Devising a Profit Sharing Program for Micro-Multinationals

September 12, 2011 · Posted by peldi in Company, Employee Handbook · 10 Comments

This post is part of a series about our VERY FEW company policies. Read this intro post for some context.

When I was at Adobe we had complicated employee stock options purchase program, as well as even more complex (to me at least) bonuses that were tied to "us making our numbers". They all seemed a bit mysterious to me, but I remember liking getting those checks once in a while! :)

When I started Balsamiq, I knew that I would want to put some sort of profit sharing program in place.

Our books are 100% available to all employees, everyone knows how well we're doing and what we're spending money on, including how much everyone else makes (having a fair and clear salary policy helps here).

In other words, we're all in this together.

When Marco (employee #1) started, I came up with a simple rule: he would get 1% of revenue as a bonus every quarter. This was a NET value, POST-tax, which means that it was really about 2% for the company. One percent might not seem much, but it quickly became more than his base salary.

When Valerie started, she got the same deal. As we grew more and more, it became obvious that this was not a sustainable expense.

Being tied to revenue instead of profits didn't encourage people to watch expenses. Also, differences in purchase parity between Italy and the US meant that what was a large bonus for Marco in Italy was not proportionally large to Valerie, in the US.

When we got to six employees, Natalie, Valerie and I sat down to come up with something that would still be generous, would still reflect our values, but would be more fair and most importantly could scale as the company grew.

Note that I'm always operating under the assumption that customers could go to ZERO tomorrow. If that happens, I want to have as much money in the bank as possible to have one or two years of runway, so that we can come up with something new as a team. That's why having a great team is the single most important thing: if that day comes, I wouldn't want to be surrounded by any other group of people. :)

We are very happy with the little formula we came up with, so we'd like to share it with you in case it's useful to other micro-multinationals like ours.

As always, we'd love your feedback on it! :)

Our Profit Sharing Program

Our quarterly bonus program allocates 10% of profits* to full-time employees: 25% is split equally and 75% is split based on seniority, then all weighed by the cost of living in each location.

*: this is Earnings - Regular Operating Expenses. Regular expenses do not include dividends and "crazy one-off expenses" such as staff gifts or the annual retreat.

Let's break it down:

Our quarterly: we pay out bonuses 4 times a year, at the end of January (for Q4 of the previous year), April (for Q1), July (for Q2) and October (for Q3).
bonus program: it's a bonus program, meaning that it can change or stop in the future depending on how we do. Basically, it's gravy (you should be happy enough with your base salary anyways).
allocates 10%: ten percent of profits is generous while still responsible for the financial well-being of the company.
of profits: this is better than earnings (like we used to do) because it encourages all of us to limit our expenses.
*: excluding "crazy costs" and owner dividends from the expense calculation is good because then we can have these expenses without worrying about their impact on bonuses.
to full-time employees: bonuses are for full-time employees only. However, part-time employees and contract workers later hired as full-timers will receive seniority points for the days worked (see below).
25% is split equally: this is good because it promotes a team spirit: while the majority of the bonus is weighted towards time spent in the company, this portion of the bonus is equally shared by all members of the family. This gives a nice intentive for everyone to be fully part of the team, even when they are just starting with Balsamiq. It will also be good down the line for a new employee who will take much longer to to even out with the seniority of current staff.
and 75% is split based on seniority: this is good because is it smooths out the impact of new employees, and evens out over time. Also to note how this is NOT based on salary / skills. We're all members of the same family here, we're all equally responsible for the success of Balsamiq. Also, nothing forbids us to also give out other merit-based bonuses as well.
then all weighed by the cost of living in each location: this is important because it's fair. The fact that we're using cost of living instead of average wages is even more fair (i.e. Italy has low wages relative to the cost of living).

How we calculate Profits*

We take the gross revenue and remove all the "normal" expenses: operating costs, taxes, previous bonuses given out as part of this bonus program...basically everything EXCEPT:

owner dividends - so that if Peldi takes some money out it won't impact the amount of the bonuses
extra one-off expenses - for instance the cost of the employee retreat or the one-time big bonus handed out in Sep 2010. Or even smaller costs like Christmas gifts. This is again so that we can have these "extravagant" expenses without impacting the amount of the bonuses.

