Strategic Compensation

Chapter # 4 , 5 & 6

StrategiesStrategiesAffectingAffectingCompensationCompensationDecision Decision MakingMaking

Societal

Corporate

Business

Functional

GovernmentalGovernmentalDecisionsDecisions

OrganizationalOrganizationalManagementManagementDecisionsDecisions

Function LevelFunction LevelDecisionsDecisions

Human ResourceHuman Resource

StrategiesStrategies

Total CompensationTotal CompensationTotal CompensationTotal Compensation

DirectDirectDirectDirect IndirectIndirectIndirectIndirect

BonusesBonusesBonusesBonuses

GainsharingGainsharingGainsharingGainsharingSecurity Plans• Pensions

Security Plans• Pensions

Employee Services• Educational assistance• Recreational programs

Employee Services• Educational assistance• Recreational programs

CommissionsCommissionsCommissionsCommissions

Wages / SalariesWages / SalariesWages / SalariesWages / Salaries

Insurance PlansInsurance Plans• MedicalMedical• DentalDental• LifeLife

Insurance PlansInsurance Plans• MedicalMedical• DentalDental• LifeLife

Time Not WorkedTime Not Worked• VacationsVacations• BreaksBreaks• HolidaysHolidays

Time Not WorkedTime Not Worked• VacationsVacations• BreaksBreaks• HolidaysHolidays

What Is the Strategic Compensation What Is the Strategic Compensation Perspective?Perspective?

The strategic perspectivestrategic perspective involves thinking about how pay can assist in achieving

organization success.

Strategy – A fundamental pattern of presentand past deployments and environmentalinteractions that indicates how anorganization will achieve its objectives.

Strategy – A fundamental pattern of presentand past deployments and environmentalinteractions that indicates how anorganization will achieve its objectives.

HR Strategy – Acquiring the Quantity

and Quality of human resources the possess

the necessary knowledge, skills and abilities

within relevant time constraints, to achieve

organization goals

HR Strategy – Acquiring the Quantity

and Quality of human resources the possess

the necessary knowledge, skills and abilities

within relevant time constraints, to achieve

organization goals

Compensation Strategy – Decisions

to Environmental Threats and

Opportunities and linked or at least

support the overall direction of the

organization

Compensation Strategy – Decisions

to Environmental Threats and

Opportunities and linked or at least

support the overall direction of the

organization

Compensation Goals – Attract,

Retain, Motivate and Developthe Human Resources necessary to accomplish the Organization'sgoals

Compensation Goals – Attract,

Retain, Motivate and Developthe Human Resources necessary to accomplish the Organization'sgoals

The Relationship between Business The Relationship between Business Unit Strategy to Compensation GoalsUnit Strategy to Compensation Goals

Compensation Management and Other HRM Functions

Pay rates affect selectivityPay rates affect selectivityPay rates affect selectivityPay rates affect selectivity SelectionSelectionSelectionSelection Selection standards affect Selection standards affect level of pay requiredlevel of pay required

Selection standards affect Selection standards affect level of pay requiredlevel of pay required

Pay can motivate trainingPay can motivate trainingPay can motivate trainingPay can motivate training Training and Training and DevelopmentDevelopment

Training and Training and DevelopmentDevelopment

Increased knowledge leads Increased knowledge leads to higher payto higher pay

Increased knowledge leads Increased knowledge leads to higher payto higher pay

Training and development may Training and development may lead to higher paylead to higher pay

Training and development may Training and development may lead to higher paylead to higher pay

Compensation Compensation ManagementManagement

Compensation Compensation ManagementManagement

A basis for determining A basis for determining employee’s rate of payemployee’s rate of pay

A basis for determining A basis for determining employee’s rate of payemployee’s rate of pay

Aid or impair recruitmentAid or impair recruitmentAid or impair recruitmentAid or impair recruitment RecruitmentRecruitmentRecruitmentRecruitment Supply of applicants Supply of applicants affects wage ratesaffects wage rates

