Compensation Strategy

The main purpose of compensation strategy is to give the right rewards for the right employee behaviors.

Compensation is an important motivator when you reward people for achieving desired organizational results. An effective management of compensation takes this into consideration.

Rewards form an important part of compensation strategy. It is said "that money is a powerful source of motivation."

But it is also said that salary increase can only motivate until the next pay increase is due.

Imagine what the impact is if an employee is at the maximum point of his or her salary range. These employee will not get any salary adjustment unless they are promoted.

Desired behaviors are required in order to ensure organizational effectiveness. In turn, this increases productivity and, thus, organizational success.

A good compensation strategy reinforces the organizational culture that you desire. This is an enabling organizational culture under which pay is linked to performance.

To ensure that rewards have the desired effect compensation policy must reflect the organization's strategic business objectives.

Such a policy becomes all the more important in the determination of CEO compensation.

Clearly define the objectives of your rewards system in order to determine what strategies to adopt.

All of these are communicated to everyone in the organization as soon as any such decision is taken. It can happen that good decisions fail to achieve results due to poor communication.

By providing the right combination of benefits of a non-cash compensation, your organization can motivate employees and make them stay to help in its progress.

What is the compensation strategy applicable and how do HR strategies fit in?
Get some insights from this book as well as this other book "Human Resource Strategy: Formulation, Implementation, and Impact (Advanced Topics in Organizational Behavior)"

Use compensation strategy to attract and retain Employees
There are two types of rewards, monetary and non-monetary.

Monetary rewards include salary, bonus, commissions, medical and health benefits, holidays, and retirement benefits.

Among the non-monetary rewards are meaningful and challenging works, recognition and career advancement, safe and healthy working environment, and fair treatment.

Use compensation strategy to attract and retain competent and talented people. Offer a salary that is not lower than the market rates or at least equivalent. But no two positions are the same in value especially when you are making comparison with another organization.

When you want better customer service, reward employee behaviors that produce the desired results such as superior service.

Do not harp on the amount of salary you pay you people yet at the same expect good performance. Your people will sense that there is insincerity on the part of management.

Match the written policy with the right and appropriate actions that demonstrate to your employees that you are a fair and just employer.

Equitable Compensation
Like employees working elsewhere in other organizations, your people are concerned about the equity of their employer's compensation system. Take this into account as part of your compensation strategy.

When people notice inequities, their morale and motivation will suffer.

Do not make it worse by maintaining pay secrecy. This indicates that you may not have an objective and defensible compensation system.

Researches had shown that pay secrecy generates mistrust, and reduces motivation and organizational effectiveness.

It is natural that you are concerned about competitors inducing your people to leave. These competitors may have the financial capability to pay better salaries and benefits. You may lose your best talents.

But by using strategies, you don't have to worry about good people resigning. If they believe in your management's fair-handedness, it is very probable that they will not go away.

Decision to leave an organization requires other reasons in addition to dissatisfaction with compensation.

Compensation strategy will not overlook the most suitable method in determining reasonable rates of pay

Adequate information is needed in order to do this.

  • Pay increase based on employee's length of time spent on the job.
  • This is seniority-based pay that is a good motivator in employee retention. But here, you are not rewarding performance.
  • Performance-based pay is intended to motivate employees to perform better.
  • Such a plan is becoming more common whereby the manager and employee agree on the job goals and performance criteria at the beginning of a specified period, usually at the beginning of the year. The effect of this as a motivator can vary from time to time and from situation to situation.
  • You can give pay increases based on job-related skills and knowledge.
  • This is intended to motivate people to obtain additional skills, acquire new competencies and knowledge. Under this method, you do not pay employees for the job they are-doing, their job title or seniority. This is competency-based pay.

The second method appears the most reasonable. But you can include the elements of seniority and competence.

An effective executive compensation is an important area of your organization's pay program. Executives are among your key employees.

Align compensation strategy to the compensation objectives to attain organizational business objectives

Salary Increases are part of this plan. By this, you are recognizing employees' contribution to the accomplishment of your organization's objectives.

Salaries are normally reviewed annually and an increase is given if the employee merits it.

There are times when you feel your organization cannot afford to give any pay increase.

So what do you do in order not to de-motivate your people?

Consider implementing a policy whereby employees are given salary increases when your organization can afford to give them, in arrears. This ensures that good performers will continue to perform. They know that they will get what is due to them. But you need to fulfill the promise you make.

In order to ensure that this is done properly, ensure that the annual performance appraisal is done properly. You need the employees' performance data.

Giving salary increase to an under-performer is not justified. There are organizations who have implemented a policy that employees who are in the last five percent of the performance bracket will have to go.

Size of Merit Increase
This usually consists of payment in respect of performance level. A merit increase that is perceived as significant by employees can motivate them to perform better.

