Are Performance Appraisal Systems Fair and Effective for Business?

Introduction

The primary goal of human resource management is to utilize one of the organization's most valuable assets to its greatest advantage — its employees. In the increasingly globalized and hypercompetitive environment organizations must operate within today, appraising employee performance is one of the most important tasks in managing an organization's human resources. However, there are several concerns with the process of performance appraisals and ensuring they are effective tools for the organization. As businesses look increasingly toward their knowledge-based capital for a competitive advantage, performance appraisals must be both efficient and accurate.

Determining accurately whether an employee has performed well over the appraisal period is often difficult. This subjective decision can be rife with bias, and judgments may be arbitrary. Over the years, a variety of performance appraisal systems have been developed. From the Performance Management System to the fuzzy-based appraisal system, from Management by Objectives to the 360-degree feedback system, there has been a continuing evolution of appraisal processes in pursuit of a system that is both effective and efficient. Yet the central question remains: are any performance appraisal systems a fair and effective means of motivating employees?

The Changing Performance Appraisal Concept

Manoharan, Muralidharan, and Deshmukh (2009) define performance appraisals as a management tool used to evaluate an employee's efficiency and efficacy in the workplace. It is a formal, structured interaction between a supervisor and their subordinate, typically taking place as a periodic interview. The authors note that an appraisal's goal is to "engage, align, and coalesce individual and group effort to continually improve overall organizational mission accomplishment. It provides a basis for identifying and correcting disparities in performance. Thus, it is activities oriented and is a rational, formalized, legitimate test using observation and judgment." These evaluations are traditionally recorded for future reference, and weaknesses and strengths are identified and discussed as a means of giving employees opportunities to improve where improvement is needed.

The purpose of the performance appraisal is to determine the contribution the employee has made to the organization. This process is found in all types of organizations, irrespective of industry, and is conducted for every employee function and at every level (Sudarsan, 2009). Traditionally, employee performance appraisals have been equated with annual reviews undertaken to measure an employee's organizational efforts for the previous year. However, this traditional concept has been changing in recent years.

A performance appraisal, according to Murphy (2008), depends on what the evaluator is trying to accomplish. The answer is not always simply that they are trying to best measure the performance of their subordinates. With the advent of personnel psychology in the 1970s, evaluators were treated as measurement devices — it was assumed that those performing an appraisal were trying to measure employee performance objectively, and that giving evaluators better tools, such as improved scales and training, would make them more effective appraisers. This assumption was challenged in the 1970s and 1980s, which helped build a better understanding of what evaluators actually do and why.

Performance appraisal processes have changed significantly over the past couple of decades in response to this new understanding, according to Rao (2008), as organizations have attempted to make the process more objective. However, most practitioners now recognize that there is simply no way to completely remove subjectivity from a performance appraisal. The appraiser's personal judgments, standards, processing abilities, and information assimilation all introduce biases that affect objectivity. Today, a variety of appraisal systems are promoted as effective means of determining an employee's contributions as well as motivating employees to improve future performance.

Rao (2008) notes that the traditional form of analyzing an employee's performance over a certain time frame is ineffective and recommends using a Performance Management System (PMS) with several key changes. The first is to stop using the term "performance appraisal" and instead use "performance management." Rao surmises that the word "appraisal" signals that the system's primary purpose is to evaluate the employee, whereas "management" incorporates concepts such as development, planning, recognition, and improvement.

Major Performance Appraisal Systems

He concedes that numerical ratings do have useful properties — they are meant to counteract subjectivity and allow one employee to be compared against another. However, it is precisely these two features that have negatively affected many employees, preventing deserved promotions, causing some to leave their jobs, and reducing the motivation and satisfaction of others. A primary issue with traditional appraisals is that the numbers assigned to employees in the name of objectivity are still issued subjectively. Rao (2008) states, "No two numbers are comparable in appraisals." At best, these numbers follow a nominal scale, but the appraiser's subjectivity still comes into play when those numbers are awarded. Ratings are biased by the rater's own background, personality, expectations, and a variety of other personal factors. If one assessor's expectations are higher than another's, and both employees receive the same numerical rating, those ratings are clearly not equivalent — yet, traditionally, this is how employee rewards are determined.

Rao (2008) offers several recommendations. Ratings should be recognized as notional and used for discussion purposes in conjunction with other parameters, such as achievement of sales targets, percentage increase in customer base, and development of junior employees. Ratings should never be used to determine incentives mathematically. Performance should be measured against expectations, and those expectations should change as situations change, making expectation-sharing an important part of the PMS process. Small recognitions and rewards should be given throughout the year, not only during the formal review. Unrequested, informal feedback can be a powerful motivator and help employees stay on track. Finally, Rao recommends that Human Resource Managers be removed from the PMS process, with this task instead shifted to Performance Managers drawn from line roles.

Yee and Chen (2009) discuss the fuzzy-based approach to appraisal systems. Citing Khairul and Qiang, the authors note that one of the best ways to manage multiple variables based on imprecise data is to apply the fuzzy concept of reasoning, which reflects the method of human thinking. As such, the authors use a multifactorial evaluation model, together with the application of fuzzy set theory, to examine how decisions are made during the performance appraisal process.

