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The Performance Management Revolution Harvard Business Review By Peter Cappelli and Anna Tavis October 2016

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When Brian Jensen told audience of HR execs Colorcon wasn’t doing annual reviews anymore – they were appalled – in 2002 – when he was drugmaker’s head of Global HR In presentation at Wharton School, he explained the cie found more effective way reinforcing desired behaviours & managing performance o Supervisors giving people instant feedback, tying it to individuals’ goals, handing out small weekly bonuses employees doing good things Back then, idea of abandoning traditional appraisal process (and all that followed) seemed heretical (holding an opinion at odds with what is generally accepted) Some estimates – more then one third of US cies doing that Silicon Valley to NYC, offices across the world, cie replacing annual reviews with frequent, informal check-ins – managers and employees Tech cies (Adobe, Juniper Systems, Dell, Microsoft, IBM) led the way o Joined by number of professional services cies (Deloitte, Accenture, PwC) o Early adopters in other industries (Gap, Lear, OppenheimerFunds) o Even GE, long time model of traditional appraisals Rethinking performance management at top of many execs teams’ agenda – what drove change? Many factors Recent article – People + Strategy, Deloitte manager referred to review process as “investment of 1.8 million hours across the cie that didn’t fit business needs anymore” Washington Post writer called it a “rite of corporate kabuki” restricting creativity, generates mountains of paperwork, serves no purpose Others described annual reviews – last century practice, blamed them for lack of collaboration and innovation Employers acknowledging both supervisors and subordinates despise appraisal process – perennial problem feels more urgent now that labour market picking up & concerns re: retention returned Biggest limitation of annual reviews – main reason cies are dropping them – With heavy emphasis on financial rewards & punishments and their end-of-year structure, hold people accountable for past behaviour at expense of improving current performance & grooming talent for future, both which are critical for orgs’ long-term survival Contrast, regular conversations re: performance and dev change focus building workforce your org needs to be competitive today and future Business researcher Josh Bersin estimates 70% multinational cie moving towards this, even if haven’t arrived yet Tension between traditional and newer approaches long running dispute managing people: Page 1 of 11

Do you “get what you get” when you hire? Should you focus on motivating strong ones with money and getting rid of weak ones? o Are employees malleable? o Can you change way they perform through effective coaching & management and intrinsic rewards (i.e. personal growth, sense of progress on job)? With traditional appraisals, pendulum swung too far toward former, more transactional view performance, became hard support in era of low inflation and tiny merit-pay budgets Those who still hold that view railing against recent emphasis on improvement and growth over accountability New perspective unlikely flash in pan b/c it is being driven by business needs, not imposed by HR o o

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HOW WE GOT HERE  How we got to this point, how cies faring with new approaches  Historical and economic context played large ole in evolution of performance management  When human capital plentiful focus on which people let go, which keep and which reward – those purposes, traditional appraisals worked (emphasis on individual accountability)  When talent in shorter supply, dev people became greater concern, and orgs had to find new ways meeting that need ERA WW 1 WW 2 1940s 1950s 1960s

1970s 1980s

1990s 2000

DESCRIPTION The US military created merit-rating system to flag and dismiss poor performers The Army devised forced ranking to identify enlisted soldiers with potential to become officers About 60% of US cies were using appraisals to document workers’ performance and allocate rewards Social psychologist Douglas McGregor argued for engaging employees in assessments & goal setting Led by GE, cies began splitting appraisals into separate discussions about accountability and growth, to give development its due Inflation rates shot up, & orgs felt pressure to award merit pay more objectively, so accountability again became the priority in the appraisal process Jack Welsh championed forced ranking at GE to reward top performers, accommodate those in the middle, and get rid of those at the bottom McKinsey’s War for Talent study pointed to a shortage of capable execs and reinforced the emphasis on assessing and rewarding performance Orgs got flatter, which dramatically increased the number of direct reports each manager had, making it harder to invest

