NOTES ON COMPENSATION MANAGEMENT

Importance of Pay Pay represents by far the most important and contentious element in the employment relationship, and is of equal interest to the employer, employee and government

to the employer because it represents a significant part of his costs, is increasingly important to his employees' performance and to competitiveness, and affects his ability to recruit and retain a labour force of quality; to the employee because it is fundamental to his standard of living and is a measure of the value of his services or performance; to the government because it affects aspects of macro-economic stability such as employment, inflation, purchasing power and socio-economic development in general.

While the basic wage or pay is the main component of compensation, fringe benefits and cash and non-cash benefits influence the level of wages or pay because the employer is concerned more about labour costs than wage rates per se. The tendency now is towards an increasing mix of fringe benefits, which therefore have an important impact on pay levels. In industrialized countries, and sometimes in countries with high personal tax rates, the non-pay element of executive compensation has substantially increased in recent years. Objectives of Pay Pay determination may have one or more objectives, which may often be in conflict with each other. The objectives can be classified under four broad headings. The first is equity, which may take several forms. They include income distribution through narrowing of inequalities, increasing the wages of the lowest paid employees, protecting real wages (purchasing power), the concept of equal pay for work of equal value. Even pay differentials based on differences in skills or contribution are all related to the concept of equity. A second objective is efficiency, which is often closely related to equity because the two concepts are not antithetic. Efficiency objectives are reflected in attempts to link a part of wages to productivity or profit, group or individual performance, acquisition and application of skills and so on. Arrangements to achieve efficiency may be seen also as being equitable (if they fairly reward performance) or inequitable (if the reward is viewed as unfair). A third objective is macro-economic stability through high employment levels and low inflation, for instance. An inordinately high minimum wage 1

would have an adverse impact on levels of employment, though at what level this consequence would occur is a matter of much debate. Though pay and pay policies are only one of the factors which impinge on macro-economic stability, they do contribute to (or impede) balanced and sustainable economic development. A fourth objective is the efficient allocation of labour in the labour market. This implies that employees would move to wherever they receive a net gain; such movement may be from one geographical location to another, or from one job to another (within or outside an enterprise). Such movement is caused by the provision or availability of financial incentives. For example, workers may move from a labour surplus or low wage area to a high wage area. They may acquire new skills to benefit from the higher wages paid for skills. When an employer's wages are below market rates employee turnover increases. When it is above market rates the employer attracts job applicants. When employees move from declining to growing industries, an efficient allocation of labour due to structural changes takes place. The need for a Compensation StrategyFor any / all of the following reasons: 1 To attract and retain the best in the industry 2 To have compensation strategy aligned to each business to better serve independent business needs 3 Should attract lateral hires 4 Need for greater flexibility in taking compensation decisions 5 Need to align employee career movement 6 Adding value through personnel costs GOALS OF A COMPENSATION STRATEGY 1 Capable applicants are attracted towards the Organization and it helps acquire qualified competent personnel 2 To retain current employees so that they do not quit If compensation levels are not competitive, it will result in higher turnover 3 Motivate employees to perform better 4 Encourage value added performance Reward the desired behaviour 5 Control costs Through a rational compensation system, employees can be obtained and retained at a reasonable cost 6 Promoting continuous development through competence related and skill based pay schemes, effective performance management 7 Promoting teamwork through team pay 8 Promoting flexibility by replacing hierarchical and rigid pay structures 9 Providing value for money by evaluating the costs as well as benefits of reward management practices 10 Facilitating easy understanding by all, including employees, 2

operating managers and HR personnel 11 Providing value for money by evaluating the costs as well as benefits of reward management practices 12 Easy administration CHARACTERSTICS OF A SOUND COMPENSATION STRATEGY 1 Be congruent with and support corporate values, beliefs, philosophy and culture 2 Emanate from business strategy and business plans (medium and long term) 3 Fit the desired management style 4 Provide the competitive edge required; be based on an industry benchmarking study 5 Be based on an Organizations ability to pay 6 Be adaptable to changing business conditions 7 Ensures Equity both internally and externally 8 Complies with the legal regulations as imposed by the government 9 Is effectively communicated 10 Careful selection of performance measures, determination of performance awards and distribution mechanisms 11 Union participation and involvement in designing the policy to facilitate comprehension and acceptance 12 Provisions for modifications and periodically reviewed A COMPENSATION STRUCTURE COMMUNICATES 1 2 3 4 5 Organization Philosophy / Culture Career Progression Benefits to Employees Individual v/s Team Focus Performance Recognition giving the message to align Total COMPENSATION with Business Situation, Needs & Goals 6 Generate Flexibility / Variability of Costs 7 Focus on Effectiveness of Total Compensation Policy FACTORS INFLUENCING COMPENSATION POLICY Philosophy Organization Mission, Vision, Goals & Values Inclination towards People Development, Attraction & Retention of Talent Inter / Intra Level Relativity, Compa Ratio Assess Competitiveness Current & Targeted Percentile Positioning Budget Considerations

