Compensation 9

8/2/2019 Compensation 9

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COMPENSATIONMANAGEMENT


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Compensation

Compensation is what employees receive fortheir contribution to the organization.

Compensation Management helps the

organization obtain, maintain and retain aproductive workforce.


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Objectives

Acquire qualified personnel

Retain present employees

Ensure equity

Reward desired behavior

Control costs

Comply with legal regulations

Facilitate understanding

Further administration efficiency


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ec ves oug rougEffective Compensation

Administration Acquire qualified personnel- Compensationneeds to be high enough to attract applicants.

Since companies compete in the labour

market, pay levels must respond to the supply

and demand of workers. But sometimes a

premium wage rate is needed to attract

applicants who are already employed in otherfirms.


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Administration (contd) Retain present employees- Whencompensation levels are not competitive, some

employees quit. To prevent employee

turnover, pay must be kept competitive with

that of other employers.


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Administration (contd) Ensure equity- The administration of wages and salariesstrives for internal and external equity.

Internal equity requires that pay be related to the relative

worth of jobs i.e jobs of similar value get similar pay.Internal equity, also called internal consistency, refers tocomparisons among jobs or skills levels inside a singleorganization. The focus is on comparing jobs and skills interms of their relative contributions to the organizations

objectives.

External equity involves paying workers at a rate perceivedto be fair compared to what the market pays.


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Administration (contd) Reward desired behaviour- Pay shouldreinforce desired behaviours. Good

performance, experience, loyalty, new

responsibilities, and other behaviours can be

rewarded through an effective compensation

plan.


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Administration (contd) Control costs- A rational compensationprogram helps an organization to obtain and

retain its work force at a reasonable cost.

Without a systematic wage and salary

structure the organization could overpay or

underpay its employees.


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Administration (contd) Comply with legal regulations- As with otheraspects of human resource management, wage

and salary administration faces legal

constraints. A sound pay program considers

these constraints and ensures compliance with

all government regulations that affect

employee compensation.


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Administration (contd) Further administrative efficiency- In pursingthe other objectives of effective compensation

management, wage and salary specialists try to

design the program so that it can be efficiently

administered. Administrative efficiency,

however, should be a secondary consideration

compared with other objectives.


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Factors determining compensation

and pay rates

A. External Factors

Demand and supply

Cost of living

Trade unions power Govt. legislation

Economy

Technological dev.

Prevailing marketrates

B. Internal Factors

Ability to pay

Job requirements

Managerial strategy The employee

performance,seniority, experience,

potential


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Determinants of Individual

Financial Compensation

A. The Organization

B. The Labour Market

C. The Job

D. The Employee


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The Organization as a Determinant ofFinancial Compensation (Pay-level strategy)

A. Pay Leaders

Organizations that pay higher wages andsalaries than competing firms

B. Going Rate Average pay that most employers provide for

the same job in a particular area or industry

C. Pay Followers

Managers who choose to pay below the goingrate because of poor finances or becausethey believe that they do not require highlycapable employees


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The Labour Market as a Determinant ofFinancial Compensation

A. Compensation Surveys

Organizations conduct surveys to determine prevailing pay rates and benefitswithin labour markets

B. Cost of Living

Cost of living calculations are also used to compare the cost of maintaining a

certain standard of living in different geographic areasC. Labour Unions

When a union uses comparable pay as a standard in making compensationdemands, the employer must obtain accurate labour market data

D. Society

Compensation paid to employees affects a firms prices for its goods orservicesconsumers may be interested in compensation decisions

E. The Economy

A depressed economy generally increases the labour supply, serving to lowerthe average wage rate

In most cases, the cost of living will rise in an expanding economy, exertingupward pressure on pay levels


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The Job as a Determinant ofFinancial Compensation

Employees are paid for the values attached to duties,responsibilities, and other job-related factors likeworking conditions

Techniques for determining a jobs relative worth

include job analysis, job descriptions, and jobevaluationA. Job Analysis and Job Descriptions Job analysis is a systematic method of determining

the skills and knowledge required for performing

jobs The job description is the primary product of job

analysis, consisting of a written document thatdescribes job duties and responsibilities

Job descriptions are an essential part of all job

evaluation systems


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Job Evaluation

Job evaluation is a technique or process used to determinethe relative value of one job in relation to every other

job.

The Ranking Method Raters examine each job description and arrange jobs inorder according to their perceived value to the company

Classification Method

Classes or grades are defined to describe a group of

jobs The raters compare the job description with the class

description

The class description that most closely agrees with thejob description determines the jobs classification


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Factor Comparison Method Raters make decisions on separate aspects of the job; assuming

there are 4-5 universal job factors (Skill, Responsibilities, Effort ,Working Conditions)

Benchmark jobs are identified. Benchmark jobs should be selectedas having certain characteristics.

range of the factors (for each factor, some jobs would be at the lowend of the factor while others would be at the high end of the factor).