In Yee and Chen's (2009) model, employees are required each year to complete a Yearly Work Plan providing a progress report on assigned tasks. At year end, performance is evaluated from this work plan across four facets: the quantity, quality, and effectiveness of the employee's output and their punctuality; the employee's skill and knowledge; personal qualities such as discipline, cooperativeness, and innovativeness; and their contribution inside and outside the organization. Employees are scored on a scale of 1 to 10, and through a series of calculations and weightings, the employee's score is compared against those of the entire company to determine into which reward category they fall. This, the authors surmise, allows for consistently reliable and valid appraisal results.

However, as Murphy (2008) notes, the original scores and the weightings are assigned by biased humans who may have an agenda other than giving the most accurate appraisal possible. There is also the question of whether a truly accurate — and potentially negative — appraisal is the best course of action given the possible negative consequences that may follow.

Sudarsan (2009) surmises that researchers have historically identified three primary approaches to performance appraisals. The first — the results-focused approach — is centered on determining whether a specific job has been performed. If performance targets are met or exceeded, the employee is rewarded. The second — the behavioral approach — focuses on employee behavior rather than output; the methods the employee uses are evaluated, which allows for identifying and correcting what the employee may be doing wrong. The third — the person-centered approach — measures personal characteristics such as skills, knowledge, and ability, based on items such as formal qualifications and certifications, even if actual performance is lacking.

The earliest appraisals were based on employee traits. However, these evolved into appraisals of actual performance and behavior, thanks largely to Peter Drucker's 1955 theory of Management by Objectives (MBO). As Sudarsan (2009) notes, Douglas McGregor also felt that trait-based appraisal systems were ineffective, observing that "managers don't like 'playing God.'" McGregor further believed that managers were reluctant to conduct performance appraisals because they lacked the skill to do so and doubted the instruments' validity. Instead, he endorsed Drucker's MBO concept, where an employee's performance is measured against goals established by the organization itself. Drucker's MBO theory uses objectives as performance yardsticks, and unit managers are expected to participate in and help set their own goals. In theory, organizations develop a cascading system of objectives linking units to the organization, so that unit contributions directly reflect achievement of organizational objectives.

Sudarsan's (2009) study found that nearly all surveyed organizations were concerned with employees meeting objectives or achievements — described variously as objectives, goals, targets, Key Results Areas (KRAs), Key Performance Indicators (KPIs), and work achievements. More than 60 percent indicated that objectives were a criterion for appraisals, while only 40 percent actually required employees to specify their objectives for the following year on a form. This gap is concerning: if 60 percent of organizations use objectives to assess employee contributions but only 40 percent require employees to formally record those objectives, then roughly 20 percent of employees may not know what their objectives are — and when appraisal time arrives, the evaluator may have no clear basis against which to rate them.

A primary fault within the MBO system, according to Sudarsan (2009), is that although employee performance contributes toward organizational objectives, most individuals perform a variety of tasks that do not directly relate to those objectives. There are a multitude of intangible inputs, and for this reason a performance appraisal system based primarily on objectives cannot be applied universally. Citing Deming and Levinson, Sudarsan explains that "things that are easy to count are counted," and that as measurement and quantification gain importance, the finer qualitative aspects tend to get ignored. This can result in "impression management," where an organization places great importance on minor matters that appear impressive but are not actually connected to performance. Sudarsan illustrates this with the example of the Royal Navy in the 1890s, which promoted officers based on how highly polished their ships were — leading some officers to forgo gunnery practice for fear of spoiling the paint. This is analogous to modern organizations focusing on easily measured tasks even when those tasks do not truly impact organizational success.

Beyond these concerns, there remains the underlying problem identified in both Murphy (2008) and Rao (2008): the MBO system still relies on a rating given by an evaluator, with no mechanism to ensure that rating is fairly assigned. Sudarsan (2009) notes that differences in employee output are attributable to the system within which the employee works approximately 94 percent of the time — not to their own skill or effort. Environmental factors are the responsibility of management, not the employee, yet the employee's performance appraisal is negatively affected by factors beyond their control.

Manoharan, Muralidharan, and Deshmukh (2009) note that performance appraisals have been among the most researched topics in human resource management and industrial-organizational psychology. Human resource services have undergone significant change, shifting from the management of established HR functions to guiding and implementing organizational strategies. This increasingly strategic role has heightened the need for line managers to consistently measure the performance of the organization's human resources.

One function of a performance appraisal system, according to Manoharan, Muralidharan, and Deshmukh (2009), is to mobilize the energy of employees toward strategic goals. Performance appraisals can connect an organization's vision, mission, and values with the daily performance of its members. While many businesses focus on the "hard science" of performance management — operational and financial aspects — the most successful companies also attend to the softer aspects of performance measurement. An effective performance appraisal system should do more than establish salaries and drive promotion decisions; it should also help develop performance improvement plans, enabling superiors to coach subordinates and build their skills, thereby transforming appraisals from backward-looking reviews into forward-looking training tools.