Parity Positioning Paying Ability

3

FACTORS AFFECTING COMPENSATION POLICY EXTERNAL FACTORS 1. Parity: External equity (prevalent pay structures in industry / geographic location) 2. Demand and supply: of labour and market condition 3. Geographic location: cost of living and inflation ORGANIZATION - RELATED 1. Philosophy: mission, vision, goals & values inclination towards people development, attraction & retention of talent, goodwill & organization culture 2. Parity: internal equity (relevant differentiating factors performance, seniority, skills, responsibilities, interpersonal abilities, individual vs. Team vs. Organization roles) 3. Paying ability: budget considerations / financial implications / limits of ability to pay; business performance 4. Legalities: compliance of statutory and government requirements 5. Trade unions: influence in collective bargaining 6. Fringe benefits: statutory (overtime payment, canteen subsidy, employee provident fund, gratuity) & non-statutory (conveyance allowance, LTA, loans, insurance) INDIVIDUAL RELATED 1. Job related: job requirements and internal consistency 2. Competition: availability of special competent personnel 3. Flexibility: due to varied levels of competencies and skills of managers 4. Responsibilities: individual productivity and performance / contribution to output 5. Individual assessment: qualifications and relevant experience WHAT IS A COMPENSATION SYSTEM Allocation, conversion, and transfer of a portion of the income of an organization to its employees for their monetary & in-kind claims on goods & services A Monetary claims are wages or salaries paid to an employee in the form of money / or a form that is easily and quickly transferable to money at the discretion of the employee 1. Wages & salaries in the form of money could be 2 types: present payments (earned & acquired at present time) & deferred payments (earned but not acquired until some future time) 2. Coins / paper money / cheques, credit cards 3. Stock option plans / pension plans / post retirement income adjustments In-kind claims are claims on goods & services made available & paid for either totally or in some percentage by the employer 4

B

in lieu of money provide an equivalent value for what has been offered & received little or no immediate monetary gain organizations purchase the usually desired goods & services to take advantage of 1. Economies of scale available through group purchasing 2. The benefits available through tax laws & regulations 3. Government laws requiring certain services NON-COMPENSATION SYSTEM Situation related rewards, related to the physical & psychological well being of each employee, these rewards satisfy the emotional & intellectual demands - Impact on the intellectual, emotional & physical well-being of the employee 8 DIMENSIONS OF COMPENSATION SYSTEM - PAY FOR WORK & PERFORMANCE - money provided in short term (weekly / monthly / annual bonuses & awards) - permits employees to pay for goods & services desired - depends on: job requirements; outputs that meet or exceed quantity, quality & timeliness standards; innovations leading to improved productivity; dependability; loyalty - includes: base pay, premiums & differentials, short term bonuses, merit pay, travel expenses, clothing reimbursement etc - PAY FOR TIME NOT WORKED - days off with pay for holidays, longer paid vacations, election official, witness in court, paternity leave, maternity leave, time off to vote, personal leave, relocation payments, lunch & rest periods etc - although they increase labour costs, but they enhance quality of work life opportunities for most employees - LOSS-OF-JOB INCOME CONTINUATION - job security is a prime consideration - loss of job could be due to any of the following: * accident * sickness * personal performance * interpersonal dynamics problems * firms decline / end - unemployment insurance, supplemental unemployment benefits (subs), severance pay, job contract etc help unemployed workers subsist until new employment opportunities arise - DISABILITY INCOME CONTINUATION - health or accident disability can lead to non performance of normal assignments - family expenses persist - social security, workers compensation, sick leave, travel accident insurance, accidental death and dismemberment, short & 5

long-term disability plans are provided - DEFERRED INCOME - providing income after retirement - includes social security, pension plans, profit sharing (long term), stock option plans - funds invested in these draw tax-free interest thus employees can defer tax obligations - SPOUSE (FAMILY) INCOME CONTINUATION - Providing dependents with income when an employee dies or is unable to work due to total and permanent disability - life insurance plans, social security, pension plans, workers compensation - HEALTH, ACCIDENT AND LIABILITY PROTECTION - Income continuation & payment for the expenses incurred for overcoming the illness / disability - wide variety of insurance plans available - medical, hospital, surgical insurance (for self & dependents) - major medical, dental & vision care. hearing aid, post-retirement medical plans, prescription drugs, visiting nurse - liability related insurance: group legal, group automobile, group umbrella liability, employee liability - INCOME EQUIVALENT PAYMENTS - Perks or perquisites - tax free: charitable contributions, giving of gift, employee assistance programs, counseling, child adoption, child / elderly care, subsidized food service, discounts on merchandise, fitness programs, parking, commuting assistance (transportation to & from work), fly first class, professional memberships, professional journals, special relocation & moving allowances, pay for spouse on business trips, home entertainment allowance, domestic staff allowance, mobile phone, use of assistant for personal services - Tax favoured: medical expense reimbursement, chauffeur driven car, company plane / yacht, company provided facilities, personal use of credit cards, vacation accommodation, special loan arrangements, club membership, concierge services DIMENSIONS OF NON-COMPENSATION SYSTEM Enhance dignity and satisfaction from work performed - Least expensive & most powerful rewards - Employee recognition leads to self - worth & pride - Employees should feel that they are needed & their efforts are being appreciated Enhance physiological health, intellectual growth, and emotional maturity - Provide a safe working environment: provision of safe equipment, risk free environment, minimization of noxious fumes, avoidance of extreme heat, cold & humidity conditions, elimination of contact with radiation & other diseaserelated materials, reduced noise levels, clean workstation, - stress & technological advancements affect emotional well-being 6