How we calculate seniority

This is the number of days worked at Balsamiq since starting full-time on the payroll, with possible addition of days from previous contract or part-time work.

Over time the difference in seniority goes down as we all become senior. This means that in the long run, bonuses will even out for everyone. It also means that the addition of a new employee does not dramatically reduce everyone else's bonus right away.

How we calculate the cost of living

This is a fun one.

We get the relative cost of living in USA, France and Italy from the OECD Consumer Prices tables.

We get the relative Consumer Price Index for the US from the Bureau of Labor Statistics' Consumer Price Index tables.

We take the latest data available from each and combine them, coming out with a score for each of the following regions: Italy, USA West, France and USA North East.

We use this regional score to weigh the seniority amounts.

That's it! We've been using this formula for over a year now, and everyone seems happy with it. It certainly helps that our profits have been growing this whole time as well... :)

What do you think? Do you have a profit sharing program at your company? How is it calculated? How would you improve ours?

Hope this helps,
Peldi for the Balsamiq team

Comments (10)

Hacker News Discussion: http://news.ycombinator.com/item?id=2986673

peldi
Sep 12, 2011
Love that you’re sharing stuff like this – thank you!

One question: how does this work:

“Over time the difference in seniority goes down as we all become senior.”

If all your employees keep working, won’t there always be a “number of days worked” gap that makes longer-serving employees more senior than ones that have come on board more recently?

kareem
Sep 12, 2011
Sounds like a nice model, yes thanks for sharing! I particularly liked the history behind it that led to your current system.

Kareem, as for seniority balancing out…

Let’s say you’ve worked for 40 days while I’ve done 10 days. Between us there are 50 work days so your contribution is 80% and mine 20%.

In 100 working days, you’ll be at 140 and me at 110 so our total is now 250 days. You’re now at 56% and me at 44%.

…btw that is just a quick example, not how their system actually calculates things.

David
Sep 12, 2011
@kareem

yes but 10 years vs 9 years is just 53% vs 47%, when instead 3 years vs 1 year is 75& vs 25%

so in the long run the first comers will be less rewarded than they are now, with the same amount of profit on the table.

gimmi
Sep 12, 2011
When you say “Employees” do you also include yourself? Even if you are a majority share owner? So essentially give yourself a bonus also?

Edgar
Sep 12, 2011
Also, since you have this profit sharing in place. Does it mean that you don’t issue stock to employees? I’m in the process of incorporating my business, so we can higher employees and offer options. So all this is very intriguing to me :)

Edgar
Sep 12, 2011
>> so in the long run the first comers will be less rewarded than they are now, with the same amount of profit on the table.

I think that’s the point; 10 years from now the fact that someone has one year of extra seniority shouldn’t count for as much.

You do touch on my big problem with this approach: If intelligent people are already asking questions on how it works, it’s way too complicated. It includes:
1. Formulas
2. Footnotes
3. Consulting external indices
4. Non-trivial accounting definitions
5. Financials

I understand the intent: eliminate “hidden” HR things like how salaries are set and bonuses calculated, but public definitions like this discourage iterative tweaks, which ironically is one of the things small companies like his do best. I realize he states it can basically end immediately, but you can’t change publicized policy frequently or it loses all value as it is no longer trusted.

There’s no easy answer but I’m skeptical of a “simple” policy that requires (a) an accountant, (b) an economist and (c) HR admin to calculate my bonus.

mark dochstader
Sep 12, 2011
This does seem very fair and equitable. Do you have a spreadsheet with formulae and such that you use? Is it possible to share a template with suggested/helpful weightage?

Many thanks for sharing your ideas on building a transparent organization.

Jacob Trilby
Sep 12, 2011
Thank you for this article, this is great and very informative. I have learned something new now

Discount Perfumes Today
Sep 19, 2011
HI – if you have a loss in Q1 – for instance – do you deduct this from your employees in Q2?
Very interested in knowing this as the company I work for seems to think that if they have a loss I should be penalized. I feel a quarter profit share is just that – profit share.
Thank you – look forward to your response.

[Peldi: Hi Trista, we wouldn't ask employees to pay anything back, no. No profit = no bonuses, that's all]

Trista
Feb 07, 2013