Supply of applicants Supply of applicants affects wage ratesaffects wage rates

Low pay encourages Low pay encourages unionizationunionization

Low pay encourages Low pay encourages unionizationunionization Labor RelationsLabor RelationsLabor RelationsLabor Relations Pay rates determined Pay rates determined

through negotiationthrough negotiation

Pay rates determined Pay rates determined through negotiationthrough negotiation

Common Strategic Compensation Goals

1. To reward employees’ past performance

2. To remain competitive in the labor market

3. To maintain salary equity among employees

4. To mesh employees’ future performance with organizational goals

5. To control the compensation budget

6. To attract new employees

7. To reduce unnecessary turnover & motivate employees

Compensation System

Key Strategic Issues in Compensation

Determining compensation relative to market

Balance between fixed and variable compensation

Deciding whether or not to utilize team-based versus individual pay

Creating appropriate mix of financial and non-financial compensation

Developing a cost-effective compensation program resulting in high performance

Compensation Policy Issues

Pay for performance

Pay for seniority

Salary increases and promotions

Overtime and shift pay

Probationary pay

Paid and unpaid leaves

Paid holidays

Salary compression

Geographic costs of living differences

Forms of Equity

External equity

- How a job’s pay rate in one company compares to the job’s pay rate in other companies.

Internal equity

- How fair the job’s pay rate is, when compared to other jobs within the same company

Individual equity

- How fair an individual’s pay as compared with what his or her co-workers are earning for the same or very similar jobs within the company.

Procedural equity

- The perceived fairness of the process and procedures to make decisions regarding the allocation of pay.

Equity Theory

Equity and Its Impact on Pay Rates

The equity theory of motivation

- States that if a person perceives an inequity, the person will be motivated to reduce or eliminate the tension and perceived inequity.

Expectancy Theory and Pay

Expectancy Theory

- A theory of motivation that holds that employees should exert greater work effort if they have reason to expect that it will result in a reward that they value.

- Employees also must believe that good performance is valued by their employer and will result in their receiving the expected reward.

Perceived Equity of a Pay Structure

MY PAYMY PAYMy qualificationsMy qualifications

My work performedMy work performedMy product valueMy product value

MY PAYMY PAYMy qualificationsMy qualifications

My work performedMy work performedMy product valueMy product value

OTHERS’ PAYOTHERS’ PAYTheir qualificationsTheir qualifications

Their work performedTheir work performedTheir product valueTheir product value

OTHERS’ PAYOTHERS’ PAYTheir qualificationsTheir qualifications

Their work performedTheir work performedTheir product valueTheir product value

Relationship between Pay Equity and Motivation

0

5

10

15

20

25

30

35

40

45

50

Inequity Equity Inequity

My Input/ OutputRatioComparison Person'sInput/ Output Ratio

(Feeling of Being Underpaid)

(Feeling of Being Overpaid)

(Feeling of Being Paid Fairly)

Relationship between Pay Equity and MotivationRelationship between Pay Equity and Motivation

Doing More and Receiving Less Doing the Same and Receiving the Same Doing Less and Receiving More

The greater the perceived disparity between my input/output ratio and the comparison person’s input/output ratio, the greater the motivation to reduce the inequity.

Individual Equity

Fairness about pay differentials among individuals in same job

Established by using

- Seniority-based pay systems: Reward longevity

- Merit-based pay systems: Reward employee performance

- Incentive plans: Employees receive part of compensation based on performance

- Skills-based pay systems: Compensation based on employees possessing skills that firm values

- Team-based pay plans: Encourage cooperation and flexibility

Internal Equity

Fairness of pay differentials between different jobs in organization

Established by job ranking, job classification, point systems or factor comparisons (job evaluation)

Internal alignment,Internal alignment, often called internal equity, refers to the pay relationships between the jobs / skills / competencies within a single organization. The relationships form a pay structure that can support the workflowsupport the workflow,, is fair tofair to employeesemployees,, and directs their behaviordirects their behavior toward organization objectives.

External Equity

Fairness of organizational compensation levels relative to external compensation

Assessed by collecting wage and salary survey information to guide in setting organization’s pay strategy to lead, meet, or lag labor market wages

External Equity

Lag policy

- Lower wages than competitors, compensates employees through other means

- Opportunity for advancement

- Incentive plans

- Good location

- Good working conditions

- Employment security

Market policy

- Wages equal to competitors

- Neutralizes pay as factor

Lead policy

- Higher wages than competitors to ensure organization becomes employer of choice

Methods to Address Equity Issues

Salary surveys

- To monitor and maintain external equity.