of the individual: providing a stable & secure lifestyle, training & development opportunities to overcome health-related problems Promote constructive social relationships with coworkers - an inexpensive & valuable reward is a work environment where trust, fellowship & loyalty emanate from the top levels of management, percolating to the grassroots - comradeship of workplace associates - opportunity to develop productivity promoting social relationships - moving towards team based operations Design jobs that require attention and effort - restructuring job tasks to make it challenging - sense of accomplishment from work - job rotation to increase flexibility - turning supervisors to mentors - making jobs more interesting & less repetitive Organizations increase quality & productivity; reduce employee turnover, absenteeism, tardiness, waste of physical resources, theft & malicious damage Allocate sufficient resources to perform work assignments - all necessary human, technical and physical resources should be made available to support & aid the employee in accomplishing the assignment - the organization must enable employees to gain the required skills & knowledge necessary to perform the assignment - organization should do everything possible to assist the employee in completing the assigned work successfully Grant sufficient control over job to meet personal demands employee participation in decision-making process casual dress day scheduling work activities flexible work schedules: compressed workweeks, flextime programs, work from home choice job sharing (2 part-time employees share 1 full-time job) Offer supportive leadership & management employee faith & trust in management skill & interest in coaching & counseling of employees praise for a job well done constructive feedback leading to improvement in job performance sufficiently flexible leadership with policies, rules, regulations so that an employee can meet job responsibilities without infringing on rights & opportunities of other employees TRADITIONAL COMPONENTS OF A COMPENSATION PROGRAM Fixed cash compensation - largest component of the total compensation & rewards package - monetary remuneration based on time worked & not on output / performance - base wages & salaries depends on the internal value (determined by job evaluation) & external value (through market pay surveys) of employee 7

- after-tax paycheck - determines lifestyle of the employees - leisure activities restricted / defined by the paycheck - most critical part of the four components Wage & salary add-ons - monetary remuneration - paid over & above the salary - includes payments for working overtime, shift differentials, premium pay for working on holidays / weekends - least critical of the four components Incentive payments - pay- for - output system - performance pay linked to both the company & the individual - difficult to measure in the service industry which employs 70% of the workforce of the total employed people - in several professions, it is difficult to measure output & pay incentives Employee benefits & services - hidden payroll or fringe benefits - indirect financial & non-financial payments - supplementary compensation totally dependent on organizational philosophy - includes benefits provided by an employer to his employees & his family (in some cases) - benefits for employment security; health protection; old age & retirement; personnel identification, participation & stimulation - two types: mandatory employee benefits: voluntary benefits MANDATORY EMPLOYEE BENEFITS Employer is compelled to provide for certain benefits by the operation of the law Paid holidays factories act, 1948 a weekly paid holiday Paid vacations one day for every 20 days worked Retrenchment compensation industrial disputes act, 1947 (one month notice or one months pay) paid @ 15 days wage for every completed year of service with a maximum of 45 days wage in a year Lay-off compensation - industrial disputes act, 1947 (@ 50% of the total of the basic wage & da for the period of their lay-off) paid upto 45 days in a year Workmens compensation workmens compensation act, 1923 payment to meet the contingency of invalidity & death of a worker due to employment injury or occupational disease Health benefits employee state insurance act, 1948 sickness benefit, maternity benefit, disablement benefit, dependents benefit, medical benefit Canteen facility factories act, 1948 canteen in factories employing more than 250 workers Provident fund contributions by employer & employee are 8.5% of basic salary benefit payable on retirement, voluntary separation or death Employee pension scheme introduced in 1995 employer 8

contribution is directed to pension + 1.66% of employee wages contributed by central govt. Entitled to pension @ 1 / 70th of salary for each year of service Gratuity after 5 years of continuous service 15 days salary per year of service upto a ceiling of INR 3,50,000/Companies with more than 10 employees Given in case of separation, superannuation, death or disablement No contribution of employees towards this benefit PSU scheme public sector scheme Various pension schemes with accrual rates varying from 1/100 to 1/60 Both employer & employee contribute Membership is mandatory for all those in PSUs Leave encashment scheme claim encashment of unutilized leave at the termination of service Not-taxable in the hands of the retired employee Payable to dependents in case of death of employee VOLUNTARY EMPLOYEE BENEFITS Its is entirely the choice of the employer to provide these benefits to the employees Shift premium for IInd & IIIrd shifts for the odd hours Company housing accommodation some companies even pay for the utility bills (electricity / water & society charges) Subsidized food & transport Group mediclaim / personal accident insurance adequate coverage for the hospitalization expenses incurred due to illness, disease or injury sustained in accident / pregnancy (for female) for employee & immediate family dependents Educational facilities sponsor higher education of employees & family members For certifications / trainings / memberships etc co-operative credit societies for fostering self-help than going to money lenders Legal aid provide legal assistance & aid through company lawyers or others as & when required Recreational facilities gyms, clubs, internet caf, one film per week shows etc Regular meetings & gatherings of employees with their families to express talent, creativity & relieve of work stress Loans at subsidized rates of interests for housing deposits, vehicle purchase, marriage, illness or death of a close family member Personal health care extensive health check-up periodically cellular phones / laptop on basis of business requirement Corporate credit card to take care of official expenses arising out of business trips Gifts on various occasions like birthday, anniversary, festivals to strengthen bond between employer & employee

