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Earnings-at-Risk Incentive Plans: A Performance, Satisfaction and Turn

over Dilemma

Article  in  Compensation & Benefits Review · July 2001

DOI: 10.1177/08863680122098441

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 EAR PLANS
Note

Earnings-at-Risk Incentive
Research

Plans:A Performance,
Satisfaction and
Turnover Dilemma
Robert W. Renn, Ph.D. W. Kevin Barksdale, Ph.D.
Associate Professor General Manager
of Organizational Behavior Chuck Hutton Toyota,
Fogelman College of Memphis, Tennessee
Business and Economics

James R. Van Scotter, Ph.D.

Assistant Professor of Management EAR plans can produce
Fogelman College of
Business and Economics both positive and negative
results.

ncreasing domestic and foreign compensation plan. The findings should be use-

I
competition has caused com-
pensation specialists to alter the
focus of pay plans from develop-
ing a stable workforce to reduc-
ing wage costs and increasing
productivity.1 Earnings-at-risk
(EAR) incentive plans are one
way of achieving these goals, as
they provide managers the flexi-
bility to reward higher perfor-
mance without incurring perma-
nent increases in fixed wage
costs.
Although EAR plans may im-
prove strategically targeted per-
formance behaviors, they also may affect em-
ployee attitudes and behaviors in unintended
ways that counteract the benefits they produce.
This article reports the effects of one EAR in-
centive plan on pay satisfaction, performance
and turnover of a sample of customer service and
sales employees working in the hospitality indus-
try. It also compares the employees’ reactions to
switching from an EAR plan to a merit-based
ful to compensation specialists interested in EAR
plans and especially those concerned with de-
signing and implementing pay plans that take a
balanced approach to managing performance,
satisfaction and turnover.
EAR Incentive Plans
With EAR plans, base wages are set below market
rates, and a bonus pool is created and used to re-
ward employees for achieving performance tar-
gets. The sizes of bonuses vary with performance
objectives set by management and range from a
few dollars to amounts large enough to drive to-
tal pay above what employees could earn in a tra-
ditional salary or hourly rate plan.
The net effect of an EAR plan is to put a por-
tion of employees’ pay at risk. The amount of pay
at risk is equal to the difference between the re-
duced EAR base pay and the pay employees
could earn with a conventional pay policy. By
placing a portion of their pay at risk and provid-
ing them with the opportunity to earn incentive
bonuses, EAR plans are supposed to motivate