Job analysis and job evaluation

- To maintain internal equity,

Performance appraisal and incentive pay

- To maintain individual equity.

Communications, grievance mechanisms, and employees’ participation

- To help ensure that employees view the pay process as transparent and fair.

What Is Competency-based Pay?

Competency-based pay

- Where the company pays for the employee’s range, depth, and types of skills and knowledge, rather than for the job title he or she holds.

Competencies

- Demonstrable characteristics of a person, including knowledge, skills, and behaviors, that enable performance.

Strategic Compensation Policy Concerns

1. The rate of pay within the organization and whether it is to be above, below, or at the prevailing community rate.

2. The ability of the pay program to gain employee acceptance while motivating employees to perform to the best of their abilities.

3. The pay level at which employees may be recruited and the pay differential between new and more senior employees.

4. The intervals at which pay raises are to be granted and the extent to which merit and/or seniority will influence the raises.

5. The pay levels needed to facilitate the achievement of a sound financial position in relation to the products or services offered.

Compensating Teams

Management often overlooks powerful intrinsic rewards that come from

- Team participation

- Being part of corporate decision-making process

Let team decide who gets what from awards basket

The Pay-for-Performance Standard

Pay-for-Performance Standard

- The standard by which managers tie compensation to employee effort and performance.

- Refers to a wide range of compensation options, including merit-based pay, bonuses, salary commissions, job and pay banding, team/ group incentives, and various gainsharing programs.

The Bases for Compensation

Hourly Work

- Work paid on an hourly basis.

Piecework

- Work paid according to the number of units produced.

Salary Workers

- Employees whose compensation is computed on the basis of weekly, biweekly, or monthly pay periods.

The Wage Mix—Internal Factors

Employer’s Compensation Strategy

- Setting organization compensation policy to lead, lag, or match competitors’ pay.

Worth of a Job

- Establishing the internal wage relationship among jobs and skill levels.

Employee’s Relative Worth

- Rewarding individual employee performance

Employer’s Ability-to-Pay

- Having the resources and profits to pay employees.

The Wage Mix—External Factors

Labor Market Conditions

- Availability and quality of potential employees is affected by economic conditions, government regulations and policies, and the presence of unions.

Area Wage Rates

- A firm’s formal wage structure of rates is influenced by those being paid by other area employers for comparable jobs.

The Wage Mix—External Factors

Cost of Living

- Local housing and environmental conditions can cause wide variations in the cost of living for employees.

- Inflation can require that compensation rates be adjusted upward periodically to help employees maintain their purchasing power.

The Wage Mix—External Factors

Collective Bargaining

- Escalator clauses in labor agreements provide for quarterly upward cost-of-living wage adjustments for inflation to protect employees’ purchasing power.

- Unions bargain for real wage increases that raise the standard of living for their members.

- Real wages are increases larger than rises in the consumer price index; that is, the real earning power of wages.

The Wage Curve

Wage Curve- A curve in a scattergram representing the relationship between relative worth of

jobs and wage rates.

Pay Grades- Groups of jobs within a particular class that are paid the same rate.

Rate Ranges- A range of rates for each pay grade that may be the same for each grade or

proportionately greater for each successive grade.

Red Circle Rates- Payment rates above the maximum of the pay range.

Wage Structure with Increasing Rate RangesWage Structure with Increasing Rate Ranges

The Wage Curve (cont’d)

Competence-based Pay, (also skill-based pay or knowledge-based pay)

- Compensation for the different skills or increased knowledge employees possess rather than for the job they hold in a designated job category.

- Greater productivity, increased employee learning and commitment to work, improved staffing flexibility to meet production or service demands, and the reduced effects of absenteeism and turnover,

Broadbanding

- Collapses many traditional salary grades into a few wide salary bands.

Motivating Employees through Compensation

Pay Secrecy

- An organizational policy prohibiting employees from revealing their compensation information to anyone.

