An extract of this post appeared in the May 2022 issue of HawaiiBusiness magazine.
Hawai‘i’s visionary owners and CEOs face a unique set of challenges when striving for rapid growth in their businesses’ valuation. The limited market size and talent pool make it difficult to scale, while employee exits and disengagement can frustrate progress. However, the islands offer a few distinct advantages to these business builders.
The close-knit business community in Hawai‘i fosters effective word-of-mouth marketing. Owing to its monopolistic nature, players who dominate their industries can enjoy a lion’s share of the industry profits. This is particularly true for business-to-business (B2B) companies in Hawai‘i, where dominant players in each industry can expect disproportionately high valuations compared to their peers.
To capitalize on these opportunities and address the obstacles, growth-focused CEOs need their teams to be as committed to the organization as they themselves are. Where can they find help? Long-time investor, Charlie Munger, has a suggestion – “Show me the incentive and I will show you the outcome.” Here is a video of Charlie Munger and Warren Buffett talking about the power of incentives in driving growth at GEICO.
Growth Share Plan (GSP) is an incentive compensation model that shares year-over-year increases in net profit with key employees. It is proven to foster an owner’s mindset, where employees think and act like owners to drive the company’s growth and long-term success.
Early employees in Silicon Valley startups are highly engaged, in no small measure due to their stock options, which provide a sense of ownership in the company’s success. However, stock option plans can be complex and expensive for small businesses to manage. GSP serves as a more accessible alternative. By integrating GSP into their business model, Hawai‘i CEOs can hire top talent, harness the full potential of their workforce, create a sense of shared purpose, and ultimately, accelerate their company’s growth in a challenging market.
Growth Share Plan: A Game-Changer for Growth Businesses
Unlike traditional profit-sharing plans, a GSP holds financial value only if the company experiences year-over-year (YOY) growth in its bottom line. However, for each dollar increase in net income above the previous year’s baseline, 20 to 40 cents are allocated to the bonus pool.
To maximize the effectiveness of GSP, it’s best to establish quarterly targets at the beginning of each year. Meeting these targets triggers company-wide celebrations, fostering team spirit, and motivating employees who might otherwise be excluded from bonus payouts.
Moreover, we argue that a well-designed GSP should constitute a significant portion of total employee compensation. When targets are achieved, participating employees should receive a bonus equivalent of 25% to 33% of their fixed pay. At this rate, employees gain a substantial upside in driving growth, and it’s difficult to imagine anyone leaving the firm to join a competitor for financial reasons.
Strategic Approach to Foster Owner’s Mindset
To ensure the success of the Growth Share Plan and foster an owner’s mindset among employees, it’s essential for CEOs to take a disciplined approach.
Communication: Clearly communicate the goals, structure, and benefits of the GSP to employees. Transparency is key to employee buy-in. Educate each employee on how they can impact the company’s performance and grow their bonus check simultaneously. Celebrate successes to reinforce the plan.
Weekly Forecasting: Implement a system for weekly forecasting of financial performance (or the Critical Number, defined below) and the resultant employee bonus. This helps employees stay informed and focused on achieving the company’s growth targets.
Empowerment: Encourage employees to contribute ideas, take total ownership of their work, and make decisions that directly impact the company’s growth. Highlight the importance of client retention, client referrals, add-on sales to existing clients, continuous process improvements, and faster project completion in driving GSP success.
When considering the implementation of a Growth Share Plan, Hawai‘i CEOs may have some apprehensions.
Losing Money: CEOs may be concerned that sharing a portion of their profits will negatively impact their bottom line. However, Growth Share Plans usually lead to increased profitability, as they incentivize employees to work smarter and drive business growth.
Radical idea: Some CEOs feel that this is unfamiliar territory with uncertain outcome, maybe more suited to high-risk technology enterprises. Nothing could be farther from the truth. Lynsi Snyder (In-N-Out Burger)1, Jim Sinegal (CostCo)2, Herb Kelleher (Southwest Airlines)3, and many other iconic founders, owners and CEOs from various industries have attributed a big part of their organization’s success to incentive compensation of their employees. Closer home, Gourmet Events Hawaii’s amazing growth story was captured in this Forbes article. ZR Systems, a local IT firm (now acquired and renamed to Evocative) had a similar growth run.
Complexity: Some may worry that Growth Share Plans are too complicated to implement and manage. While it’s true that these plans require careful planning and execution, it can be done internally or by partnering with an experienced advisor.
Confidentiality: CEOs may be hesitant to share sensitive financial information with their employees. In these cases, Growth Share Plans are tied to a “critical number” – that most closely predicts the net income. Cypac, a Hawai‘i cybersecurity firm that we advise, ties its GSP to “devices defended”. Growing the count of devices they secure is key to driving profitable growth (and valuation) in their business. Also, since it is an existing operational metric, it is already well understood by the employees. However, in other organizations, the critical number may be more nuanced and need careful analysis at the start.
Ensuring Fairness: Concerns may arise about distributing the growth share fairly among employees. To address this, it’s important to establish clear criteria for eligibility and payouts.
Long-term Sustainability: Some CEOs question the long-term viability of Growth Share Plans, especially during economic downturns. By designing a plan that only rewards employees when there is year-over-year growth, you can protect the business from financial strain while still incentivizing employees during periods of growth.
With the successful implementation of a Growth Share Plan, your company can foster an ownership mindset among your employees, resulting in higher engagement, increased productivity, and lower turnover – all essential ingredients in Hawai‘i’s growth stories.
Note: Employee compensation needs careful design considerations and can have legal implications. Our blog content is for informational purposes only. It should not be taken as legal, financial or business advice.