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© 2001 Sage Publications

employees to behave in ways that support orga-
nizational goals.
Base Wage Dissatisfaction
and Motivation
Employees’ pay satisfaction emanates from their
evaluations of total pay levels, raises, the struc-
ture and administration of a plan and benefits.2
In particular, they gauge pay satisfaction by com-
paring the amount of each facet they receive with
the amount they believe they should receive. As
the discrepancy between the have and the want
increases, so does pay dissatisfaction.
By lowering base wages, EAR plans produce a
gap in the amount of base pay employees receive
and the amount they want, thereby creating base
wage dissatisfaction. For most employees, base
wage dissatisfaction is unpleasant and motivates
them to alleviate it.
Motivation theory predicts that workers will
try to reduce their pay dissatisfaction by engaging
in behaviors that are rewarded with increasing
frequency. The idea that organizations can in-
crease performance of desired behaviors by low-
ering base pay and increasing employee pay dis-
satisfaction forms the basis for EAR incentive
plans.
In a recent study, Karen Brown and Vandra Hu-
ber examined the impact of an EAR incentive
plan in a retail bank and found that pay satisfac-
tion declined whether employees earned more or
less total pay with the plan.3 Brown and Huber
suggested that the employees may have disliked
the incentive plan because it forced them to ac-
cept lower base wages and earn back pay they
previously received. They also reasoned that the
risk associated with trading stable paychecks for
paychecks that could vary across pay periods
might have contributed to the employees’ pay
dissatisfaction.
In the end, the employees’ negative reactions
caused the bank to abandon the EAR incentive
system and replace it with a traditional merit-
based pay plan. Although Brown and Huber’s
study did not address the impact of the EAR plan
on employee performance or turnover, high lev-
els of dissatisfaction would be expected to have
some influence on these outcomes.
Unintended Consequences
EAR plans are designed to encourage employees
to reduce their base wage dissatisfaction by work-
ing harder and earning incentive pay tied to per-
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EAR PLANS
Research
formance standards set by management. Howev-
er, working harder to achieve performance tar-
gets is not the only recourse for alleviating base
wage dissatisfaction.
Some employees, especially those who dislike
Note
the risk accompanying EAR plans or who feel the
company betrayed them by switching pay plans,
may cope by quitting and going to work for an
employer whose traditional hourly wage or salary
plan pays at or above market levels.4 Thus, the
EAR plans are designed to
encourage employees to
reduce their base wage
dissatisfaction by working
harder and earning
incentive pay tied to
performance standards
set by management.
base wage dissatisfaction created by EAR plans
may motivate some employees to improve their
work performance and others to look for another
job. This could be particularly problematic for
companies competing in tight labor markets and
when high-performing employees are the ones
leaving.
Switching from an EAR Plan
to a Traditional Pay Plan
In the Brown and Huber study already men-
tioned, the bank reverted to a traditional hourly
wage plan following their employees’ negative re-
actions to the EAR plan. Unfortunately, the re-
searchers did not have an opportunity to assess
whether the employees’ pay satisfaction recov-
ered after implementation of the traditional pay
plan or whether the two plans were associated
with different levels of performance and
turnover.
However, logic suggests that EAR incentive
plans and traditional hourly or salary plans may
produce different patterns of pay satisfaction, job
performance and turnover. For example, EAR
plans would be expected to produce higher levels
of targeted performance behaviors than tradi-
JULY/AUGUST 2001 69
 EAR PLANS
Note
tional hourly plans because of the motivating
conditions explained earlier. Furthermore, tradi-
Research
tional hourly plans usually fail to provide timely
positive reinforcement for attaining work goals,
and they can weaken instrumentality beliefs, or
beliefs that high job performance will lead to fi-
nancial rewards.
By contrast, traditional wage plans may be as-
sociated with higher base wage satisfaction than
EAR plans simply because base wages are higher,
stable and guaranteed. In EAR plans, employees
lose base pay and experience uncertainty about
how much total pay they will earn from one pay
period to the next. Generally speaking, individu-
als value uncertainty reduction and react more
strongly to losses than to gains.5 This may explain
why the bank employees experienced pay dissat-
isfaction with the EAR plan regardless of whether
they lost or gained money with the plan.
Traditional compensation plans are simpler
and easier for employees to understand than EAR
plans. Therefore, their satisfaction with the struc-
ture and administration of the pay plan should be
greater with this type of pay plan than with an
EAR plan. Last, if employees are more satisfied
with base wages and the structure and adminis-
tration of a traditional pay plan than an EAR plan,
then they may be less likely to quit their jobs.
The Study
The research for this article was conducted in a
customer-service center of a hospitality company
located in the southeastern United States. Sever-
al months before this study, the company aban-
doned annual wage increases for an EAR perfor-
mance bonus program. This program involved
lowering the employees’ base wages by approxi-
mately 11% below prevailing market rates and
forming a pool of money from which monthly
performance bonuses could be drawn.
Bonuses were based on volume of guaranteed
reservations, and five tiers of bonuses were creat-
ed. The first bonus brought total pay amounts to
within 3% of market rates. The second bonus put
total pay levels equal to market rates, and the fi-
nal three bonus rates placed total wages above
market rates. The largest bonus placed total earn-
ings 43% above current market rates for the job.
The plan was designed so that 50% of the em-
ployees could achieve a bonus.
Two years after implementation of the EAR
plan, the company experienced recruiting diffi-
culties and high turnover in the customer-service
center. Exit interviews indicated that some em-
70 COMPENSATION & BENEFITS REVIEW
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ployees were leaving to work for competitors who
paid higher base wages. In addition, management
reported that employees were resistant to per-
forming duties not rewarded by the EAR plan.
We randomly selected 167 employees from a
population of 400 full-time employees to partici-
pate in the study. The employees’ jobs consisted
of answering incoming calls, entering reserva-
tions into a computer and providing confirma-
tion numbers to callers. Eighty-seven percent of
the sample was female, with an average of 14 years
of education, 19 months tenure and 26 years of age.
Participants completed two surveys. The first
survey was administered 14 months after imple-
mentation of an EAR plan, and the second survey
was given 3 months after the company switched
from the EAR plan to a traditional hourly wage
plan. Of the 167 participants, only 124 provided
enough information in the first survey so we could
match their responses to performance measures
provided by management. At the time of the sec-
ond survey, 92 of the original participants had left
the company. Thus, the sample size for compari-
son of plans was 75. Statistical analyses indicated
no difference in the demographic makeup of the
original and final samples. It is important to note
that this study is longitudinal but lacks the con-
trol of a field experiment (e.g., a control or place-
bo group). Therefore, the results can be used only
to inform decisions about associations or rela-
tionships and should not be used to inform cause
and effect decisions.
The surveys contained measures of pay satis-
faction, turnover intentions and other aspects of
the pay plan. We measured base wage satisfaction
and satisfaction with pay structure and adminis-
tration with a slightly modified version of the Pay
Satisfaction Questionnaire.6 We measured turnover
intentions with three questions adapted from
previous turnover studies.7 And we measured
employees’ beliefs that they could obtain a posi-
tion earning an equal amount to what they were
earning and used this measure along with the
employees’ age in years, tenure in months, edu-
cation, wage rate and incentive amounts as con-
trol variables in the analyses. Management pro-
vided us with employee sales performance
measures, which were the performance behaviors
targeted and rewarded with incentive bonuses.
Findings
Our review of the literature on EAR plans suggest-
ed that employees working under the EAR plan
and who were dissatisfied with their base wages

