not all of them received a
substantial extra reward, we cannot infer that PEB increased the level of continuance
commitment.
Normative or affective commitment could be demonstrated by discretionary behavior. In our
case, this would include the implementation of savings measures. However, to be clear that
such behavior is the result of change commitment and not a direct price effect linked to the
financial incentive, it would need to be accompanied by some form of mind-set or long-term
attitude change. Ideally, we would like to see the behavior remain even if the financial incentive
is taken away.
Around half of my interview partners provided examples of discretionary behavior that was in-
line with the change objective of creating a more entrepreneurial and cost conscious
environment. Examples for concrete courses of actions include:
“Yes, there were several concrete ideas that I helped to implement - for example, we reduced
staff in the ticketing office.”
Using Financial Incentives to Drive Organizational Change
42
“I took higher risks in staffing [note: the risk of being understaffed and not meeting service
levels], and, for example, I exchanged staff with other departments.”
“I did some small adjustments, e.g. saving in training hours”
“Yes, I made a lot of changes in shift plans”
However, at the same time there was only one interviewee who felt that the implementation of
the new reward scheme had a lasting effect, stating that “PEB was a trigger to try new things”
and resulted in “more proactive planning”. None of the others linked their actions to any lasting
mind-set change, and, as one interview partner pointed out, they might have enacted the same
behaviors also without an explicit incentive: “Those who had been proactive before continued
doing so… there were no lasting savings due to PEB… most of what we did was not replacing
sick people and reducing some of the back-office hours”.
Therefore, it feels safe to conclude based on the interview results that the incentive scheme did
not result in higher change commitment. Even though, we could observe some concrete actions
that were in line with the new behavior, it seems that those were directly linked to the extrinsic
motivation provided through extra compensation, but not through an increase in commitment as
shown in the below graph.
Using Financial Incentives to Drive Organizational Change
43
Figure 7, Relationship between financial incentive and new behavior
On the contrary, it is possible that the company even destroyed some affective or normative
commitment of those individuals who strongly rejected the incentive program for reasons
mentioned in the previous section, as negative emotional experiences can contribute to lower
change commitment (Seo at al, 2012).
Money as psychological frame
Introducing the concept of “money” into any interaction can make people feel more self-
efficacious, which makes them less likely to cooperate with others (Zhou, Vohs & Baumeister,
2009; Voh et al., 2006). Whenever an organization uses financial incentives to change
employees’ behavior, it consequently runs the risk of losing some of the benefits from
cooperation between staff with likely negative long-term consequences. Implementing a new
reward scheme, such as the performance bonus at my research site, can lead to higher
transparency when managers realize that they do not receive the full reward potential and
hence earn less than some of their peers. Also, this feeling of being undercompensated has
Financial Incentive New behavior
Commitment to Change
Using Financial Incentives to Drive Organizational Change
44
been associated with various detrimental outcomes such as turnover and lower product quality
(Mitchell & Mickel, 1999).
During my interviews, I found some evidence for a deterioration of the level of cooperation
between peers. By three of the my interview partners such an effect was hinted through
statements like:
“It became more competitive as there was a direct monthly comparison. Some of the Unit Heads
were very adamant - they came to me and said "You have to do this or that because of PEB!".
There were also discussions around exchanging staff that we did not have before. As a result, a
trainee program got cancelled because nobody wanted to cover the cost.”
“People became more pedantic and cooperation suffered”
“There was some mistrust and envy”
Much stronger was the evidence that nearly all managers who did not receive the full bonus felt
treated unfairly compared to their peers as evidenced by the following assertions:
“It triggered discontent. People were happy with what they got until they saw the direct
comparison to what others received.”
“It felt unfair and unproductive, some people were just lucky. Overall, this was more frustrating
than motivating. Nobody wanted to admit that they were interested in it, but then everyone
spoke about PEB.”
“Overall, it felt unfair - especially those, who wanted to achieve the bonus but couldn't, got very
frustrated.”
“I really tried hard to get savings, but others had more without doing much for it.”
Using Financial Incentives to Drive Organizational Change
45
With lower cooperation levels and increased dissatisfaction with individual compensation the
company incurred some negative psychological side effects through in the introduction of the
new reward model. I have, however, no clear evidence that this resulted in any tangible short-
term or long-term consequences. While interviewees claimed that cooperation suffered to some
extent, and some mentioned their dissatisfaction due to a perceived unfairness of the system,
all also said that today, after PEB has been discontinued, they do not feel any lasting impacts
on their peer relationships.
People relate differently to the concept of money (see also Mitchell & Mickel, 1999). While some
of my interview partners welcomed the additional challenge and felt motivated by the
opportunity to increase their income, others had mostly negative associations and mentioned
feelings like being ‘bribed’ or being controlled. Two interview partners even noted that ‘taking
money’ would have a negative impact on their self-esteem. Interestingly, the timing of my
interviews coincided with a public discussion of exaggerated management salaries in
Switzerland, which likely contributed to the strength of some statements.
