(FORTUNE Magazine) – SAY YOU'RE one of the hardy survivors, an $80,000-a-year product manager or corporate staffer who's weathered the tempest of downsizing and still has a job. Now that your cost-crazed company has trimmed its payroll, what will it do to your paycheck? In a world of global price wars and unemployed executives, will your salary stagnate or even shrink, echoing the grim fate of factory workers? As a middle manager, is it really time for you to ratchet down your expectations? Stop sulking. If you thrive on challenge, you may actually be able to boost your pay. Increasingly, managers earning from $50,000 to $120,000 a year collect the fat bonuses once reserved for senior executives. The catch is that your employer expects plenty in return: outsize gains in the profits of operations for which you have responsibility and relentless sharpening of your skills as a manager. The savage competition that drove companies to shed jobs is now pressing them to elicit high performance -- or near miracles -- from the workers who remain. Result: a bustling meritocracy where the rewards flow to the strong and swift. Pay-for-performance, or variable pay as it is also known, is spreading fast as corporate America searches for the formula to motivate middle managers too often habituated to a civil service-like bureaucracy. The concept has long been embedded at the top and bottom of most big companies, where senior executive compensation can swing widely depending on overall corporate results, and workers on the factory floor participate in gain-sharing bonuses as a reward for lifting productivity. Now companies like AT&T, General Mills, and Salomon Inc. have harnessed the idea to get superb results from middle managers. Although variable pay can take many forms, including stock options and one- time awards for a single, extraordinary accomplishment, by far the most prevalent variety is the annual bonus. A survey of more than 2,000 U.S. companies by Hewitt Associates, a compensation consulting firm in Lincolnshire, Illinois, documents a remarkable trend. Since 1988 the number of U.S. concerns offering variable pay, chiefly bonuses, to all salaried employees has jumped from 47% to 68%. Moreover, these companies now pay out far more in incentive compensation than in salary increases. This year bonuses and other carrots will average 5.9% of base salary, compared with 3.9% five years ago. The average raise, by comparison, is just 4.3%. But pay-for-performance has a downside as well as an up, for both managers and companies. For you as a manager, the age of entitlement, when you could expect regular raises just for coming to work, is ending. Paychecks for adequate but unexceptional performers could shrivel, and even if you're a Turk full of new ideas, there's still no guarantee you'll prosper. Companies are pushing the risks of ownership onto managers like you. So your bonus can wax and wane not only with your individual contribution but also with the fortunes of the entire corporation. Put simply, the company's earnings are becoming your earnings. Says Michael Peel, senior vice president for personnel at General Mills, the Minneapolis food manufacturer: ''The world will be a lot more rewarding for some. But for everyone, it will be a lot riskier.'' For their part, companies are discovering that variable pay is a tool, not a panacea. Managers love it when times are good. But when business turns sour and bonuses vanish, they may rebel, as they did at Du Pont. In 1989 the chemical company installed a daring new plan at its $5-billion-a-year fibers division in Wilmington, Delaware. Some 20,000 workers and managers agreed to + accept 2% average annual raises for three years, in exchange for bonuses if the division posted strong growth in earnings. In the third year the maximum bonus could reach 18% of base salary. Meeting the goals looked like a snap in the surging market for fibers, and in 1989, employees collected a 3% bonus. But over the next two years a recession hammered profits so badly that bonuses fell to practically zero, leaving workers with slimmer paychecks than they would have had with the raises they gave up. Under pressure from disgruntled fiber folks, Du Pont abandoned the plan and raised salaries 4% to make up for two years of lost raises. Says Robert McNutt, a compensation manager at Du Pont: ''Employees just weren't ready to share risks with the company. Today, as they realize that a job doesn't mean lifetime employment and guaranteed raises, they're likely to be more receptive.'' Companies prefer giving their middle managers an annual bonus rather than other forms of variable pay because bonuses