Strategic perspectives in compensation

Prof. V. Viswanathan

Aligning compensation strategy with business strategy

• Necessity to control labour costs• Increase productivity, enhance quality and

customer service• Competitive environment requires new

strategies toward compensation, new management employee practice and new methods of educating employees to the shifting competitive environment that has brought about the necessity for these changes

Aligning…

• Companies are examining the method and basis for compensating employees

• Seeking to develop high performance and high commitment work systems

• Expanded roles for employees requires the employees to accept more responsibility and accountability

alignment

• Other initiatives are : flatter organization structure, more fluid organization design, faster paced/quicker response customer focus have also driven sweeping changes

• Compensation is critical component to financial success

• Careful attention must be paid on the development of reward systems that reflect the financial capability of the company and reinforce new directions associated with strategies

Alignment….

• Changing the systems is a difficult task for any organization

• Compensation needs to reinforce thd directions set by the leadership

• Efforts to make compensation too great a driver for change may lead to unintended consequences

• If it is too heavily compensation driven, the focus may be lost

Alignment…

• Compensation philosophy is the set of values and beliefs that an organization has in regard to compensation decision-making

• It has a set of guiding principles• A few may not have such a philosophy• Collection of decisions that the firm has made

over a period of time constitutes a compensation set of beliefs and values – a philosophy – whether documented or not

Alignment….

• Difference in philosophies are also widespread• Widespread use of incentives vs. narrow use• Mid point philosophy• Business settings often explain the differences

in philosophy• Some firms are more generous to certain levels

to exempt employees, while other believe in principles of achieving equity across all employees

Alignment…

• Openness with which compensation decisions are made and the degree of stakeholder involvement in those decisionsnis another example of philosophical differences between organizations

• Competition is the key issue• It is important to approach this strategically by

developing a philosophy along with set of objectives

Alignment…

• Business and operating inputs• Industry and labour market practices and

trends• Employee inputs and preferences

• Once a philosophy and objectives are developed, the 4 elements of compensation can be determined

Alignment….

• Base pay structure• Variable pay plans are systems for sharing the

economic benefits of improved productivity, cost reduction, quality and overall business performance in the form of cash

• Most variable pay plans incorporate existing or develop enhanced nsystems of employee involvement

• Fringe benefit structure are set at corporate level and are influenced by legal requirements

Alignment…

• Fringe benefits represent a substantial cost of total compensation – a strategic cost

• Organizations derive little if any behavioural change from this portion of compensation – fringes can influence attraction and retention

Alignment..

• Compensation admn. Includes a collection of activities required to sustain the effectiveness of a strategy

• Issues ranging from labour market surveying to performance management to skill certification and peer review come under this

• Involving stakeholders can reinforce the values and beliefs underlying the philosophy/strategy

Aligning..

• Decisions should be fully integrated into the organization’s business and operations strategy through its comp. philosophy

• The design of compensation systems should be subsequent to, and not precede, this key anslysis and decision point. For the high performance firm, an appropriate level of employee involvement can further reinforce the beliefs and values

Checklist of key compensation questions – base pay delivery

• Method of delivery – job based or individual based

• Number of levels• Structure of levels• Pricing strategies• Adjustment method• Weighing of individual performance

Checklist for variable pay

• Role in compensation strategy• Structure• Measures• Targets• Risk reward ratio• Use of monetary/non-monetary rewards• Individual performance recognition

Checklist for fringe benefits

• Usually determined at corporate level, limited scope at other levels

• Tie to business and HR objectives• Coverage• Cost• Communication ( proper coverage value)

Checklist – Comp. admn

• Stakeholder role in comp.admn• Performance management and evaluation• Overtime policy ( exempt and non-exempt)• Shift differentials• Attendance policy• Role of seniority

Checklist – employee inputs/preferences

• Perceptions of external/internal equity• Pay delivery beliefs• Form ( cash, gainsharing, benefits)• Method ( individual, small group, large group)• Risk tolerance• Trust in management