9

TOTAL COMPENSATION

COMPENSATION STRUCTURE VARIOUS PERSPECTIVES

SALARY TRENDS AVERAGE SALARY INCREASE IN TOTAL COST TO COMPANY (TCC) FOR THE YEAR 2006 ACROSS ASIA PACIFIC 14.0%

8.0% 5.5% 4.5%

8.0% 6.5% 3.5% 4.0% 4.5% 3.0% 7.0%

Australia

Malaysia

China

Philippines Hong Kong

Singapore

India

Taiwan

Japan

Thailand

Korea

10

1 Average salary hike in 2006 for India at 14%, making it the highest in Asia Pacific 2 Employees in management staff cadre received average salary hike of 16% in 2006 PERFORMANCE LINKED AWARDS VARIABLE PAY TREND 1 Employee expectations are on the rise 2 Senior/ Top Management received the highest percentage of variable pay in their compensation in the range of 17% to 30% 3 Variable Pay increasing in year 2006 Banking Sector from 13% to 24% IT from 13% to 18% Manufacturing from 10% to 16% FMCG from 14% to 18% PERCEIVED BENEFITS 1 International Educational Advancement Program & Tuition Reimbursement 2 Signing Bonus 3 Investment company makes on Employee & Training imparted (National/ International) 4 OPPORTUNITIES OF LEARNING Early responsibility in career, freedom at work and innovate 5 JOB PROFILE Work Content, Challenging Assignments 6 CAREER PROSPECTS & GROWTH OPPORTUNITIES Growing our own timber 7 FUTURE PLANS OF COMPANY Growing organization 8 TREATMENT OF PEOPLE Strong values of trust, caring, fairness and respect within organization, healthy relationship at work. NEW COMPENSATION APPROACHES Changing environmental pressures Three changes having impact on organization structure & management systems: Product markets have become global increased competition in domestic & foreign markets Rapidly changing technology greater need to employ technically & professionally skilled workers keep their knowledge base & competencies current Fast changing demographic composition of Workforce * higher age group of employees, more women employees, rising level of formal education 11

Organizations response Major changes in organization structure & management systems new model: flat, flexible, team-based, participative, diverse, quality- focused, dynamic, globally-oriented changes in the job from being specialized & stable multidimensional horizontal growth of employees new approaches to compensation & rewards FOUR NEW APPROACFHES TO COMPENSATION SKILL-BASED PAY Employees are paid according to their number of skills - skills are grouped in skill-blocks as an employee acquires each block, his pay goes up - skill block includes different types of skills: **breadth skills which focus on all related jobs in an integrated production process **depth skills which aim to increase specialization in a particular area **vertical skills which are generally possessed by managers & professionals Advantages to organizations a workforce is created that can perform multiple tasks organization gets flexibility to rotate employees & take care of organization menaces like absenteeism, overtime, turnover, work-flow interruptions due to production bottlenecks and variations in product demand better problem solving capability improved productivity & quality of services/ products stronger employee commitment employees become familiar with the operations & tend to recognize the value their own contributions Advantages to the employees acquire more self-control over their own earnings develop greater capacity for self-management experience more varied and enriched task assignments these contribute to job satisfaction to a great extent BROADBANDING Delayering of pay structure - a typical pay structure consists of grades & ranges - a grade is a grouping of jobs falling within a certain range of evaluation points - attached to grades are pay ranges minimum to maximum spread * successively higher grades will have higher minimum & higher maximum pay rates - pay structure typically consists of a tall hierarchy of narrowly defined grades, each with a relatively limited pay range * such structures create in employees a strong motivation to 12

strive towards upward mobility as a means to obtain higher compensation rewards Broadbanding is defined as - Consolidation of existing pay grades into a small number of wide bands - results in broad minimum-maximum pay spread for each band - compared to conventional pay structures, broadband structures have fewer bands & broader pay ranges - best suited to the needs of flexible, flatter & performance-oriented organizations of today - Allow flexibility in moving employees between jobs within a band without formal job titles & pay grade changes - Flat structures place increased emphasis on lateral career moves & skill development that can be rewarded through broadbanding - Greater scope for pay growth through within- band-pay increases than through promotions to a higher band Example1 of how broad banding works Band I - Executives, entry-level staff Band II - Sr. Executives, supervisors, coordinators Band III - Assistant managers Band IV - Managers, business managers Band V - General managers, national managers Band VI CTO, CFO, CMO Band VII - President & CEO Example2 of how broad banding works In a HR consultancy firm there are 3 bands across the organization with a wide pay range in the same band: - Entry level: requires good quantitative skills, knowledge of basic MSOffice, ability to analyze & ability to learn fast - Proficiency level: skills in project management, problem-solving, resource management, thorough subject knowledge - Mastery level: a leadership position requiring visionary skills & ability to give direction to the organization To move up the ladder, the employee needs to add value that would clearly separate his accountability & key performance indicator *here advancement means adding newer competencies VARIABLE PAY Defined as - financially measurable reward paid to an individual based on his overall performance - a powerful tool that enhances employee productivity & performance TEAM REWARDS - These are awarded to teams or groups based on their collective performance in achieving the assigned targets - periodically targets are monitored to encourage improved productivity & reward - provide each member an opportunity to receive a bonus on the output of 13