reward executives for meeting important, short-term goals like cutting inventories or lifting the year's operating earnings. Stock options are a long-term motivator, appropriately reserved, in theory at least, for top officers who think in terms of long-term strategy. Bonuses also have immense advantages over the classic brass ring, merit raises. These usually have little to do with ''merit'' and consist instead of an increase based on the rate of inflation -- about 3% this year -- plus a small premium. At most companies such increases tend to cluster in a tiny range. Like the children of Lake Wobegon, everyone is above average, so a good performer might get a 5% raise, while a mediocre one could get 3%. Even in enterprises that scatter their largess over a broader range, the dollar difference between a sumptuous and a middling increase is seldom enough to stimulate managers. ''It's coffee money,'' says Craig Schneier, a management consultant in Princeton, New Jersey, who advises Scott Paper and other corporations. ''Merit pay usually is a failure at motivating people.'' Worse, merit raises increase fixed costs. They are added to base pay and thus can drive up retirement benefits, which may be pegged to that base. Bonuses, by contrast, are not added to base pay; they must be re-earned every year. They can hold down fixed costs while providing more of an incentive for superb results. THE TEST of a good pay-for-performance plan is simple: It must motivate managers to produce earnings growth that far exceeds the extra cost of the bonuses. Though employees should be made to stretch, the goals must be within reach. Occasionally, companies set targets too high, as did Monsanto's NutraSweet division, which produces artificial sweeteners for soft drinks. This year NutraSweet assembled a team of eight managers for a special mission: creating a market for NutraSweet in Africa, the Middle East, and India. The company offered the managers -- who earned between $50,000 and $100,000 annually -- flat bonuses of $100,000 each if they hit a volume sales target by year- end. As it turned out, the goal was impossible. Despite hard work and exhausting travel, generating new business from scratch took far longer than anyone expected. Moreover, the rigid target, which the company doesn't disclose, failed to reward the team for forging joint venture and distribution agreements that should produce brisk sales over the next few years. Says David Bowman, a NutraSweet attorney who is negotiating sales contracts in Africa: ''The goal should have included other criteria, like the number of deals we closed.'' The company may give the team members a special bonus for helping open new markets. And it still wants to use high variable pay -- with tough but attainable goals -- for future startup projects. Variable-pay plans typically tie bonuses to one of three main measures: the performance of the entire company, the results of a business unit, or the manager's individual record. Some plans use a combination of all three. Nucor, the Charlotte, North Carolina, steel producer (1992 sales: $1.6 billion), rewards 14 of its plant managers based on the company's overall performance. Plant managers earn between $80,000 and $150,000 a year, which is about 25% less than managers at competing plants get. But the managers can also earn huge bonuses if Nucor achieves a 10% return on equity, high for the steel industry. For every dollar in pretax earnings over the threshold, 5 cents goes into a bonus plan for the 14 plant managers and the company's four top executives. Last year, to produce a 10% return on equity, Nucor needed to earn $80 million; in fact, profits were $110 million. As a result, 18 executives divided a pot of $1.5 million. On average, plant managers nearly doubled their salaries and earned more in total than their counterparts at other steel companies. John A. Doherty, boss of Nucor's mill in Norfolk, Nebraska, pocketed an extra $80,000 in cash and $40,000 in stock. A strapping, 250-pound Bostonian who once worked as a construction engineer, Doherty treats business as a rollicking adventure. ''These bonuses aren't entitlements,'' he says. ''We're running our own businesses, and we'd better perform.'' Three times a year Doherty, the other plant managers, and the four top executives meet in Charlotte. Each manager pores over financial figures for the other plants. Because their bonuses hinge on the performance of all the managers, they bluntly criticize colleagues who are spending too much on scrap or earning a low return on assets. Boasts Doherty, who is 71: ''They listen to me. I'm the old man of the mountain.'' LIKE