Before deciding on the introduction of incentives as part of a change program, an organization
would need to get a good understanding of how the affected employees relate to money. This
was also reflected by the statement from a member of the senior management (who was not a
direct recipient of the bonus):
“Some people changed their behavior, others less. Good performers were sometimes frustrated
and the bad performers didn't really improve by that much. People here were used to a bonus of
a few percent, now suddenly they had the opportunity to get 15-20 thousand. They could not
handle this sudden change.”
Using Financial Incentives to Drive Organizational Change
46
Costly removal of incentives
The status quo bias (endowment effect) is a cognitive bias that explains a strong preference for
the current state of affairs (Kahneman, Knetsch & Thaler, 1990). People experience any
deviation from this current baseline as a loss. For financial incentives this implies that
employees will always look at their current level of compensation as a baseline. If a rise in
compensation is granted, the new, higher level of pay will quickly become the new baseline for
employees and any deviation back to previous levels will be looked at negatively. In addition,
people generally overweigh losses compared to gains and are very reluctant to give up any
goods they have already acquired. So, removing an additional compensation once it has been
granted could imply that employees will be less satisfied with their pay than they were originally
at the same level of compensation as shown in the below illustration which one of my interview
partners drew up to express how he felt.
Figure 8, status quo bias
Level of compensation
Time
Before introductionof additional incentive
After discontinuing additional incentive
Using Financial Incentives to Drive Organizational Change
47
During my interviews, half of the managers made statements indicating some level of discontent
with their level of compensation after the performance bonus program had been discontinued.
These included statements such as:
“I lost around 5000 in compensation. I would feel very bad if this was not compensated.”
“I would be unhappy if there's no replacement for PEB. I don't think that I would leave the
company, but I surely would be discontent with my level of compensation. PEB set-off some of
the raises we did not get in the last years.”
“I would be quite unhappy without a replacement for PEB.”
Naturally, there was a relatively large overlap between the persons who generally reacted
positively to the introduction of PEB and those who expressed discontent about the
discontinuation, but there were also exceptions such as a manager who had very much
opposed the explicit nature of PEB (link to cost savings), but also felt strongly that a
replacement should be found.
It was interesting to see that some of my interview partners reacted quite strongly and
emotionally as I first asked them about their feelings when they learned that PEB would be
discontinued. Later, however, they would add some more rational reasons why the company
either has an obligation to or would profit from introducing a replacement reward, such as “PEB
was only introduced to offset prior years’ low salary increases” or “not offering a replacement
would be unfair to some of my peers”. This could have been an ex-post rationalization (Steel,
Spencer & Lynch, 1999) of their feelings to protect a self-image of ‘not being greedy and
motivated by money’.
Using Financial Incentives to Drive Organizational Change
48
Summary of findings and discussion
With this paper I aimed to summarize the theoretical concepts regarding the use of financial
incentives in change situations and test those concepts’ practical applicability in a case study.
Furthermore, I wanted to provide answers to the following questions:
• What are the short-term and long-term effects of a financial reward as part of an
organizational change program?
• Are there specific change situations that warrant or prohibit the use of financial
incentives?
• Which are the most important considerations regarding the design and implementation
of a reward scheme?
Through the case study I found evidence for most of the theoretical propositions that I could
derive from the existing literature on change management and financial incentives.
In the remainder of this section, I will provide answers to the research questions and will then
summarize the managerial implications of my findings in the next section.
What are the short-term and long-term effects of a financial reward as part of an
organizational change program?
While laboratory experiments often found that explicit financial incentives have a larger negative
crowding out effect than a positive extrinsic motivation effect (Frey & Jegen, 2001; Fehr and
Gächter, 2002), my research indicated that there are distinct employee groups or organizational
cultures that favor one over the other. Some employees, especially when a possible reward is
high compared to their base compensation, focus purely on the monetary gain and ignore
potential implications on their intrinsic motivation. For these employee groups using financial
Using Financial Incentives to Drive Organizational Change
49
incentives can have a positive short-term implication in terms of seeing the targeted behavior
change.
Other employees, who have a different mental concept of money or have been socialized in a
different organizational culture, put substantially more emphasis on intrinsic motivators and can
react negatively to an explicit behavior-linked reward model, even in the short-term.
I could not find any evidence that the financial reward increased change commitment.
Therefore, the observed positive effects are likely to vanish once the reward is taken away,
which leaves no long-term positive effect.
At the same time, there are critical psychological effects. Increasing financial rewards can have
negative effects on cooperation and lead to higher stress levels and survival anxiety. Most of
these effects mean that the long-term implications of a change-based reward model are likely
negative for the organization.
Are there specific change situations that warrant or prohibit the use of financial
incentives?
