Using Financial Incentives to Drive Organizational Change ...€¦ · Using Financial Incentives to...

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

Using Financial Incentives to Drive Organizational Change

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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


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 &


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


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.


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


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


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


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


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.


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


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.


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


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?


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


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.


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


37

Figure 6, Evidence for theoretical concepts


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


Commitment to change

Money as psychological frame



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


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


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


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.”


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.


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


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.”


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.”


46


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


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’.


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


• 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


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


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)


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.


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.


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


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.


54

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