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  • Writer's pictureMatthew Davies

From Incentive to Outcome

"Show me the incentives, and I'll show you the outcome"
- Charlie Munger

Back in my days in branch banking, much of the output of the branches was driven by the incentives on offer. Sales targets were set, sometimes targets for overall performance, at other times targets focussed on a specific produce line and the staff were given clear structures of rewards based on achieving those outcomes. If you open a certain number of accounts, or draw down a certain value of loans, or give a certain number of handovers to the mortgage advisor, you will be rewarded in a known way. Bonus, recognition, awards dinners; all sorts of incentives to drive those outcomes.

I've spent a significant chunk of time in businesses, such as recruitment, where these practices are still commonplace. Each individual has a monetary target and achieving that target leads to personal financial rewards. Failure to meet that target can lead to you no longer being a part of the organisation.

And these are not always bad. I remember hearing about a dad who encouraged his child to read, offering them a financial reward of a few pound for every book their child read and wrote a book report on. The kid went wild, plowing through books and producing reports, generating a good boost to their pocket money, thinking they were getting one over on dad. But of course, that was some of the best money their father ever spent, driving the habit of reading and helping the child develop their vocabulary, their imagination and even their ability to see things through to completion, all for a few pounds at a time,

However, in between the incentive and the outcome, there is a gap. And that gap is filled with some activity and behaviour. An incentive is offered and then people do certain things and behave in certain ways, in order to attain that incentive. It's this gap that leaders often don't give due consideration to! When the incentives are attached directly to the output or outcomes we desire, rather than the processes we want or the behaviours we are trying to drive, people can often find ways to deliver those outputs, in a way which does not benefit us as we'd hoped.

Take, for example, the story of the Cobras in Delhi, India, during the time of British rule. There were venomous Cobras whose numbers were becoming a problem, so the British rulers sought to manage the population by offering a bounty on their heads. For every head of a Cobra that the locals brought to the government, they were given a sum of money. This worked initially, driving down the numbers of wild Cobra, but some savvy individuals realised that if they were to breed Cobras, specifically to kill and trade in, they could make a fortune. So they did! They bred Cobras in captivity, chopped off their heads and traded the heads in for bounty money! This worked for a while, until the government cottoned on to the scheme and scrapped the bounty on the Cobras. Now, holding captive-bred Cobras which were of no value to them, the locals decided to release them into the wild, rather than incurring the cost of keeping them. This caused a surge in the numbers of wild Cobras, meaning that the government had spent a great deal of money to deal with a problem and ended up out of pocket and right back where they started!

This is sometimes called Goodhart's Law, named after British economist Charles Goodhart, who famously said:

"When a measure becomes a target, it ceases to be a good measure"

The same things goes for sport. Over my years of playing a coaching American Football, I've seen times when coaches have emphasised a specific measure as a key to success and been dogmatic about their players achieving that metric in a way which has delivered suboptimal outcomes. A great example is the defensive approach of emphasising turnovers. A turnover describes one team taking possession of the ball from the other, so for example the defense cause the offense to fumble the ball and they recover it, or the defense force the offense to throw an interception. Winning the 'turnover battle' in a game is a key determinant of the outcome, so naturally it's desirable to emphasise this, however it can drive the wrong behaviours. I remember a particularly noteable instance when I was still a player, where one of our linebackers made an interception in a close game and was lauded by teammates and coaches alike. But when we watched the film back, we realised that the reason he'd made that interception was because he was in the wrong place on the field. He was 'ball watching' - deliberately moving himself to a place where he thought, or maybe hoped that the Quarterback would throw the ball. On that occasion, he got it right and looked like a hero, but against a more skilled QB, or perhaps on a different occasion, the QB would have recognised that he'd vacated the area of the field that he was due to be defending, thus leaving a potential receiver wide open. If the QB spots that and executes, instead of recording an interception, we are conceding a touchdown! Players chasing those incentives (praise, awards, etc) can be prone to chasing those accolades in a way that compromises their performance.

Another business challenge that this drives can be negative internal competition, or robbing Peter to pay Paul, at the expense of collaboration and cohesion. Staff stealing sales opportunities from one another, or taking credit for one another's work, driving a culture of distrust and dislike, because the thing that matters to them is achieving the incentive.

It also creates problems if, for some reason, the incentives are removed. On the example of the dad incentivising his son to read, what happens when he stops doing so? Does the son stop reading, because he's no longer being given the extrinsic reward? I spoke recently to a coaching client in Insurance whose job has historically involved negotiating increases in fees from clients annually. Doing this has driven financial incentives for him and he's made it a key part of his approach, but because of a change of circumstances relating to his role, he's being expected to negotiate these rises again this year, but without the attached incentive. As a result he has absolutely zero motivation to do so!

So what does this all mean for us as leaders? Well before we introduce any incentives in our teams, we need to ask some important questions:

Firstly, what do we want to see more of? What is the outcome we're seeking to influence? How do we measure it and how do we know that more or less of that thing are actually advantageous, and to whom? Good for us (sales of bottles of coke) doesn't necessarily mean good for everyone (single use plastic waste).

Secondly, what can we offer as an incentive? Naturally, any incentive needs to be appealing to the audience, but it also needs to drive the right behaviours. What do we want to see and over what timescale? Banks, for a long time, were very guilty of driving short-term thinking by offering incentives for what happens here and now and not considering what that might mean over a longer timeframe. Incentives tied into long term performance, can help drive long term thinking.

And thirdly we must consider the unintended consequences of the incentive we're offering. What else might it cause to change? What might be impacted? What behaviours might people exhibit in order to achieve the outcome we've asked them for, in order to get their hands on the incentives? This is at the core of almost every mis-selling scandal; people cut corners to get the incentive and those cut corners cause HUGE problems down the road.

Sometimes incentives are useful, other times they're not appropriate. Sometimes its right to incentivise the outcome (if the way that the outcome is achieved doesn't matter) and other times it's right to incentivise the behaviour that's used to get there. In sport, I incentivise attendance and effort at training, engagement with film and both effort and consistency in the gym over natural talent, because I KNOW that those behaviours will make our team better. Playing time and starting spots are determined based on these factors, because it drives long-term success, rather than chasing short term wins.

What outcomes are you trying to drive, what behaviours or activities are you looking to see displayed to get there and how are you incentivising them? I'd love to hear your thoughts in the comments!

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