Make sure that your best employees are duly rewarded, the amount being sufficient enough to motivate.

Ensure that your performance review is effective to reduce any possibility of wrong or biased decisions made.

Pay Increase on Promotion
When an employee is promoted, you not give a significant pay increase.

It is not justified to pay an overpaid employee a significant promotional increase. Consider all relevant matters before you make a decision.

One important thing to consider is the pay parity with people in the same category and performing similar tasks.

General Salary Adjustment
In performance-based pay, do not give across-the-board increases.

Differentiate between outstanding, average and non-performers. If not, your employees will lose trust in the system, resulting in little or no motivational impact. Paying the right salary has impact on employee performance and organizational effectiveness.

Automatic Salary Progression
This has no relationship to performance. Avoid it as it does not encourage your employees to improve their performance.

This is fairly common in the public sector. But there are now significant changes made in accordance with sound human resource management principles.

The only occasion where you can consider giving some salary increase that is unrelated to performance is in respect of increase in the cost of living.

Anomalous Salary
If you have any employee whose salary is below the minimum for the job or too low in relation to the employee's performance and experience, make the necessary adjustment.

This is in addition to an increase based on performance merit.

On the other hand, you may have an employee who is paid above the maximum point in the salary range for the job.

You may freeze further salary increases until the relevant pay level is reached. Then give merit increase based on performance. Don't give increase if performance is unsatisfactory.

Be careful in handling the situation where you do not see the reason for increasing an employee's salary.

Conduct a salary survey whether your range maximum is lower than the markets rates. If so, you may want to adjust the maximum range.

Communicate the results to the affected employees. It is also good if other employees know why this is being done.

All of these help to ensure your compensation strategy the right strategy for your organization.

Compensation strategy requires Salary Reviews
Methods of Salary reviews include:

  • Fixed-date Reviews
    Such reviews are usually on 1st January each year. A modified version is to fix the reviews every quarter for different groups of employees whose appointment fall within the respective quarter. For example, 1st January review for those who joined the organization between 1st January and 31st March. Under this method, there is widespread comparison of salary among employees. In many cases, this creates dissatisfaction. And it can affect employee morale.
  • Anniversary Reviews
    Here, you review employees' salary at 12-month intervals from the date of their appointment. This is a good method to reward good performance. But it is time-consuming and needs a lot of effort.
  • Flexible-date Reviews
    The interval can range from nine months to eighteen months. You can use this method to adjust the salaries of high-performing employees whose salary is low, say after nine months. You can give an under-performer less frequent salary increases, say after eighteen months. A non-performer gets no pay increase. Issue a letter cautioning the employee to improve his or her performance. This is required under the law. If this continues, issue a show cause letter for poor performance.

Compensation and HR management
None of the compensation systems is perfect. Human judgment remains an important element.

Try to reduce the subjectivity as much as possible. Provide the necessary skills training for assessors.

Use compensation strategy to:

  • monitor cost-effectiveness
    Are you getting good returns from the compensation methods that you have adopted?
  • verify legal compliance
    Are there legislation that may prohibit the way your organization is managing its compensation scheme?
  • determine pay equity
    Are you using strategy to minimize or eliminate pay disparity in order to achieve maximum employee motivation? and
  • link pay to performance
    Is a performance-based pay implemented in your organization?

Compensation Strategy Role in Corporate Transformation

It is stated in a Report "Strategic Compensation: How to align performance, pay and rewards to support corporate transformation" that it involves four strategic elements in a closed loop, or continuous process.

These are:

  • translating business issues into compensation or HR interventions
  • designing and delivering them with key objectives
  • leading the resultant change process, and
  • reviewing or evaluating the outcomes."

The Report finds that strategic compensation is a significant contributor to different forms of competitive advantage, including -

  • better business results
  • more effective performance
  • stronger capability
  • higher staff attraction and retention levels
  • heightened motivation, and
  • employee satisfaction.

But it cautions on the repercussions if it is poorly managed. If so, it can "de-motivate, is divisive, create upheavals among employees or force good performers to leave."

In addition, you may find help from Martocchios' book "Strategic Compensation: A Human Resource Management Approach".

He mentions criteria in determining employee compensation, design of compensation system, among other things.

Necessity to Rethink Approach to Compensation

Strategic compensation is the type of compensation that can achieve its intended purpose. Strategy is the course of action taken to ensure that this purpose is attained.

There is no excuse in paying salaries that make no difference in the performance of your employees.

Brent Longnecker,a leading authority on compensation trends, planning and strategy in his book "Rethinking Strategic Compensation" believes we need to rethink our approach to compensation.

He provides "all facets of attracting, retaining, and motivating employees through a robust compensation plan."

Forces Affecting Compensation

Effects of Market Forces on Pay Strategy
Organizations operate in a dynamic market environment. There are times of plenty and there are lean years.