The jobs are then priced and the total pay for each job is divided intopayfor each factor

Point Method Numerical values are assigned to specific job components; the sum

of these values provides quantitative assessment of a jobs relativeworth

The Hay Guide Chart-Profile Method is a highly refined version of thepoint method, which uses only a few factors: know-how, problemsolving, accountability, and, where appropriate, working conditions


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The Employee as a Determinant ofFinancial Compensation

A. Pay for PerformanceTheory: Rewarded behaviour tends to be repeated.

Types of P-f-P:

B. Individual IncentivesCompensation programs that relate pay to individual performance

C. Group Incentive Plans

Based on group perfromanceGainsharing plans based on cost savings

D. Company-wide Incentive PlansProfit Sharing Plans

A predetermined percentage of the firms profits is distributed to employees

E. Seniority

Length of time employee has been associated with the company, division, department,

or jobF. Skill-based pay

Employees are compensated on the basis of job-related skills and knowledgeG. Experience

On-the-job experience may greatly enhance a persons ability to perform

H.Potential

Many young employees are paid well because they have the potential to advance tomore challenging positions


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INCENTIVE BASED PAYSYSTEM

ORPAY FOR PERFORMANCE


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Motivation, Performance, andPay

Incentives

Financial rewards paid to workers whoseproduction exceeds a predetermined standard.

Frederick Taylor

Popularized scientific management and theuse of financial incentives in the late 1800s.


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Individual Differences

Law of individual differences

The fact that people differ in personality,abilities, values, and needs.

Different people react to different incentives in

different ways.

Managers should be aware of employee needsand fine-tune the incentives offered to meets

their needs.

Money is not the only motivator.


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Employee Preferences for NoncashIncentives

*The survey polled a random nationwide sample of 1,004 American adults. Among those polled, 851 were working or retiredAmericans, whose responses represent the percentage cited in this release. The survey was conducted June 47, 1999, byWirthlin Worldwide. The margin of error is 3.1%. Responses total less than 100 because 4% responded something else.

Source:Darryl Hutson, Shopping for Incentives, Compensation and Benefits Review, March/April 2002, p. 76.


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Needs and Motivation

Abraham Maslows Hierarchy of Needs

Five increasingly higher-level needs:

physiological (food, water)

security (a safe environment)

social (relationships with others)

self-esteem (a sense of personal worth)

self-actualization (becoming the desired self)

Lower level needs must be satisfied before higherlevel needs can be addressed or become of interestto the individual.


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Needs and Motivation (contd)

Herzbergs HygieneMotivator theory

Hygienes (extrinsic job factors) Inadequate working conditions, salary, and incentive

pay can cause dissatisfaction and prevent satisfaction.

Motivators (intrinsic job factors) Job enrichment (challenging job, feedback and

recognition) addresses higher-level (achievement,self-actualization) needs.

The best way to motivate someone is to organizethe job so that doing it helps satisfy the personshigher-level needs.


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Instrumentality and Rewards

Vrooms Expectancy TheoryA persons motivation to exert some level of effort

is a function of three things: Expectancy: that effort will lead to performance.

Instrumentality: the connection betweenperformance and the appropriate reward. Valence: the value the person places on the reward.

Motivation = E x I x V If any factor (E, I, or V) is zero, then there is no

motivation to work toward the reward. Employee confidence building and training, accurate

appraisals, and knowledge of workers desiredrewards can increase employee motivation.


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Types of Incentive Plans

Pay-for-performance plans

Variable pay (organizational focus)

A team or group incentive plan that ties pay to some

measure of the firms overall profitability.

Variable pay (individual focus)

Any plan that ties pay to individual productivity or

profitability, usually as one-time lump payments.


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Types of Incentive Plans(contd)

Pay-for-performance plans

Individual incentive/recognition programs

Sales compensation programs Team/group-based variable pay programs

Organizationwide incentive programs

Executive incentive compensation programs


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Individual Incentive Plans

Piecework Plans

The worker is paid a sum (called a piece rate) foreach unit he or she produces.

Straight piecework: A fixed sum is paid for each unitthe worker produces under an established piece ratestandard. An incentive may be paid for exceeding thepiece rate standard.

Standard hour plan: The worker gets a premiumequal to the percent by which his or her workperformance exceeds the established standard.

I di id l I ti Pl


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Individual Incentive Plans(contd)

Pro and cons of piecework

Easily understandable, equitable, and powerfulincentives

Employee resistance to changes in standards orwork processes affecting output

Quality problems caused by an overriding outputfocus

Employee dissatisfaction when incentives eithercannot be earned due to external factors or arewithdrawn due to a lack of need for output

I di id l I ti Pl


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Merit pay A permanent cumulative salary increase the firm

awards to an individual employee based on his orher individual performance.