TYPE Accountability Development Accountability Development Hybrid “3rd way” Accountability Accountability

Accountability Accountability

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2011 2012

2016

time in developing them Kelly Services was the first big professional services firm to drop appraisals, and other major firms followed suit, emphasizing frequent, informal feedback Adobe ended annual performance reviews, in keeping with the famous “Agile Manifesto” and the notion that annual targets were irrelevant to the way its business operated Deloitte, PwC, and others that tried going numberless are reinstating performance rating but using more than one number and keeping the new emphasis on development feedback

Development Development Hybrid “3rd way”

From Accountability to Development  Appraisals traced back to US military’s “merit rating” system, created during World War I identify poor performers discharge or transfer  After World War II, 60% US cies using them (by 60s, closer to 90%)  Seniority rules determined pay increases and promotions unionized workers, strong merit scores = good advancement for managers  Initially, improving performance an afterthought  Then severe shortage managerial talent caused shift in org priorities: o Cies began using appraisals to dev employees into supervisors, especially managers into execs  Famous 1957 HBR article – social psychologist Douglas McGregor argued subordinates should, with feedback from boss, help set performance goals & assess themselves – process would build their strengths, potential o Theory “Y” approach management – coined term later – assumed employees wanted perform well & would do so if supported properly o Theory “X” assumed had to motivate people with material rewards & punishments o McGregor noted one drawback – Doing it right, take managers several days per subordinate per year  Early 60s, orgs become focused on dev future talent many observers though tracking past performance fallen by wayside  Part of problem, supervisors reluctant distinguish good performers from bad EXAMPLE  One study, 98% of federal gov’t employees received “satisfactory” ratings, only 2% other two outcomes “unsatisfactory” or “outstanding”  After experiment in 64, GE concluded best to split appraisal process separate discussions re: accountability and development – given conflicts between them; Other cies followed Back to Accountability  70s, shift began – inflation rates shot up, merit-based pay center stage in appraisal process. Annual wage increases really mattered  Supervisors often had discretion give raises of 20% or more strong performers, distinguish them from employees received basic cost-of-living raises, getting no increase represented substantial pay cut Page 3 of 11

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With stakes so high – with antidiscrimination laws recently introduced – pressure award pay more objectively Result – accountability became higher priority than dev for many orgs. Three other changes in zeitgeist reinforced shift: o Jack Welch became CEO of GE in 1981; to deal with long-standing concern supervisors failed label real differences in performance, Welch championed forced-ranking system – military creation.  US Army devised it early WWII, to quickly identify large number of officer candidates imminent military expansion, GE used it shed people at bottom.  Equating performance with individuals’ capabilities, Welch divided workforce into “A” players – rewarded; “B” players – accommodated; “C” players – dismissed  Dev was reserved for the “A” players – high-potentials chosen advance senior positions o 1993 legislation limited tax deductibility exec salaries to $1M, exempted performance-based pay  Let to rise in outcome-based bonuses for corp leaders – change that trickled down frontline managers, even hourly employees – orgs relied even more appraisal process assess merit o McKinsey’s War for Talent research in later 90s suggested some employees fundamentally more talented than others  B/c such individuals were in short supply, orgs felt needed take great care tracking and rewarding them  Nothing in McKinsey studies fixed personality traits actually made people perform better, that was assumption By early 2000s, orgs using performance appraisals mainly hold employees accountable & allocate rewards As many as one-third of US cies and 60% Fortune 500, adopted forced-ranking system Same time, other changes in corp life made harder appraisal process advance timeconsuming goals improving individual performance and dev skills for future roles Orgs got much flatter, dramatically increased number of subordinates supervisors managed New norm 15 to 25 direct reports (up from 6 before 60s) Overseeing more employees, supervisors also expected individual contributors Takin days manage performance issues each employee, Douglas McGregor advocated, impossible Greater interest in lateral hiring reduced need for internal dev Up to two-thirds of corp jobs filled from outside, compared 10% generation earlier