- Creates misperceptions and distrust of compensation fairness and pay-for-performance standards.

- Arguments against secrecy:

- Knowledge of base pay is the strongest predictor of pay satisfaction, which is highly associated with work engagement

- Knowledge of base pay more strongly predicts pay satisfaction than does the actual amount of pay received by employees.

Virtuous and Vicious Circles

Organization Organization PerformancePerformance INCREASESINCREASES

Decreased Performance- Decreased Performance- Based PayBased Pay

Decreased Employee Decreased Employee PerformancePerformance

Risk/Return Risk/Return IMBALANCEIMBALANCE

Organization Organization PerformancePerformance DECREASESDECREASES

Increased Performance- Increased Performance- Based PayBased Pay

Increased Employee Increased Employee PerformancePerformance

Risk/Return Risk/Return BALANCEBALANCE

Virtuous CircleVirtuous Circle

Vicious CircleVicious Circle

Framework for AnalyzingDifferent Deals

HIGH PAY – LOW COMMITMENT

Hired Guns (Stockbrokers)

HIGH PAY – HIGH COMMITMENT

Cult - like (Microsoft)

LOW PAY – LOW COMMITMENT

Workers as Commodity (Employers of Migrant

Farm Workers)

LOW PAY – HIGH COMMITMENT

Family (Starbucks)

LowLow HighHighRELATIONALRELATIONAL

Lo

wL

ow

Hig

hH

igh

TR

AN

SA

CT

ION

AL

TR

AN

SA

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ION

AL

Pay structure,Pay structure, refers to the array of pay rates for different work or skills within a single organization. The number of levels, number of levels, differentialsdifferentials in pay between the levels, and the criteriacriteria used to determine those differences create the structure.

Consequences of an Internally Aligned Structure

Pay structurePay structurePay structurePay structure

Undertake trainingUndertake training

Increase experienceIncrease experience

Reduce turnoverReduce turnover

Facilitate career progressionFacilitate career progression

Facilitate performanceFacilitate performance

Reduce pay-related Reduce pay-related grievancesgrievances

Reduce pay-related work Reduce pay-related work stoppagesstoppages

Internal Consistency:Engineering Job Structure

Entry LevelEntry Level

Recognized Recognized AuthorityAuthority

Engineer:Engineer: Limited use of basic principles. Close supervision.Limited use of basic principles. Close supervision.

Senior Engineer:Senior Engineer: Full use of standard principles and concepts. Under Full use of standard principles and concepts. Under general supervision.general supervision.

Systems Engineer:Systems Engineer: Wide applications of principles and concepts, plus Wide applications of principles and concepts, plus working knowledge of other related disciplines. Under very general working knowledge of other related disciplines. Under very general direction.direction.

Lead Engineer:Lead Engineer: Applies extensive knowledge as a generalist or specialist. Applies extensive knowledge as a generalist or specialist. Exercises wide latitude.Exercises wide latitude.

Advisor Engineer:Advisor Engineer: Applies advanced principles, theories, and concepts. Applies advanced principles, theories, and concepts. Assignments often self-initiated.Assignments often self-initiated.

Consultant Engineer:Consultant Engineer: Exhibits an exceptional degree of ingenuity, Exhibits an exceptional degree of ingenuity, creativity, and resourcefulness. Acts independently to uncover and resolve creativity, and resourcefulness. Acts independently to uncover and resolve operational problems.operational problems.

Which Structure has the Greatest Impact on Performance? On Fairness?

Structure AStructure A

LayeredLayered

Chief Engineer

Engineering Manager

Consulting Engineer

Senior Lead Engineer

Lead Engineer

Senior Engineer

Engineer

Engineer Trainee

Structure BStructure B

De-layeredDe-layered

Chief Engineer

Consulting Engineer

Associate Engineer

Pay Mix Policy Alternatives

Base 50%

Bonus 17%

Options 16%

Benefits 17%

Performance - Driven

Base 70%Bonus 6%

Options 4%

Benefits 20%

Market Match

Base 50%

Bonus 10%

Options 10%

Benefits 30%

Work - Life Balance

Base 80%

Benefits 20%

Security (Commitment)

QUESTIONS