Merit pay options Annual lump-sum merit raises that do notmake

the raise part of an employees base salary.

Merit awards tied to both individual andorganizational performance.

Indi id al Incenti e Plans


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Incentives for professional employees

Professional employees are those whose workinvolves the application of learned knowledge tothe solution of the employers problems. Lawyers, doctors, economists, and engineers.

Possible incentives

Bonuses, stock options and grants, profit sharing

Better vacations, more flexible work hours improved pension plans

Equipment for home, offices

I di id l I ti Pl


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Recognition-based awards

Recognition has a positive impact onperformance, either alone or in conjunction with

financial rewards.Combining financial rewards with nonfinancial ones

produced performance improvement in service firmsalmost twice the effect of using each reward alone.

Day-to-day recognition from supervisors, peers,and team members is important.


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Incentives for Salespeople

Salary plan Straight salaries Best for: prospecting (finding new clients), account

servicing, training customers sales force, orparticipating in national and local trade shows.

Commission plan Pay is only a percentage of sales Keeps sales costs proportionate to sales revenues.May cause a neglect of non-selling duties. Can create wide variation in salespersons income. Likelihood of sales success may linked to external

factors rather than to salespersons performance. Can increase turnover of salespeople.

I i f S l l


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Incentives for Salespeople(contd)

Combination plan

Pay is a combination of salary and commissions,usually with a sizable salary component.

Plan gives salespeople a floor (safety net) to theirearnings.

Salary component covers company-specified

service activities. Plans tend to become complicated, and

misunderstandings can result.

T /G V i bl P I ti


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Team/Group Variable Pay Incentive

Plans

Team or group incentive plan

A plan in which a production standard is set fora specific work group, and its members are

paid incentives if the group exceeds theproduction standard.

H t D i T


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How to Design TeamIncentives

Set individual work standards Set work standards for each team member and

then calculate each members output.

Members are paid based on one of threeformulas: All members receive the same pay earned by the

highest producer.

All members receive the same pay earned by the

lowest producer. All members receive same pay equal to the average

pay earned by the group.

H t D i T I ti


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How to Design Team Incentives

(contd)

Use an engineered production standard basedon the output of the group as a whole.

All members receive the same pay, based on the

piece rate for the groups job. This group incentive can use the piece rate or

standard hour plan, but the latter is more prevalent.

Tie rewards to goals based on an overall

standard of group performance If the firm reaches its goal, the employees share

in a percentage of the improvement (in laborcosts saved).

O i ti id V i bl P


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Organizationwide Variable Pay

Plans

Profit-sharing plans

Cash plans

Employees receive cash shares of the firms profits at

regular intervals. The Lincoln incentive system

Profits are distributed to employees based on theirindividual merit rating.

Deferred profit-sharing plans A predetermined portion of profits is placed in each

employees account under a trustees supervision.


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Organizationwide Variable Pay Plans(contd)

Employee stock ownership plan (ESOP)

A corporation annually contributes its own stock

or cash (with a limit of 15% of compensation) tobe used to purchase the stockto a trustestablished for the employees.

The trust holds the stock in individual employee

accounts and distributes it to employees uponseparation from the firm if the employee hasworked long enough to earn ownership of thestock.


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Advantages of ESOPs

Employees

ESOPs help employees develop a sense ofownership in and commitment to the firm, and

help to build teamwork. No taxes on ESOPs are due until employees

receive a distribution from the trust, usually atretirement when their tax rate is lower.


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Advantages of ESOPs (contd)

The company

An income tax deduction for dividends paid onESOP-owned stock.

Firms offering ESOP had higher shareholderreturns than did those not offering ESOPs.


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Scanlon Plan

Scanlon plan (Joseph Scanlon, 1937) Philosophy of cooperation

No us and them attitudes that inhibit employees from developing asense of ownership in the company.

Identity

Employees understand the businesss mission and how it operates interms of customers, prices, and costs.

Competence

The plan depends a high level of competence from employees at alllevels.

Sharing of benefits formula Employees share in 75% of the savings (reduction in payroll

expenses divided by total sales).

A typical Scanlon plan includes an employee suggestion program, acommittee system, and a formula-based bonus system


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Gainsharing Plans

Gainsharing An incentive plan that engages many or all employees in a

common effort to achieve a companys productivity objectives.

Cost-savings gains are shared among employees and thecompany.

Rucker plan: Cost-savingworkerincentiveplan basedon a formula that relates labor costs to labor's share ofproductioncosts,

A type of gain sharing program that is concerned withthe value added by labor

Improshare: measures changes in the relationshipbetween outputs and the time (input) required toproduce them

Implementing a Gainsharing
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Implementing a GainsharingPlan1. Establish general plan objectives.