NUCOR, AT&T believes in tying pay to corporate performance; indeed its system is carefully wired so that managers earn far bigger bonuses than most of AT&T's competitors in the telecommunications business when it has a banner year. But the telephone giant also recognizes that a middle manager can feel helpless to influence the fortunes of a $65 billion company. So while keeping the accent on overall accomplishment, AT&T is now shifting to a more balanced plan that also rewards managers for the success of something far closer to them, their business units. AT&T embraced variable pay in 1986, when it abandoned a system of fat salaries and guaranteed raises left over from its days as a monopoly. To attract good managers, the company wanted to rank above average in total compensation -- salary plus bonus. But when it surveyed two dozen competitors ranging from Intel to Motorola, AT&T discovered that its salaries alone were far too high. To hit on the right mix, Ma grimly held down base pay and gradually lifted bonuses. From 1986 to 1989, annual raises averaged roughly half the 5% to 6% that competitors were paying. By 1990, AT&T's salaries had slid from the industry's summit to below the mid-point. For the past three years, while the company has given competitive hikes in the 4% to 5% range, its salaries remained below the average. The plan now covers 80,000 middle managers, along with 30,000 scientists, researchers, and other technical people. In 1992, bonuses ran from about 11% of salary for a $45,000-a-year supervisor of a team of technicians to 15% for a $100,000 division manager, high by industry standards. This year AT&T is changing the plan to dovetail with its drive for decentralization. The new scheme comes in three parts. All are linked to AT& T's benchmark for measuring its performance, Economic Value Added, defined as net operating profits after the company deducts a charge for all the capital it uses, including for plants, inventories, and accounts receivable. The target is to generate big earnings -- the company is close-mouthed on exactly how big -- after the hit for cost of capital, and to keep them growing. On average, executives can earn larger bonuses under the new plan, ranging from 15% at the $45,000 level to 20% for a salary of $100,000. But EVA raises the bar for performance. The first piece is an annual payout rewarding the performance of a manager or small work team. AT&T expects the individual or team bonus to average from 5% to 10%, rising with the salary level. But the percentage shrinks if the corporation as a whole fails to meet its EVA targets, and swells if it surpasses the EVA goal. Stellar performers do better than average ones; this year the company expects to give them as much as 15% of their salaries. As many as 15% of managers will get no individual bonus at all, a strong hint that they should improve or depart. The second component of the plan divides the company into more than 35 profit centers and gives each an EVA target. Rewards flow to those whose units hit their targets. This year the business unit bonuses will be a meager 2% at most (in addition to the 5% to 10% for individual effort), but they will rise quickly over time until they account for about one-third of the total bonus. The final chunk is the largest and is based on AT&T's corporate performance. If the company hits its EVA target, every manager, including those who get no other bonus, receives an extra 7.3% of salary, and if EVA growth is explosive, bonuses can reach 11%. For the first two quarters of 1993, EVA is running close to target. At that rate the managers will collect bonuses averaging 20% of salary for those earning $100,000, and nearly 30% for top performers. But how can linking up big bonuses with remote corporate results really motivate people? AT&T maintains that simple, widely shared corporate goals get managers pulling in the same direction. Says James Meenan, chief financial officer of AT&T's long-distance business: ''We're constantly telling managers to raise EVA anywhere they have a direct impact, and we update them on AT&T's EVA performance. It becomes a reflex. They start holding down inventories and looking for investments that earn more than the cost of capital.'' THE COMPANY has other reasons for emphasizing allegiance to the whole rather than to the parts. Ma wants the business units to work together. For example, the long-distance division and the credit card unit have collaborated to offer a 10% discount on long-distance calls made with AT&T's Universal cards. Says Bruce Hollister, a director of management compensation: ''If managers are focused exclusively on their