Almost everybody, with the possible exception of HR executives, seems to hate annual performance reviews.
For evidence, just Google “performance reviews” and “waste of time” and then browse the scathing critiques in publications from the Wall Street Journal and Forbes to Fast Company. Managers don’t like the time they have to spend on performance reviews. Employees complain that the appraisals are vacuous, inaccurate, and often just tools for manipulation by their bosses.
Business economists have argued for years that performance reviews are a form of “cheap talk”—communication in which there is little penalty for meaningless blather or even false statements. The truth hurts. Better to avoid it.
Is there a method to the madness? Perhaps. In a startling new analysis, Iván Marinovic at Stanford Graduate School of Business argues that honesty is not always the best policy when it comes to performance reviews.
Marinovic shares the widespread skepticism about annual reviews, but he assumes that they will remain pervasive. The overwhelming majority of corporations still rely on them heavily to hand out promotions and raises. Companies crave the semblance of objective evaluation, and employees often want the reassurance that comes from official feedback.
Given that reality, Marinovic applies game theory to explore the impact of honest versus less-than-honest performance reviews on employee motivation. His conclusion: Honest appraisals ultimately increase costs and reduce profits because they increase the volatility of the effort that people put into their jobs.
“Truth-telling can be counterproductive,” he says. “We typically think of a leader as someone who has a high degree of integrity and whose credibility is perceived to be very high. What my study shows is that being perceived as truthful and accurate [in performance appraisals] does not necessarily benefit the firm financially.”
Why honesty can backfire
Marinovic builds a model that treats a job as a tournament. Think of young attorneys or management consultants competing to make partner at their firms. The employees are told that their promotion or raise after one year will be based on their performance reviews, and that they will get a mid-year review that tells them where they stand in the competition.
Marinovic found that if the mid-year review makes the competition seem more heated than it actually is, an untruthful manager can keep pressure on both the top performers and the laggards to work as hard as they can.
The challenge, Marinovic says, is that employees know that companies have an incentive to be less than accurate in the appraisals. Employees, he says, always try to gauge the integrity of the people who appraise them and of the company’s overall appraisal process. If employees see the appraisals as window dressing—less than accurate—they will discount the reviews and react very little.
On the other hand, the more that people believe their job reviews, Marinovic contends, the more likely they are to react with substantial changes in their work effort—and not always for the good. Some employees might work longer and harder if they worry about losing the race for promotions and bonuses, but an honest appraisal could also prompt star performers to relax because they don’t feel any competition or persuade laggards to give up hope and stop trying.
Research shows that volatility in employee effort doesn’t increase the total amount of work that gets done, Marinovic says. Instead, it can create a cost for a company because most people don’t like volatile workloads and will instinctively demand higher pay upfront to compensate. Even though employees may not think about it consciously, they will eventually associate highly credible performance reviews with unpredictable spurts of late-night and weekend work.
“We show that the value of a firm decreases when the perceived truthfulness of the feedback is higher,” Marinovic says. “The value of the firm is highest when that communication is perceived as worthless.”