Back to Development… Again  Major turning point, 2005: few years after Jack Welch left GE, cie quietly backed away from forced ranking b/c fostered internal competition, undermined collaboration  Welch defends practice, what really supports general principle letting people know how doing: Wall Street Journal 2013 o “As a manager, owe candor to your people” o “They must not be guessing about what org thinks of them” Page 4 of 11

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Hard to argue with candor – more and more cies questioning how useful it was compare people or rate them on scale Emphasis accountability past performance started to fade Continued as jobs became complex and rapidly changed shape – in climate, difficult set annual goals still meaningful 12 months later Move toward team-based work conflicted with individual appraisals & rewards Low inflation & small budgets wage increases made appraisal-driven merit seem futile Whole appraisal process loathed by employees Social science research hated numerical scores – rather told “average” than given 3 on a 5-point scale Especially detested forced ranking Wharton’s Iwan Barankay demo’d in field setting, performance declined when people rated to others Nor did ratings seem accurate Research on appraisal scores, as much to do with who rater was as with performance Managers hating doing reviews Willis Towers Watson 45% did not see value in systems they used Deloitte 58% of HR execs considered reviews ineffective use supervisors’ time Study by advisory service CEB, average manager spending 210 hours (five weeks) doing appraisals Dissatisfaction with traditional process mounted, high-tech cies ushered new way thinking about performance “Agile Manifesto” created by software dev 2001, several key values – “responding to change over following a plan” Emphasized principles such as collaboration, self organization, self-direction & regular reflection how to work effectively, aim of prototyping more quickly & responding in real time to customer feedback & changes in requirements Although not directed at performance, principles changed definition effectiveness on job – at odds w/usual practice cascading goals top down & assessing people against them one a year First significant departure from traditional reviews happened at Adobe 2011 Already using agile method, breaking down projects into “sprints” followed by debriefing sessions Explicitly brought notion of constant assessment and feedback performance management, frequent check-ins replacing annual appraisals Juniper Systems, Dell & Microsoft followers CEB 2014 – 12% US cies dropped annual reviews Willis Towers Watson – 8%, added 29% considering or planning to Deloitte 2015 – 12% US cies not planning rethink performance management systems Trend extending beyond US; PwC – two-thirds large cies in UK, in process changing systems

THREE BUSINESS REASONS TO DROP APPRAISALS  Three clear business imperatives leading cies abandon performance appraisals o The Return of People Development  Cies under competitive pressure upgrade talent management efforts Page 5 of 11

Especially true consulting and other professional services, where knowledge work is the offering – where inexperienced grads turned into skilled advisers through structured training  Doubling down on dev, putting employees (deeply motivated by potential for learning & advancement) in charge of own growth  Requires right feedback from supervisors – better met by frequent, informal check-ins  Labour market tightened, keeping good people critical, cies trying eliminate “dissatisfiers” that drive employees away  Annual reviews on that list, process widely reviled and focus on numerical ratings interferes with learning people want and need  Replacing with feedback delivered right after client engagements helps managers do better job coaching, allow subordinates process and apply advice effectively  Kelly Services first big professional services cie drop appraisal  PwC pilot group 2013 – discontinued annual reviews for all  Deloitte followed in 2015, Accenture and KPMG made similar announcements shortly thereafter  Given size of cie, and fact offer management advice thousands of orgs, their choices having enormous impact on other cies  Cies that scarp appraisals also rethink employee management more broadly  Accenture CEO, Pierre Nanterme, cie changing 90% talent practices The Need for Agility  When rapid innovation source competitive advantage, means future needs continually changing  B/c orgs won’t want employees keep doing same thing, doesn’t make sense hang on system built mainly assess and hold people accountable past or current practices  Susan Peters – GE Head of HR – businesses no longer have annual cycles  Projects short-term, tend to change, employees’ goals & tasks can’t be plotted year in advance with accuracy  GE new business strategy based on innovation biggest reason cie recently began eliminating individual ratings, annual reviews  New approach aligned with FastWorks platform creating products & bringing them to market, borrows a lot from agile techniques  Still have end-of-year summary discussion, goal push frequent conversations (touchpoints) and keep revisiting two basic questions: o What am I doing that I should keep doing? o What am I doing that I should change?  Annual goals replaced with shorter-term “priorities”  GE first launched pilot 2015, before adopting across the cie The Centrality of Teamwork  Moving away from forced ranking & individual accountability, easier to foster teamwork 

