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Profit Sharing

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Definition:

Profit sharing is an example of a variable pay plan. In profit sharing, company leadership designates a percentage of annual profits as a pool of money to share with employees, or a portion of employees such as executives. The pool of money generated is then divided across covered employees using a formula for distribution.

Profit sharing, when distributed as a percentage of annual pay - a common practice - results in less money shared with employees in lower paying jobs and higher amounts shared with highly compensated employees. This reflects the belief that more highly compensated employees are responsible for managing the company, making decisions, taking more risk, and providing leadership to the other employees.

Profit sharing payments are generally made only if the company has been profitable for the time period specified, or when an employment contract requires the compensation. Profit sharing usually occurs annually after the final results for the annual company profitability have been calculated.

Positives About Profit Sharing

The positive impact of profit sharing is that it sends the message that all of the employees are working together on the same team. The employees have the same goals and are rewarded equivalently to reinforce this shared service to customers and lack of competition with each other.

Profit Sharing's Weakness

The weakness of profit sharing plans is that individual employees cannot see and know the impact of their own work and actions on the profitability of the company. Consequently, while employees enjoy receiving the profit sharing money, it gradually becomes more of an entitlement than a motivational factor. With profit sharing, employees receive the profit sharing money regardless of their own performance or contribution.

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