Based on the above-mentioned findings regarding the effect of financial rewards in a change
situation, there are certain situations that would warrant the introduction of an explicit behavior-
linked reward model to drive behavioral change. These situations are characterized by two
aspects:
• A high degree of time-criticality of the new behaviors, for example, if an organization
faces a situation where certain behaviors need to be changed immediately to prevent
severe negative consequences (e.g., threat of bankruptcy)
• An organizational culture that embraces competitiveness and monetary compensation
(for example, a sales-driven organization or unit)
Using Financial Incentives to Drive Organizational Change
50
If those conditions are met, the introduction of an additional financial incentive linked to the new
behaviors can be justified. The same applies to situations where it is clear that a certain
employee group will lose out during the change process (for example, when a unit is closed),
but still needs to actively support the change. Also here, the positive short-term effect is likely
going to outweigh long-term negative consequences.
Independent of the situation, an organization should always ensure that existing incentive
schemes are in line with new behaviors.
Which are the most important considerations regarding the design and implementation
of a reward scheme?
Using financial incentives to drive behavior change brings with it certain risks: there can be
negative impacts on cooperation and long-term intrinsic motivation. In addition, incentive
schemes are costly and difficult to remove once introduced as employees quickly get used to
higher compensation levels and see them as the new ‘normal’.
One important consideration in the design and introduction of a reward model is therefore the
framing of the model. A financial incentive during a change program can either be introduced as
directly linked to the change program and as a new reward ‘on-top’ of existing compensation
models or it could be integrated in the bonus model the organization already has in place.
The first framing is more likely to trigger strong reactions as we have seen in the case study.
Also in the second framing, the organization could quite explicitly compensate employees for
quickly adapting new behaviors, but some of the potential negative side effects could be
contained as the company stays within the boundaries that are well known to staff. Given that
any organization would need to ensure that existing reward models do not contradict new
behaviors, a basic review and some adjustment is likely going to be required in many change
situations.
Using Financial Incentives to Drive Organizational Change
51
Practical implications
An organization that is undergoing a major behavioral change effort and considers the use of
financial incentives to trigger or solidify behavioral changes needs to be very prudent in the
design and implementation of such a reward model. The company in my case study eventually
decided to withdraw the reward scheme. This was partly driven by discontent and questioning of
the program’s fairness by some of the managers, and partly by the limitations the program
placed on senior management’s ability to directly interfere with departments’ resource planning
decisions. The latter resulted in frequent discussions around bonus eligibility for savings
decisions that were mandated and not based on a manager’s decision.
The program did have a short-term positive impact (in terms of seeing targeted behavior) with
around half of the interviewed managers. However, as we discussed before, this impact was not
due to an increase in commitment to change, but rather due to a direct motivational effect of the
monetary reward that ceased once the reward was taken away.
Therefore, a reward model cannot be seen as a substitute for other activities targeted at
increasing commitment (such as offering an opportunity to contribute to the design of a change,
role modeling, intense communication, and training), but rather as a supporting measure next to
the regular change program. Whether such a measure generally makes sense depends on the
individual preferences of an organization’s employees, on the corporate culture and on the
specific needs of the situation as discussed above. The possible options for an organization are
summarized in the below figure.
Using Financial Incentives to Drive Organizational Change
52
Figure 9, Situational use of incentives to drive change
• Financial incentives are likely costly and only provide short-term benefits
• Look for lower cost alternatives to monetary rewards
• Focus on building commitment and intrinsic motivation
• Incentives expected to result in short-term behavior adoption
• Use explicit incentives to drive change but prepare to manage mid- to long-term negative side-effects
• Do not use explicit financial incentives to drive change
• Use other means to create sense of urgency and commitment
• Negative effects of explicit incentives likely prevail – crowding out of intrinsic motivation, increase of stress, loss of cooperation
• Potentially use performance bonuses only for key persons
• Use other means to create sense of urgency and commitment with all staff
High
Low
Cultural receptiveness
for financial incentives
Low HighTime-criticality of situation
Using Financial Incentives to Drive Organizational Change
53
Future research and limitations
Given the complexity of large organizations and of the relationships of individuals working within
those organizations, not all change situations are fully comparable. Organizations differ in
prevalent leadership styles, values, work ethic, and many more factors. They are influenced by
the environments they operate in and face very distinct market challenges. Change situations
are also influenced by a number of contextual factors such as the driver of change (strategy- or
technology-driven), focus on cost improvements, or changing customer needs.
My research builds on a broad review of available literature, but the case study might only
reflect one specific organizational reality and one change program. Therefore, the findings
cannot be fully extrapolated to all other change situations in other organizations. Also, this is not
a longitudinal study and cannot take into full consideration how the same employees felt before,
during, and after the introduction of the organizational change.
Based on the findings in the case study, I built the hypotheses that the use of financial
incentives to drive change can be justified in certain organizational cultures and situations, and
that the framing of an incentive could help alleviate some of the negative psychological side
effects of monetary compensation.
Both are questions that would warrant more investigation, especially across a broader set of
organizational cases.
Using Financial Incentives to Drive Organizational Change
54
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