Manoharan, Muralidharan, and Deshmukh (2009) propose that Data Envelopment Analysis (DEA) would overcome the subjective aspects of systems such as MBO, 360-degree feedback, and the controversial weighting found in fuzzy-based systems. According to the authors, DEA measures efficiency by estimating an empirical production function representing the highest values of outputs that could be generated by relevant inputs, as obtained from observed input-output vectors for the analyzed Decision Making Units (DMUs). The efficiency of a DMU is measured by the distance from the point representing its input and output values to the corresponding reference point on the production function. DEA defines relative efficiency for each DMU by comparing its input and output data to all other DMUs in the same cultural environment.

Although the DEA system appears on the surface to counteract major appraisal challenges, closer inspection reveals that these challenges persist. Sudarsan's (2009) concern that environmental factors most often account for differences in production is not fully resolved by comparing employees within the same environment, since no two work environments are exactly identical. As an illustration: a group of production employees performing the same function work side by side, but one has a slightly duller knife than his peers. It is not dull enough for him to notice and request a replacement, but it is dull enough to reduce his output by a small measurable amount. Once again, the system is the cause of the performance difference — not the employee — even when measured against like peers.

There is also the reality, as Sudarsan (2009) points out, that many employee tasks do not directly affect measurable output. The DEA system does not account for performance on these critical yet intangible tasks. Murphy's (2008) concern about whether negative productivity appraisals are ultimately beneficial also remains unaddressed. Finally, the qualitative aspects of an employee's performance — personality, attitude, and their effect on the working environment — never enter into the DEA system, leaving an important dimension of human resource assessment unexamined.

Banu and Umamaheswari (2009) note that businesses today must operate within an ever-changing and volatile world. To improve organizational performance and satisfy the changing demands of stakeholders, organizations must be nimble, and their success depends greatly on the people they employ. The 360-degree feedback system is proposed as a means of providing structured, in-depth knowledge about an employee's current performance, which can then be used to guide that employee's individual development.

Yogun (2008) identifies what he considers the traditional problem with the 360-degree feedback method. Although this system has become increasingly popular — with nearly all Fortune 500 companies using it for both employee appraisal and development — its premise rests on obtaining feedback from multiple sources: not only supervisors, but also peers, subordinates, and customers. Because multiple sources of appraisal data are tabulated, the process is believed to be more reliable and fairer than conventional supervisor-only appraisals. The employee is continuously evaluated by all those with whom he or she has a close working relationship (Yogun, 2008).

Despite growing theoretical and practical interest, Yogun argues that little research has examined the acceptability of the system. Acceptability determines whether employees are willing to receive feedback from the multiple sources involved. Yogun (2008) cites Walman and Bowen as defining acceptability as the "willingness to provide unbiased input data (in the case of the raters) or to receive and utilize the 360-degree feedback data." Acceptability is necessary not only for the validity of the system, but for its effectiveness. Yogun surmises that, when considering feedback theory, acceptability is actually more important than the method itself.

When one considers both primary uses of the 360-degree feedback system — facilitating decisions about salary increases and promotions, and supporting development through training — it becomes clear that the system can only truly function when participant employees accept it. Feedback theory, according to Yogun (2008), leads to the conclusion that an employee's reaction to feedback is an important determinant of whether the employee will take action to improve. If a participant does not accept the system and therefore does not give a full and accurate evaluation, the employee will not receive the complete range of feedback that supposedly makes the system effective.

Interestingly, Yogun (2008) states that, despite some studies showing positive attitudes, the 360-degree feedback system is not generally viewed as acceptable by employees, who tend to prefer more traditional appraisal approaches. Factors associated with greater acceptance include: an open organizational culture, perception of organizational change, the use to which ratings are put, the anonymity of ratings, type of job design, and the perceived competence of raters. Organizations with an open culture and less cynicism toward change are more accepting of the system (Banu & Umamaheswari, 2009). If ratings are used for evaluative purposes with positive or negative consequences — rather than purely for development — the system is less likely to be accepted. Likewise, if ratings are not kept anonymous, employees may fear repercussions. In team-based positions, peer relationships are so critical to team success that 360-degree feedback may be particularly poorly received. And if the competency of evaluators is questionable, neither managers nor employees will trust the feedback they receive.

Yogun (2008) concludes that acceptability of the 360-degree feedback system is an overlooked issue in previous human resource management research, and that it is more important than the accuracy of the appraisal itself. Without acceptance, the system does not function properly — some participants may offer only lip-service acceptance while not truly believing in the process, skewing results and undermining the implementation of feedback findings in training and development programs.

Furthermore, Yogun (2008) overlooks several additional flaws. Murphy's (2008) concern about evaluators having motivations other than giving an unbiased opinion applies here as well. Manoharan, Muralidharan, and Deshmukh's (2009) point that environmental and systemic factors beyond the employee's control affect performance is equally relevant to the 360-degree context, as evaluators in the feedback circle cannot know when or to what degree to account for this. Finally, as Murphy notes, when a performance appraisal yields poor results, the negative consequences — such as decreased employee morale — must be weighed against whatever benefits the system provides.