the team a whole - most appropriate when jobs are inter-related - generally payouts are determined by team rankings (based on criteria like ratings by internal & external customers, achievement of quarterly team objectives & the management input recognizing special circumstances) - within same team also, all members do not receive same payout it is subject to peer evaluation - major problem in this is designing a model team-based pay system Steps for setting up team rewards - Appraising teams - to evaluate the performance of team against kras / preset targets - communicate the results to ensure transparency - measure the performance of the team (actuals vs. Targets) every month - rewarding teams - Make the minimum level of performance the benchmark of team reward - make team performance mandatory for individual rewards - distribute the team reward in proportion to the basic pay of the grade to which each team member belongs - build a geometric rate of progression of the award for each successive target - link the individual award to the basic pay of the grade to which the individual belongs VARIABLE PERFORMANCE LINKED PAY (VPLP) The corporate buzzword today Becoming a more common method for rewarding employees while linking their performance more closely to the employers financial success Some companies are allowing all levels of employees to participate in these programs Variable pay is an innovative way to bring wages and salaries in line with companies market performance A simple concept thats based on rewarding employees for increased sales or efficiency rewarding employees who increase productivity or efficiency provides incentive for other employees who want to share in the bounty rather than rewarding every employee with a pay raise or bonus, variable pay rewards the individual worker, or a team of workers, for extraordinary efforts Indian companies increasingly adopting VPLP more than 85% organizations having VPLP Objectives / Benefits of VPLP A powerful tool to enhance employee productivity & thus impact bottomline align rewards to business goals build a high-performing organizational culture 14

links overall compensation strategy with the organizations business strategy helps differentiate between a mediocre & a star employee a very effective motivational technique helps team members understand their job expectations better a valuable retention tool helps upgrade skills of team members by inducing a competitive environment Types of Plans Individual Based Pay Individual-based plans are the most widely used Of the individual-based plans commonly used, merit pay is by far the most popular - its use is almost universal - merit pay consists of an increase in base pay, normally given once a year - supervisors ratings of employee performance are typically used to determine the amount of merit pay granted - once a merit pay increase is given to an employee, it remains a part of that employees base salary for the rest of his or her tenure with the firm Team based pay Normally reward all team members equally based on group outcomes these outcomes may be measured objectively or subjectively the criteria for defining a desirable outcome may be broad or narrow as is less commonly done in individual-based programs, payments to team members may be made in the form of a cash bonus or in the form of non-cash awards such as trips, time off, or luxury items Plant wide / company based pay Plant-wide or company-wide pay-for-performance plans reward all workers in a plant or business unit on the basis of the performance of the entire plant or business unit profit and stock prices are generally not meaningful performance measures for a plant or unit because they are the result of the entire corporations performance most corporations have multiple plants or units, a factor that makes it difficult to attribute financial gains or losses to any single segment of the business - therefore, the performance indicator most frequently used to distribute rewards at the plant level is plant or business unit efficiency, which is normally measured in terms of labor or material cost savings compared to an earlier period or another plant or business unit They are the broadest type of variable-pay incentive programs Reward employees on the basis of the entire corporations performance 15

the most widely used program of this kind is profit sharing. Profit sharing is a company-wide pay-for-performance plan that uses a formula to allocate a portion of declared profits to employees typically, profit distributions under a profit-sharing plan are used to fund employee retirement plans Features of VPLP Can be in cash or kind generally offered in terms of extra perks as soft housing loans, company cars, junkets abroad, mediclaim policies If overall company performance is poor, SBU / team performance does not warrant VPLP Largely, it does not exceed 30% of an executive s annual pay Minuses of VPLP Recalculations in the case to reward nonexempt (hourly) employees VPLP requires employers to include certain types of variable compensation, such as bonuses, in employees regular hourly wage rates as a result, companies that pay variable compensation to nonexempt employees must often recalculate employees regular hourly pay rates by factoring in the variable pay the recalculation then affects the overtime pay calculations employers who are designing variable compensation programs that include nonexempt employees must be sure to review their programs. failure to do so could cost significantly more in penalties and payment of back wages Unspoken assumptions Several underlying assumptions are behind the variable-pay concept, which derive from the very nature of the society that we live in and are not necessarily accurate: - money motivates people to work harder - increased motivation will increase performance - fair measurement of work performance is possible Money as a motivator there is no doubt that money can be a powerful motivator however, it isnt always Performance measurement motivation is clearly linked to performance however, in many cases motivation is not the problem - the performance problem may be due to lack of skills, poor organization, bad strategy etc - measuring performance is difficult and the most significant practical problem in VPLP - even harder to manage is the problem of perception: even where there are real, perhaps obvious, performance differences, the 16

employee who doesnt perform well is more likely to attribute his or her low output to favoritism rather than performance Implementation Failure of this motivational technique due to inadequate planning poor implementation poor communication of details of the scheme across the organization undefined evaluation method individual objectives are not quantified for variable pay calculation Effective implementation by -well defined individuals & group targets -effective communication of the scheme to the employees -commitment from the top -effective performance-evaluation mechanism * simple, measurable performance criteria that is understood by all -timely payouts Employers need to do a better job of mapping individual employee performance and linking it with compensation Conclusion To create and implement an efficient variable-pay plan, an employer must make a commitment to define employee expectations in behavioral and measurable terms - This means making goals achievable, profitable, and practical for both the company and its workers - the key to the success of variable compensation is to have something you can measure and understandsomething that is linked to creating economic value for the company - instead of continually ratcheting up base pay, manufacturing and service companies are adopting and expanding the use of incentive compensation programs, at all levels, to reward outstanding achievement without increasing fixed costs EVA (Economic Value Added) It is a performance metric that calculates the creation of shareholder value Eva is the calculation of what profits remain after the costs of a company's capital - both debt and equity are deducted from operating profit True profit should account for the cost of capital Steps to calculate EVA: Calculate net operating profit after tax (NOPAT) Calculate total invested capital (TC) Determine a cost of capital (WACC) Calculate EVA = NOPAT WACC% * (TC) It is a financial performance method to calculate the true economic profit of a company 17