EXHIBIT 1
Differences in Pay Satisfaction, Performance and Quit Intentions for Pay Plans
Variable EAR Mean (SD )
Base wage satisfaction 2.01 (0.93)
Pay structure/ administration satisfaction 2.51 (0.72)
Performance 7.51 (2.94)
Quit intentions 3.60 (1.14)
Note: N = 75 (analyses based on employees who participated in both surveys). EAR = earnings at risk; traditional = traditional
hourly wage plan; SD = standard deviation; SE = standard error of mean. Survey measures were rated with a 5-point Likert-type
scale ranging from 1 = lower satisfaction/agreement to 5 = higher satisfaction/agreement.
would work harder to earn greater amounts of in-
centive pay, thereby raising their total pay levels.
(See Exhibit 1.) The statistical analyses supported
this prediction, indicating that base wage satis-
faction was negatively related to sales perfor-
mance (regression coefficient = –.25, p < .01),
even after controlling for market beliefs, age,
tenure, wage rate and incentive amount.
We also found that employees dissatisfied with
base wages reported higher turnover intentions
than those satisfied with base wages. However,
the analyses indicated that base wage satisfaction
was not related to actual turnover.
A comparison of employee reactions to the
EAR versus the traditional hourly wage plan sup-
ported three of our four predictions:
1. Sales performance was significantly high-
er under the EAR plan than under the traditional
plan.
2. Base wage satisfaction was higher for the
traditional plan than for the EAR plan.
3. There was no difference in the level of sat-
isfaction with pay administration/structure be-
tween the two plans.
4. Turnover intentions were greater under
the EAR plan than they were under the tradition-
al plan.
Because 92 of the original participants quit
during the study and base pay dissatisfaction did
not explain the departures, we compared em-
ployees who stayed versus those who left to ex-
plore other reasons for the turnover. The results
indicated that those who left earned lower base
wages, less incentive pay and less total pay than
those who remained throughout the study. How-
ever, the analysis indicated that the leavers did
not perform any worse than the stayers (i.e., the
mean difference in sales performance between
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EAR PLANS
Research
Traditional Mean
Mean (SD ) Difference (SE ) t Value p Value
Note
2.51 (0.96) –0.50 (0.12) –4.17 .001
2.63 (0.60) –0.12 (0.08) –1.59 .12
7.13 (2.46) 0.38 (0.08) 4.75 .001
3.05 (0.97) 0.55 (0.13) 4.23 .001
the two groups was not statistically significant at
the p < .05 level). (See Exhibit 2.)
The analyses also showed that those who left
during the study were less satisfied with their
work schedules and were more likely to work the
evening rather than the day shift. Those who left
were also younger and had less tenure on the job
than the employees who remained. Somewhat
surprisingly, the stayers and leavers did not differ
in their beliefs in pay for performance, expecta-
tions of earning more money under the EAR plan
or understanding of the incentive plan.
Implications
With increasing emphasis being placed on com-
pensation plans that provide flexibility, that do
not increase fixed wage costs and that pay for
performance, compensation specialists need to
understand the motivating mechanisms underly-
ing these plans. They also need to know whether
these plans enhance strategically targeted perfor-
mance behaviors to the detriment of other im-
portant employee attitudes and behaviors. This
study of customer service and sales representa-
tives in the hospitality industry provides a unique
glimpse of how one sample of employees re-
sponded to an EAR incentive plan and how it re-
acted to switching back to a traditional pay plan
after working under an EAR plan for 2 years.
An underlying assumption of EAR incentive
plans is that employees will direct their work ef-
forts toward objectives management deems
strategically valuable when they are dissatisfied
with base wages and can raise total pay
amounts via financial bonuses tied to specific,
attainable performance goals. Our results are
consistent with this assumption. We found that
the employees’ base wage satisfaction was lower
under the EAR plan than with the traditional plan
and that the base wage dissatisfaction created by
JULY/AUGUST 2001 71
 EAR PLANS
Note

