Your employee just made you a million bucks - what do you do?

Link to Inc.com article by Joel Spolsky

So we added classified ads to the site. Noah wrote the first draft of the code in about two weeks, and I spent another two weeks polishing and debugging it. The total time to build the job listing service was roughly a month.

Instead of charging the going rate of $250, we decided to charge $350. Why not? I figured we could establish ourselves as having the premium product simply by charging a premium.

By the time you read this, that little four-week project will have made Fog Creek Software $1 million -- nearly all of it profit.

That raised a question: How do you properly compensate an employee for a smash-hit, million-dollar idea? On the one hand, you could argue that you don't have to -- a software business is basically an idea factory. We were already paying Noah for his ideas. That was the nature of his employment agreement with us. Why pay twice? But I felt we needed to do something else to express our gratitude.

How do you pay employees based on performance when performance is so hard to quantify? The very idea that you can rate knowledge workers on their productivity is highly suspect and always problematic. If you mess up, the consequences are very real.

Psychologists talk about two kinds of motivation: intrinsic and extrinsic. Intrinsic motivation is what drives you to do something regardless of whether you will receive a reward. Why do you spend an hour cleaning the inside of your stove? Nobody looks in there. Your intrinsic motivation compels you to do a thorough job. We all have it -- in fact, most people start out with the desire to excel at whatever they do. Extrinsic motivation is the drive to do something precisely because you expect to receive compensation, and it's the weaker of the two.

The interesting thing, according to psychologists, is that extrinsic motivation has a way of displacing intrinsic motivation. The very act of rewarding workers for a job well done tends to make them think they are doing it solely for the reward; if the reward stops, the good work stops. And if the reward is too low, workers might think, Gosh, this is not worth it. They will forget their innate, intrinsic desire to do good work.

Joel's solution:

We decided to give Noah 10,000 shares of stock -- conditional on him coming back to work for us full time when he graduated.