Used for: setting organizational goals, performance management, determining bonuses, communication with shareholders & investors, motivation of managers, capital budgeting, corporate valuation, analyzing equity securities (the non-debt securities of a corporation representing an ownership interest) Links employee performance with profits It is the net operating profit minus an appropriate charge for the opportunity cost of all capital invested in an enterprise An estimate of true economic profit Amount by which earnings exceed or fall short of the required minimum rate of return that shareholders could get by investing in other securities of comparable risk Calculated by combining 3 factors: net operating profit after taxes, capital & cost of capital Continuous improvement in EVA brings continuous increase in shareholders wealth since a sustained increase in EVA brings increase in market value of the company Incorporates 2 principles of finance into management decision making Primary objective of any company is to maximize the wealth of its shareholders The value of a company depends on the extent to which investors expect future profits to exceed or fall short of the cost of capital NIIT, TCS & Godrej have implemented EVA in India Across the world, Seimens, Sony, Whirlpool, Johnson & Johnson, Cadbury, Bausch & Lomb have implemented EVA New concept for productivity enhancement, investors confidence & employee motivation Steps for implementing EVAMeasuring of EVA concept defined & explaining throughout the company Managing through training programmes oriented to educate the managers how they would earn in direct proportion to the wealth that the company would make Motivation of employee benefits / rewards through performance linked remuneration scheme Preparing mindset of employees in the long-run, to understand the impact of EVA on their personal remuneration INCENTIVE PLANS: Five Types: Merit Pay Gainsharing ProfitSharing Stock Options ESOPs Merit Pay: An incentive plan implemented on an institutional wide basis to give all employees an equal opportunity for consideration, regardless of funding source. The merit increase program is implemented when funds 18

are designated for that purpose by the institution's administration, dependent upon the availability of funds and other constraints. . Advantages Allows the employer to differentiate pay given to high performers. Allows a differentiation between individual and company performance. Allows the employer to satisfactorily reward an employee for accomplishing a task that might not be repeated (such as implementation of new systems). Gainsharing: A technique that compensates improvements in the company's productivity. How does Gainsharing work? A Company shares productivity gains with the workforce. Workers voluntarily participate in management to accept responsibility for major reforms. This type of pay is based on factors directly under a workers control (i.e., productivity or costs). Gains are measured and distributions are made frequently through a predetermined formula. Because this pay is only implemented when gains are achieved, gainsharing plans do not adversely affect company costs. What are the 'Gains' that are measured?

workers

based

on

Increases in production with equal or less effort. Equal levels of production with less effort.

What are examples of Gainsharing formulas?

Calculate gain in hours: The actual hours worked minus the expected hours (for the given level of output) equals the gain in hours.

Advantages Disadvantages Helps companies achieve Adherence to the FLSA sustained increases in requires employers to productivity. recalculate each worker's Employees become more "regular rate" of pay. To involved the productivity gains overcome this limitation, made by the employer. employers may restrict this Employees can share in the type of compensation to benefits of employee exempt employees. sponsored improvements. The formulas and program Enhances commitment to may be difficult to organizational goals. understand. Leads to improvements in Requires a shift to a more other measures of company team oriented management performance, including: style. teamwork, product quality, lower rates of absenteeism, defects, and "downtime." 19

When does Gainsharing work best? Works best when company performance levels can be easily quantified. Employee involvement significantly enhances the effectiveness of incentive pay. When used simultaneously, productivity gains from combining these techniques can exceed gains achieved separately. What is the best way to implement Gainsharing? Meet with executives to develop a clear understanding of Gainsharing. Develop various formulas and models to be used in predicting future gains and the costs associated with sharing those gains. Prepare rules, presentation materials, and dissemination of policy. Retrain supervisors and administrators. Teams of employees are selected by peers to develop cost-saving measures. Through their personal knowledge about their jobs, employees are able to reduce waste and increase efficiency. Profit Sharing: An incentive based compensation program to award employees a percentage of the company's profits. How does Profit sharing work? The company contributes a portion of its pre-tax profits to a pool that will be distributed among eligible employees. The amount distributed to each employee may be weighted by the employee's base salary so that employees with higher base salaries receive a slightly higher amount of the shared pool of profits. Generally this is done on an annual basis. Advantages Disadvantages Brings groups of employees to The pay for each employee work together toward a moves up or down together (no common goal (the individual differences for merit success/benefit of the or performance). company). Focuses only on the goal of Helps employees focus on profitability (which may be at profitability. the expense of quality). The costs of implementing the For smaller companies, these plan rise and fall with the plans may result in drastic company's revenues. swings in earnings for Enhances commitment to employees which the organizational goals. employees may find difficult to manage their personal finances. Adherence to the FLSA requires employers to recalculate each worker's "regular rate" of pay. To overcome this limitation, employers may restrict this type of compensation to exempt employees.