EXHIBIT 2
Research

Differences in Stayers versus Leavers

Variable Stayers’ Mean (SD ) Leavers’ Mean (SD ) Mean Difference (SE ) t Value p Value
Sales performance 7.73 (2.96) 6.73 (2.82) 1.00 (0.60) 1.63 .10
Base wage satisfaction 3.66 (1.15) 3.21 (1.23) 0.44 (0.21) 2.06 .04
Pay for performance 0.87 (0.77) 0.47 (0.60) 0.40 (0.15) 2.50 .01
Total pay 7.58 (0.99) 7.00 (0.75) 0.58 (0.17) 3.26 .001
Work schedule satisfaction 3.66 (1.15) 3.21 (1.23) 0.45 (0.21) 2.06 .04
Day or evening shift 0.80 (0.39) 0.47 (0.50) 0.33 (0.07) 4.22 .001
Age 26.60 (6.46) 23.55 (4.17) 3.05 (1.11) 2.73 .01
Tenure 22.37 (20.09) 8.76 (7.58) 13.60 (3.36) 4.04 .001
Pay-for-performance beliefs 3.89 (0.97) 4.05 (0.94) –0.15 (0.18) 0.86 .38
Wage expectations 3.09 (0.90) 3.05 (1.09) 0.04 (0.18) 0.20 .84
Understanding of pay-for-
performance plan 3.22 (1.07) 3.00 (1.16) 0.22 (0.20) 1.10 .27
Note: Tenure reported in months. Day shift = 1; evening shift = 0; SD = standard deviation; SE = standard error of mean. Survey
measures were rated with a 5-point Likert-type scale ranging from 1 = lower satisfaction/agreement to 5 = higher
satisfaction/agreement.

the EAR plan appeared to motivate employees to
raise their total pay levels by increasing their sales
volume.
Although the EAR plan was associated with
higher sales volume than the traditional plan, 92
of the original 167 participating employees (55%)
quit during the 2 years the plan was in place, and
employees’ turnover intentions were greater un-
der the EAR plan than with the traditional pay
plan. Our comparison revealed that leavers per-
formed as well as stayers (at least in terms of sales
volume), but those who departed earned less per-
formance and total pay than the stayers. The em-
ployees who left also were younger and had less
tenure with the organization. In other words, the
EAR plan appeared to retain older, more experi-
enced employees who earned higher base wages,
incentive pay and total pay.
The comparison also demonstrated that those
who quit and those who remained had similar
beliefs about the importance of pay being tied to
performance and similar expectations of earning
more money under the EAR plan than with a tra-
ditional plan. In addition, both groups had a sim-
ilar understanding of how the EAR incentive plan
worked. This suggests that lack of understanding
and concern about earning more or less money
under the EAR plan are unlikely explanations for
the turnover.
By contrast, the analyses indicated that the
employees who quit were less satisfied with their
work schedules and were more likely to work the
evening shift than the employees who stayed.
This suggests that work schedules are one possi-
ble reason for the turnover. For instance, the
leavers may have had less opportunity than the
stayers to attain performance targets and, thus,
earn more incentive pay because they worked
when the volume of sales calls was low as com-
pared to the peak hours that the stayers worked.
Did reverting to the traditional plan raise pay
satisfaction and solve the turnover problem? The
analyses indicated that switching back to the tra-
ditional hourly pay plan, which set base wage
amounts equal to prevailing market levels, was
associated with higher base wage satisfaction
than the EAR plan. In addition, the employees’
turnover intentions were significantly lower fol-
lowing implementation of the traditional plan.
This suggests that replacing the EAR plan with
the traditional plan should have lowered
turnover. However, we had no data to evaluate
actual employee departures after the organiza-
tion switched to the traditional plan, and, there-
fore, we must consider this conclusion tentative.
Conclusions
This study suggests that managers may face a
quandary with EAR incentive plans. These pay
plans may prompt higher targeted performance
behaviors, but they also may be linked to lower