Checklist – business & operating inputs

• Operations and manufacturing strategy• Sales development strategy• % of comp. costs to total product/service

costs• % of comp costs to controllable

product/service cost• Existing markets/products

Checklist - business

• Potential markets/products• Anticipated volume• Reinforce/enhance work design• Maintain cultual change processes• Other operating issues

Checklist – industry and labour market practices and trends

• Availability/quality of work force• Industry practice• Retention of work force/key contributors• Wage/salary levels and movements• Wage/salary delivery charges

Checklist – compensation philosophy and objectives

• Emphasis on rewards to drive organization• What issues to be driven by compensation as

opposed to management practices• Market definition• Method of delivery• Targeted position in labour market• Targeted position in product market

Checklist - philosophy

• Relationship within total company• Relationshio to selection and retention• Portion of pay guaranteed and at risk• Percentage of work force bonus eligible

Strategic pay

• Pay structure has strategic value that assigns different pay rates for jobs of different values which differentiate individual employee contribution. A well designed pay structure is one which attract and retain potential emplloyees

• Pay structure is the method of administering pay philosophy

pay

• Two leading typres of pay structures are the internal equity method, which uses a tightoly constructed grid to ensure each job is compensated according to the jobs above and below it in a hierarchy and market pricing, where each job in an organization is tied to the prevailing market rate

pay

• Job descriptions are required for all its position so that people know where thye fall within the orgn

• Pay structure helps answer questions about who is who, what each person’s role is, and why people are compensated differently.

• It also helps HR personnel tofairly administer any given pay philosophy

pay

• For example, a company might want to pay everyone at market value; or pay some people at market and some above it. Opportunities for incentives are also dealt with in the pay structure. For example, people with strategic roles will likely to have opportunities for higher incentives

How to construct a pay structure

• Deciding on how many pay structure to construct

• Determining a market pay line• Defining pay grades• Calculating pay ranges for each pay grade• Evaluating the results

Pay structure

• Effective administration of pay structure requires a balance between the pay levels for employees inside the company (internal equity) and the pay level those employees could command in the company’s recruiting markets (external equity)

Pay structure

• Business considerations for pay structure design includes:

• Strategic issues• Competitive practices• The organizational culture• Affordability of pay

Pay structure

• Strategic issues – objectives of the company and the extent to which salary will be used to attract/retain employees capable of achieving business success

• Salary practices of competition in consideration, surveys that report data regarding how they structure their salary admn program

Pay structure

• Technical considerations for pay structure design include the number of range levels, width of the ranges from minimum to maximum value ( range spreads), the distance between adjacent range mid point values (mid point differentials) and the degree of overlap between adjacent ranges

Pay structure

• The no. of ranges in a salary structre is a characteristic that describes the no. of levels needed to distinguish the value of jobs in the orgn.

• The no of ranges required to compost the complete structure is determined by (a) no. of skill and/or responsibility distinctions evident in the organization’s job worth hierarchy,

Pay structure

• The no. of supervisor-subordinate relationships in the company’s organizational structure

• The degree of emphasis on career development and progression

• The resources available to administer the pay program

• Generally, the more range levels, the more administration required

Traditional structure

• Have narrow range spreads, small midpoint differentials and broad overlap between adjacent ranges

• Tend to place greater emphasis on internal equity as opposed to external equity – focus on job content evaluation to arrage t job worth hierarchy

Traditional structure

• Likely to make many more distinctions between company jobs than may acaually exist in relevant recruiting markets

• Are best suited to companies that recognize and reward employee performance with promotions to jobs assigned to higher salary ranges, as opposed to moving an employee’s salary deeper within the range over time

Modern - broadbanding

• Broadbanding is a method of grouping jobs and determining pay that makes compensation admn more flexible more responsive to the needs of changing organizations – eliminates hierarchical grades

• Jobs with similar responsibilities and skill requirements are grouped in “bands” of job families and pay is linked to the market – the approach reinforces and value the em ployees role within the University and the development of competencies to perform the role successfullyu