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When does Profit sharing work best? When company earnings are relatively stable (or steadily increasing). What is the best way to implement Profit sharing? Meet with executives to develop a clear understanding of profit sharing. Develop various formulas and models to be used in predicting future gains and the costs associated with sharing those gains. Prepare rules. Stock Options: The right to purchase stock at a given price at some time in the future. Stock Options come in two types: 1. Incentive stock options (ISOs) in which the employee is able to defer taxation until the shares bought with the option are sold. The company does not receive a tax deduction for this type of option. 2. Nonqualified stock options (NSOs) in which the employee must pay infome tax on the 'spread' between the value of the stock and the amount paid for the option. The company may receive a tax deduction on the 'spread'. How do Stock options work? An option is created that specifies that the owner of the option may 'exercise' the 'right' to purchase a companys stock at a certain price (the 'grant' price) by a certain (expiration) date in the future. Usually the price of the option (the 'grant' price) is set to the market price of the stock at the time the option was sold. If the underlying stock increases in value, the option becomes more valuable. If the underlying stock decreases below the 'grant' price or stays the same in value as the 'grant' price, then the option becomes worthless. They provide employees the right, but not the obligation, to purchase shares of their employer's stock at a certain price for a certain period of time. Options are usually granted at the current market price of the stock and last for up to 10 years. To encourage employees to stick around and help the company grow, options typically carry a four to five year vesting period, but each company sets its own parameters. Advantages Disadvantages o Allows a company to o In a down market, share ownership with because they quickly the employees. become valueless o Used to align the o Dilution of ownership interests of the o Overstatement of employees with those operating income of the company. Nonqualified Stock Options Grants the option to buy stock at a fixed price for a fixed exercise period; gains from grant to exercise taxed at income-tax rates Advantages Disadvantages o Aligns executive and o Dilutes EPS shareholder interests. o Executive investment 21

o o

Company receives tax deduction. No charge to earnings.

o

is required May incent short-term stock-price manipulation

Restricted Stock Outright grant of shares to executives with restrictions to sale, transfer, or pledging; shares forfeited if executive terminates employment; value of shares as restrictions lapse taxed as ordinary income Advantages Disadvantages o Aligns executive and o Immediate dilution of shareholder interests. EPS for total shares o No executive granted. investment required. o Fair-market value o If stock appreciates charged to earnings after grant, company's over restriction period. tax deduction exceeds fixed charge to earnings. Performance shares/units Grants contingent shares of stock or a fixed cash value at beginning of performance period; executive earns a portion of grant as performance goals are hit Advantages Disadvantages o Aligns executives and o Charge to earnings, shareholders if stock marked to market. is used. o Difficulty in setting o Performance oriented. performance targets. o No executive investment required. o Company receives tax deduction at payout. When do Stock options work best? -Appropriate for small companies where future growth is expected. -For publicly owned companies who want to offer some degree of company ownership to employees. What are important considerations when implementing Stock Options? -How much stock a company be willing to sell. -Who will receive the options. -How many options are available to be sold in the future. -Is this a permanent part of the benefit plan or just an incentive.

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ESOPs Employee Stock Ownership Plan (ESOP): An ESOP is a defined contribution employee benefit plan that allows employees to become owners of stock in the company they work for. It is an equity based deferred compensation plan. Several features make ESOPs unique as compared to other employee benefit plans. First, only an ESOP is required by law to invest primarily in the securities of the sponsoring employer. Second, an ESOP is unique among qualified employee benefit plans in its ability to borrow money. As a result, "leveraged ESOPs" may be used as a technique of corporate finance. ESOPs An opportunity to buy stock at a set price some time in future for a stated period Stock option is the right or privilege to buy stock under an offer valid for a stated period A form of variable pay compensation package Objectives of ESOPs Instrument for attracting critical skills / highly valued or scarce skills Inculcates employee feeling of ownership and commitment Creates additional wealth for employees Supplement retirement / social security benefits For employee retention particularly for groups apprehended of high turnover Helps introduce a performance management system without incurring full cash out flow / lessening possible individual differences in the immediate cash bonus Enforces corporate governance Infosys, Wipro, Maruti Udyog Limited, GE, Godrej, P & G, Zee Network, Castrol etc have introduced ESOPs Features of ESOPs It is a qualified, defined contribution employee benefit plan that invests primarily in the stock of the employer A company has to create a trust fund for employees and funds it by contributions of stock, cash or buy stock or cash to pay back the ESOPs loan and to buy back stock in order to set-up a ESOP system Shares held by ESOP trust are distributed to the employees through an employee option scheme Return on an ESOP portfolio is linked to company performance since investment is through employers securities All employees except part-time directors are eligible to ESOPs of the company The terms, price & offer of ESOPs is done by compensation committee of the board of directors Options granted to employee are not transferable to any other person ESOP trust provides a warehouse for sponsoring companys shares which can be sold or transferred to employees in future 23

Reservation up to 5% can be made by the issuer of the company for employees of his company or promoters of the company 3 stages: Grant of option (enable employee to purchase a certain number of shares of the company stock at a determined price, usually within a specified period of time) Vesting (employee gets right to apply for the shares) Exercise of option (on payment of exercise price, employee is conferred the shares of the company) There is a minimum period of one year between grant of options and vesting of options & company shall have the freedom to specify lock in period Typically, lock-in period of 3-5 years with the provision that if employee separates from the service of the company (except in the case of death / medical incapacity), the shares would be forfeited & reverted to the trust Shares are not physically transferred to employees at this stage Once the shares are transferred in favour of the employee, only then the latter may decide to sell them in the market (this sale will attract capital gains tax) During the lock-in period, the shares registered in the name of the employee would be kept in the custody of the trust Types of ESOPs One-off, uniform An offer plan where the company may decide to include non-performers, trainees, short-service staff, temps A one-time allotment for an equal number of shares, options or warrants to all at the market value SEBI guidelines allow allotment of options below the market price for shares, subject to the differential being accounted in the books of the company One-off, differential / discretionary Also a one-off scheme where company may differentiate allotments by grades, seniority or market value of special skills Factors like achievements, potential, loyalty, hard work & contribution to corporate performance if considered, then the discretionary element will go up considerably Ongoing schemes Use a combination of uniform, differential & discretionary allotments dynamically. May be warrants, shares or options that can be issued as sign-on bonus on confirmation / promotion / superannuating / recognition of outstanding contribution Given to some or all individuals Have a vesting schedule Are structured to enable flexibility Proxy: stock appreciation rights / phantom shares Notional units apportioned to employees 24