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 EAR PLANS

base wage satisfaction, higher turnover and re-
cruiting difficulties. Indeed, the latter two out-
comes were the primary reasons why the partici-
pating company dropped the incentive plan.
Managers considering an EAR plan may not view
Research
2. Heneman, H. G. (1985). Pay satisfaction. In
G. Ferris & R. Rowland (Eds.), Research in per-
sonnel and human resource management
(Vol. 3, pp. 115-139). Greenwich, CT: JAI.
3. Brown, K. A., & Huber, V. L. (1992). Lowering

high turnover as a significant problem if poor
performers leave. But that did not occur in this
study.
Our results combined with those of the Brown
and Huber study strongly suggest that managers
should consider carefully the cost and benefits of
EAR plans before implementing them. If manage-
ment decides to adopt an EAR plan, it should di-
rect particular attention to the negative reactions
employees may have to these plans, the level of
personal control employees actually have over
targeted performance behaviors and creating a
level playing field that does not put newer em-
ployees at a disadvantage.
Notes
1. Lawler, E. E. (2000). Rewarding excellence.
San Francisco: Jossey-Bass.
Note
floors and raising ceilings: A longitudinal as-
sessment of the effects of an earnings-at-risk
plan on pay satisfaction. Personnel Psycholo-
gy, 45, 279-309.
4. Rousseau, D. M. (1995). Psychological con-
tracts in organizations: Understanding writ-
ten and unwritten agreements. Thousand
Oaks, CA: Sage.
5. Kahneman, D., & Tversky, A. (1979). Prospect
theory: An analysis of decisions under risk.
Econometrica, 47, 263-291.
6. Heneman, H. G., & Schwab, D. P. (1985). Pay
satisfaction: Its multidimensional nature and
measurement. International Journal of Psy-
chology, 20, 129-141.
7. Hom, P. W., & Griffeth, R. W. (1991). Structur-
al equations modeling test of a turnover the-
ory: Cross-sectional and longitudinal analy-
ses. Journal of Applied Psychology, 76, 350-366.

Robert W. Renn (Ph.D., Georgia State University) is an associate professor of organizational behavior at
the Fogelman College of Business and Economics, University of Memphis. He is a member of the Academy
of Management and Southern Management Association. His research has been published in the Journal
of Management, Human Relations, Educational and Psychological Measurement, Group and Organiza-
tion Management, Journal of Business Research, Journal of Organizational and Occupational Psychol-
ogy, and Advances in the Management of Organizational Quality. His research interests center on im-
proving work motivation and work performance through self-regulation, goal setting, performance
feedback and work design.

James R. Van Scotter is an assistant professor of management. He received a Ph.D. in management from
the University of Florida in 1994. His work experience includes managing acquisition programs in four
Asian countries, applied research and project management to support logistics activities, including 4 years
on the graduate faculty of the Air Force Institute of Technology. His research interests include performance
ratings, whistle blowing and communication.

W. Kevin Barksdale (Ph.D., Georgia State University) was an assistant professor of management at the Fo-
gelman College of Business and Economics, University of Memphis. His research has appeared in the
Academy of Management Journal and Journal of Organizational Behavior. He is now the general man-
ager of Chuck Hutton Toyota, Memphis, Tennessee.

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JULY/AUGUST 2001 73

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