divisions' profits instead of the whole company, it is far tougher to get them to cooperate.'' AT&T's experience notwithstanding, many companies still tie bonuses to the accomplishments of the individual business unit, this in the belief that only within a profit center can each manager have a strong impact on results. Like AT&T, Scott Paper (1992 sales: $4.9 billion) uses EVA to measure performance, but pay-for-performance is highly decentralized. The Philadelphia company is divided into 14 profit centers that market tissues, printing paper, Wet Wipes towelettes for babies, and other products. Some 70% of each manager's bonus depends solely on his or her business unit's EVA. The other 30% is based on the success of the individual or a small team. Scott's system, which replaces one that tied a portion of the bonus to corporate performance, gets results at Wet Wipes, about a $500-million-a-year business that is growing at over 15% annually. The unit has about 500 employees, including a close-knit team of managers who produce and market the product and develop new lines of business. ''The corporate-wide system diluted the power of variable pay,'' says Christine Henisee, who heads the Wet Wipes division. ''Now we're judged more on something we can impact, not something remote.'' Each manager is awarded points corresponding to his or her management rank. If Wet Wipes achieves its EVA target, the manager gets $20 a point. For an $80,000-a-year product manager, that translates to about $15,000. If the unit exceeds the goal by 50%, the bonus doubles to $50 a point, or about $37,500. Wet Wipes offers a vivid picture of how bonuses drive performance. At a meeting in March, Carlton Harris, a division financial officer, presented seven ways Wet Wipes could increase EVA and bonuses, including reducing inventories by 20%, or $1 million. Each example was worth $1 per point in bonuses towards the $20 target, or about $700 each to $80,000-a-year managers. Says David Welsh, a manufacturing manager at the Wet Wipes plant in Dover, Delaware: ''They keep that bonus right in front of us.'' Which is why Welsh was inspired to cut inventories and reduced raw materials usage by 1%. The virtuoso of pay-for-performance is General Mills. The Minneapolis manufacturer of Wheaties and Betty Crocker cake mixes, among other famous brands, has raised earnings per share an average of 16% a year since 1989. Says Michael Peel: ''We're closer to high-tech and startup companies than big industrial companies in our pay philosophy.'' General Mills yokes half its annual bonuses to the results of the business unit, and half to the manager's individual performance. Base pay is low compared with food industry competitors', and the pay scale is tilted to make excellence look average. A marketing manager earning $75,000 a year needs a $15,000 bonus to match the $90,000 total compensation of his opposite number at a rival manufacturer. But to get that bonus, the manager's product -- and division -- needs to post profit growth and return on capital that are substantially higher than the industry averages for cereals, yogurt, or other products. If the employee merely matches the average, he'll earn about $85,000, $5,000 below the average market. But if the manager's product ranks in the industry's top 10% in earnings growth and return on capital, he or she will collect a bonus of $40,500. That brings total compensation to $115,500, 28% above the market average. By whipping up those profits, a manager can turn salary famine into bonus plenty. A case in point is Yoplait yogurt. A team of managers, many in their early 30s, brought in after a restructuring in 1991, has built a thriving business. Each year, during a meeting at a lakeside resort, the team sets goals for itself that are even tougher than the targets General Mills sets for Yoplait. For fiscal 1993 the official target was a 40% rise in operating earnings. The Yoplait team exceeded its self-imposed goal of 100%, and a half- dozen managers collected bonuses of $30,000 to $50,000, about 50% of their salaries. To stretch results, the team introduced hot new products, like brightly packaged Trix yogurt for kids. At the same time, the group reduced costs by 10%, in part by turning new products over to low-cost contract manufacturers. Says product manager Kim Nelson: ''I get calls from headhunters talking about bigger salaries. But I'm not interested. Here, if you do a great job, you get a bigger reward.'' Adds Craig Hettrich, who heads marketing to restaurants and other institutional customers: ''I spent eight years with a food company that had high base and low variable pay. The effect is stagnation.''