This matter does not fail to catch our attention especially the effects of economic downturns. Many people particularly corporate heads and leaders ask the right questions with regard to compensation strategy that can help motivate their people.

This is one of the many issues that is unavoidable.

You want your organization to survive. And reducing the headcount will quickly reduce your overheads. But is this the right approach?

You need people of the right talent. However, maintaining the same number of employees during difficult times can lead to bankruptcy.

Further, you need to ensure that your organization does not lose talent and needs to engage new talents especially during hard times.

You also need to pay extra attention to ensure employees remain committed and focused. Thus, the importance of preparing a good strategy that maximizes positive effects of compensation.

Consider the following:

  • Differentiate between top performers and non-performers and even average performers. And reward them accordingly.
  • Reward top performers only. This may motivate mediocre performers to contribute more.
  • Check the market whether your compensation system is competitive.
  • Clearly communicate to employees what their compensation package is worth. Then negotiate on possible reduction for certain heads such as non-cash compensation. Don't say demotivating words like "You are lucky you still have jobs."
  • Make plan to achieve continued employee motivation at least in the short-term.
  • Terminate non-performers, not good performers in sectors that are no longer profitable due to the downturn.

You read or hear that some people are not too happy that organizations continue to pay incentives to executives during downturns.

Some suggest that cost-cutting is not the answer but implementation of reward strategy is.

Remember that whatever the economic situation or your organizational financial performance is, formulating and implementing a compensation strategy will ensure the ever-readiness of your organization. This is due, in part, to the commitment of your people.

Once in place, it is necessary to review the strategy at least yearly and whenever there is a need to do so as dictated by events.

Compensation Legislation and Compliance
It is necessary for people in HR and those in managerial positions to know and understand the impact of laws on compensation and benefits.

In the public sector, practically every aspect of employee compensation is governed by legislation. In most cases, there is not much room for innovative ideas in formulating compensation strategy.

The one good thing about this is that the results are predictable at most times. But it can lead to a lot of dissatisfaction among employees.

Legislation specify job grades, salary band or range, salary increases, promotion, allowances, incentives, benefits and so on.

When there are needs for changes, the relevant legislation is amended. Before any incentive or a new allowance is given or paid the law must allow it. If not, nobody will or dares to take the risk going against the stipulated rules.

Some government agencies are usually given some authority under a subsidiary legislation allowing their respective Board of Directors to make decisions. Such decisions must not go against the provisions of the incorporation instrument.

Role of Legislation in Private Sector Compensation
Organization in the private sector are "free" to determine the levels and components of their compensation package. They are "free" to determine their own compensation strategy subject to legislation.

But private entities are not free to follow their whims and fancies in compensation matters.

National governments may enact laws forcing private organizations to change their compensation system and practices. This can happen during times of economic recession when sensitive matters such as compensation come under close public scrutiny. This will also happen in response to sensible public opinion.

If this happens private organizations may not have much choice but to follow. One example concerns the implementation of minimum wage. Here, how can strategy help organizations?

Matters like this bring both positive and negative results.

Some argue that self-regulation is better and preferable. But some sort of basic framework is necessary.

An example in which legislation may determine private entities compensation policy is when a minimum wage is imposed. Here, organizations are "forced to agree". This affects your strategy.

This is a controversial issue. Employees at the lowest level and their unions look forward to it. Employers Associations or Federation dread it.

Government officers may not know what further action they need to take. They are responsible for implementation in which case they cannot go against against government policies.

Another real possibility where governments may intervene is when employees, unions, community leaders, commentators and others believe that the cost of living (COLA) is getting exceptionally high and they appeal for government intervention.

Your organization may want to offer salary increase to help people cope during hard times. In this way, COLA become one of the factors in deciding the quantum of compensation.

Further, anti-discrimination laws have impacts on compensation.

We know that market forces impose "unwritten rules" on the compensation systems and thus compensation strategy. Accepted norms such as in salary systems affect decisions of organizations.

Apart from the enacted laws, the "common law" can shape compensation decisions. When cases come before the law courts, judges interpret the law and refer to decided cases in deciding whether compensation is payable or not. And if payable, the courts will also rule on the quantum payable by the employer.

A lot of these cases are on unfair dismissal or constructive dismissal. In many of these cases "compensation" specifically refers to the amount of back pay that the employer must pay to the former employee.

The law courts will seldom award economic loss as compensation.

The courts may also rule that the employer take back the former employee to resume duties in the same position and drawing the same salary. This may pose problems to the employer and other employees.

Compensation Strategy and HRM
An HR executive like you, will understand "how compensation plans must align with organizational design and corporate strategy."

Whatever you decide to do, it is good to remember that compensation and strategies are essential parts of an effective HR management plan.

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