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Especially clear retail cies like Sears and Gap – most surprising early innovators  Sophisticated customer service requires frontline & back-office employees work together keep shelves stocked, manager customer flow, traditional systems don’t enhance performance team level or help track collaboration  Gap supervisors still give end-of-year assessments, only to summarize performance discussions happen throughout year, set pay increases  Employees still have goals, but short-term (quarterly)  Two years into new system. Gap reports more satisfaction performance process, best-ever completion store-level goals  Rob Ollander-Krane, Sr. Director Org Performance Effectiveness – Cie needs further improvement setting stretch goals, focusing team performance Implications  All three reasons argue for a system more closely follows natural cycle of work  Ideally, conversations occur when projects finish, milestones reached, challenges pop up – allowing people solve problems in current performance also dev skills for future  Most cies, managers take lead setting near-term goals, employees drive career conversations throughout year  Deloitte manager: “conversations more holistic. About goals and strengths, not just past performance” 

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Cies overhauling performance management b/c businesses require change This is true whether professional services firm must dev people to compete, cies that need to deliver ongoing performance feedback support rapid innovation, or retailers need better coordination between sales floor and back office to service customers Many HR managers worry: o If we can’t get supervisors have good conversation with subordinates once a year, how can expect them do so more frequently, without support of usual appraisal process? o Valid question – see reasons to be optimistic As GE found in 1964, research documented since, extraordinarily difficult have serious, open discussion about problems while also dishing out consequences End-of-year review excuse delaying feedback, at which point both likely have forgotten what happened earlier Both constraints disappear when take away annual review Almost all cies that have dropped traditional appraisals invest in training supervisors to talk more about dev with employees, and checking with subordinates make sure happening Moving to informal system requires culture keep continuous feedback going Megan Taylor – Adobe’s Director of Business Partnering – difficult to sustain that it it’s not happening organically

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Adobe gone numberless but gives merit increases based informal assessments, reports regular conversations occurring without HR’s prompting Deloitte too – led to more meaningful discussions, deeper insights, greater employee satisfaction o Cie started to go numberless, then switched to assigning several numbers four times a year, give them rolling feedback different dimensions Jeffrey Orlando – head of Dev and performance Deloitte – cie tracking effects on business results, positive so far

CHALLENGES THAT PERSIST  Greatest resistance, comes from HR itself  Reason is simple o Many processes and systems HR built over the years revolve around performance ratings  Experts in employment law advised orgs standardize practices, dev objective criteria to justify employment decisions, document relevant facts  Taking away appraisals flies in face of that advice – doesn’t necessarily solve problems failed to address  Challenges orgs still grapple with when replace old model with new approach: Aligning Individual and Cie Goals  In traditional model, business objectives & strategies cascaded down the org  All units, then all individual employees, supposed to establish goals reflect/reinforce direction set at top  This approach works only when business goals easy to articulate, held constant over course of year – often not the case, employee goals pegged to specific projects  As projects unfold, tasks change, how coordinate individual priorities with goals for whole cie, especially when business objectives short-term & must rapidly adapt market shifts? o New problems to solve, not sure how to respond Rewarding Performance  Appraisals gave managers clear-cut way tying rewards to individual contributions  Cies changing systems trying figure out how new practices affect pay-for-performance model – none explicitly abandoned  Still differentiate re...