Pay-for-performance is even spreading to some sectors of the financial services industry that have never seen anything like it. Continental Bank of Chicago now pays its commercial bankers close to investment banking-size bonuses if their portfolios achieve a high return on equity. Says Joseph V. Thompson, head of human resources: ''We're attracting far more entrepreneurial people.'' BONUSES aren't just for workers with profit responsibility. They also work well for staff and support groups. Salomon Brothers, the New York investment firm, has long heaped bonuses on its traders and investment bankers. Now, though, it is using variable pay to reinvent its crucial back-office support organization that confirms and settles all equity and bond transactions and currency trades with other banks and firms. Until two years ago the support staff of 670 occupied two cramped floors of a building at the southern tip of Manhattan. To lower costs, Salomon wanted to move the back office to Tampa, a risky decision since the market for these kinds of workers is concentrated in New York and New Jersey. Since 1991, Salomon has spent about $90 million to re-create its back office in a handsome three-story office building in Tampa. The cost advantage is dramatic. Newly hired securities accountants might earn $55,000 in Florida compared with about $80,000 in New York. The firm is teaching the arcane securities business to 375 new employees with the help of 130 veterans, the cream of its New York staff, that Salomon persuaded to move to Tampa. A variable-pay program helped persuade them. The deal is called Teamshare, a white-collar cousin to gain-sharing. As training and technology push down costs, the back-office staff -- 505 in all, including about 17 managers who make over $100,000 a year -- gets to keep 10% of the savings. When Teamshare began in January, expenses were running at an annualized rate of about $90 million, compared with approximately $110 million in New York. Now, Salomon predicts an extra $5 million to $7 million in savings for 1993. That will generate a pool of between $500,000 and $700,000 for annual bonuses, to which the firm will add other awards for outstanding performers and teachers. This year's bonus for a $60,000 accountant could be as much as $6,000. But the Teamshare pool will swell in future years as ! expenses keep falling. Now the support group plans to start a business marketing its services to outside securities firms over the next few years. The net profits will flow into Teamshare, and employees will keep 10%. Most important is the symbolism. Teamshare shows that the support staff is no longer just an adjunct to the front office where the money is supposedly made. The promise of independence helped lure CPA Caroline Balavender, 30, from Staten Island to Tampa. ''In New York, bonuses would go first to the traders and sales people, and we'd get part of what was left,'' she says. ''Teamshare, and selling our services outside, are two of the reasons I came to Tampa.'' Pay-for-performance has long been a staple at fast-growing businesses, and not just because they can't always afford high salaries. Taco Bell, the subsidiary of PepsiCo in Irvine, California, now builds 500 restaurants a year, more than double the number in 1990, most of them company-owned. Leading the way like frontier scouts are real estate managers, who find promising sites, negotiate purchases, and apply for building permits. In 1990 the company was paying such managers bonuses averaging about 20% of base salary. But when people flocked under Taco Bell's distinctive tile roofs in the early 1990s, the company went on a building spree. The chain put its real estate managers on a two-part incentive plan that is far more lucrative than the old one even though managers agreed to a more than 30% cut in base pay, to about $40,000. First a manager receives a fixed fee of up to $4,000 per new restaurant. The fee is higher in mature, saturated markets where it's tougher to open new restaurants. Once the place opens, he receives a second bonus if the eatery's return on investment exceeds 15%. The higher the return, the bigger the check, which can go as high as $50,000 for a booming restaurant. The bonuses are a growth locomotive. On average, managers purchase 20 sites a year, and more than half earn over $100,000 in total compensation. The superstar is Amy McConnell, 36, whose region includes North and South Carolina. Last year she bought an astounding 45 sites, and earned eight times her base salary in bonuses. Says she: ''My strength is keeping 50 projects moving ahead at the same time.'' Besides playing the stock market with her gains, she has fulfilled a childhood dream by building a swimming pool at her house in Atlanta. Variable pay is a terrific motivator in good times, and the companies that have embraced it so far have mostly been on a growth trajectory. The true test comes when business starts flagging and paychecks shrink. Will everyone demand a return to the old order, as the workers at Du Pont did? It may be getting too late for that. Like the owners of any business that is struggling, smart managers have begun to realize they must work harder than ever to conquer the tough, turbulent markets of the economy now evolving. Life won't be cozy in the brave new world of pay-for-performance, but at the end of the day, you'll know more certainly than ever before that you've earned your money.

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