2. Choose specific performance measures.

3. Decide on a funding formula.

4. Decide on a method for dividing and distributing theemployees share of the gains.

5. Choose the form of payment.

6. Decide how often to pay bonuses.

7. Develop the involvement system.

8. Implement the plan.


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At-Risk Variable Pay Plans

At-risk variable pay plans that put someportion of the employees weekly pay at risk.

If employees meet or exceed their goals, they

earn incentives.

If they fail to meet their goals, they forgo some ofthe pay they would normally have earned.


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EXECUTIVECOMPENSATION

Pricing Managerial and


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Professional Jobs

Compensating managers

Base pay: fixed salary, guaranteed bonuses.

Short-term incentives: cash or stock bonuses Long-term incentives: stock options

Executive benefits and perks: retirement plans, lifeinsurance, and health insurance without a

deductible or coinsurance.

P i i M i l d


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Professional Jobs

What Really Determines Executive Pay?

CEO pay is set by the board of directors takinginto account factors such as the businessstrategy, corporate trends, and where they wantto be in a short and long term.

Firms pay CEOs based on the complexity of thejobs they filled.

Boards are reducing the relative importance ofbase salary while boosting the emphasis onperformance-based pay.

Short Term Incentives for


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Short-Term Incentives forManagers And Executives

Annual bonus

Plans that are designed to motivate short-term

performance of managers and are tied tocompany profitability.

Eligibility basis: job level, base salary, and impact on

profitability

Individual awards: personal performance/contribution

L T m I ti f


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Long-Term Incentives for

Managers And Executives

Stock option

The right to purchase a specific number of shares of companystock at a specific price during a specific period of time.

Nonqualified stock option: which do not qualify for thespecial treatment accorded to incentive stock options.

Indexed option: method for putting rewards into perspective, by linkingthem to an "index" that measures the relative performance of thecompany

Premium priced option: A premium-priced option has an exercise priceabove the market price of the common stock on the date of grant

Options have no value (go underwater) if the price of the stockdrops below the options strike price (the options stock purchaseprice).

Long Term Incentives for Managers And
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Long-Term Incentives for Managers AndExecutives (contd)

Other plans

Key employee program

Performance achievement plan:Employees eligible to receiveIncentive Compensation awards under this Plan are AppointedVice Presidents, senior management as well as high-levelindividual contributors who are in a position to make measurableand significant contributions to the success of the Company

Restricted stock plans: is a grant of company stock in which therecipient's rights in the stock are restricted until the shares vest(or lapse in restrictions). The restricted period is called a vestingperiod. Once the vesting requirements are met, an employeeowns the shares outright and may treat them as she would anyother share of stock in her account

Phantom stock plans: is simply a promise to pay a bonus in theform of the equivalent of either the value of company shares orthe increase in that value over a period of time

Stock appreciation rights

Performance plans

Plans whose payment or value is contingent on financialperformance measured against objectives set at the start of a


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Other Executive Incentives

Golden parachutes

Payments companies make to departingexecutives in connection with a change in

ownership or control of a company. Guaranteed loans to directors

Loans provided to buy company stock.

A highly risky and now frowned upon practice.

Creating an Executive


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Creating an Executive

Compensation Plan

Define the strategic context for the executivecompensation program.

Shape each component of the package to focus themanager on achieve the firms strategic goals.

Create a stock option plan to meet the needs of theexecutives and the company and its strategy.

Check the executive compensation plan for compliancewith all legal and regulatory requirements and for taxeffectiveness.

Install a process for reviewing and evaluating theexecutive compensation plan whenever a majorbusiness change occurs.


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Why Incentive Plans Fail

Performance pay cant replace good

management.

Pay is not the only motivator.

Rewards rupture relationships.

Rewards can have unintended consequences.

Rewards may undermine responsiveness.

Rewards undermine intrinsic motivation.

Implementing Effective Incentive


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Implementing Effective Incentive

Plans

Ask: Is effort clearly instrumental in obtaining thereward?

Link the incentive with your strategy.

Make sure effort and rewards are directly related.

Make the plan easy for employees to understand. Set effective standards.

View the standard as a contract with your employees.

Get employees support for the plan.

Use good measurement systems.

Emphasize long-term as well as short-term success.

Adopt a comprehensive, commitment-orientedapproach.

C d i C i


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Current trends in Compensation

1. Broadbanding: It involves reducing multiplesalary grades into few levels known as bands.

2. Pay for knowledge, competence, or skill

3. Team pay plans4. Delayering: It involves reduction of the total

number of job levels resulting in a flatter jobstructure.

Documents

Compensation 9