Are productivity / contribution linked incentive programmes rather than stock option plans An employee is allotted notional units / shares of the company based on certain criteria at a set price Employee is required to exercise his option within a given period (say 2 years) when the share price is high & will be eligible to draw the differential or the whole in cash on deduction of tax Provision is made to enable employees to decline the shares & opt for the cash differential between the cost of exercise & the market price It would have the effect of a stock appreciation right / phantom share Some definitions Phantom stock a bonus that rewards employees based on the value of the companys stock & the dividend performance of the stock Discount stock option stock option with an exercise price which is less than the fair market value on the sale of the grant Indexed stock option the exercise price is equal to the fair market value at grant, but the price adjusts upward or downward depending on an index (in relation to the market / industry / peer group performance / any other measure) Performance accelerated stock option has a fair market value exercise price & a service based vesting schedule (longer than traditional options which are generally for 10 years), but which becomes exercisable at an earlier date in case specified performance goals are achieved Performance contingent stock has a fair market value price, which becomes exercisable only when performance goals are achieved. It lapses in case the set goals are not achieved Purchased stock option down payment required to be made (% of the market price) before the option may be exercised Reload/restoration stock option stock option automatically granted upon the exercise of a previously granted stock option to the extent that the optionee uses shares rather than cash to pay the purchase price of the original option (the exercise price of the reload option is the fair market value on the date of the grant & reload option expires on the same date as the original option Variable - priced stock option with an exercise price that fluctuates upward or downward in relation to stock price performance (yo-yo stock option or indexed stock option) Premium stock option exercise price greater than the fair market value on the date of the grant How does ESOP work? The ESOP operates through a trust, setup by the company that accepts tax deductible contributions from the company to purchase company stock.

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The contributions made by the company are distributed to individual employee accounts within the trust. The amount of stock each individual receives may vary according to pre-established formulas based on salary, service, or position. The employees may cash out after vesting in the program or when they leave the company. The amount they may cash out may depend on the vesting requirements. When an ESOP employee who has at least ten years of participation in the ESOP reaches age 55, he or she must be given the option of diversifying his/her ESOP account up to 25% of the value. This option continues until age sixty, at which time the employee has a one-time option to diversify up to 50% of his/her account. This requirement is applicable to ESOP shares allocated to employee's accounts after December 31, 1986. Employees receive the vested portion of their accounts at either termination, disability, death, or retirement. These distributions may be made in a lump sum or in installments over a period of years. If employees become disabled or die, they or their beneficiaries receive the vested portion of their ESOP accounts right away.

Advantages Disadvantages Capital Appreciation. Dilution. If the ESOP is used Companies sell some or all of to finance the companys their equity to employees and growth, the cash flow benefits by doing so convert corporate must be weighed against the and personal taxes into rate of dilution. tax-free capital appreciation. Fiduciary Liability. The plan This allows the owner to sell committee members who 100% of his or her company, administer the plan are get money out tax-free and deemed to be fiduciaries, and still maintain control of the can be held liable if they company. knowingly participate in Incentive Based Retirement. improper transactions. Provides a cost-effective plan Liquidity. If the value of the to motivate employees. After stock appreciates all, who works harder, owners substantially, the ESOP or employees? and/or the company may not Tax Advantages. Enables tax have sufficient funds to advantaged purchasing of repurchase stock, upon stock of a retiring company employees retirement. owner. With this purpose, a Stock Performance. If the company owner may sell their value of the company does not shares to the ESOP and incur increase, the employees may no taxable gain on the sale. A feel that the ESOP is less company owner can sell all or attractive than a profit sharing some of the company to the plan. In an extreme case, if the employees cost free. Owners company fails, the employees who sell 30% or more of their will lose their benefits to the 26

company to an ESOP are allowed to "roll-over" the proceeds into other securities and defer taxation on the gain. Company reduces it's tax liability. A company can reduce its corporate income taxes and increase its cash flow and net worth by simply issuing treasury stock or newly issued stock to its ESOP.

extent that the ESOP is not diversified in other investments

What is the best way to implement ESOP? 1. Determine how you want to use the ESOP. Will it be used as an employee benefit plan? Or, as an incentive program? 2. Conduct a feasibility study to determine the value of the companys stock and impact of the contributions that must be made to the trust. 3. An ESOP requires different accounting procedures and a different method of allocating stocks and other investments among the employees than other types of plans. For this reason the plan should be designed by an ESOP specialist in order to avoid IRS difficulties. What are the alternatives to ESOP? 1. Employee stock options. Profit Sharing. An ESOP differs from a profit sharing plan in that an ESOP is required to invest primarily in employer securities, while a profit sharing plan is usually prohibited from investing primarily in employer securities. LAWS & REGULATIONS RELATED TO COMPENSATION PAYMENT OF WAGES ACT, 1936 An Act to regulate the payment of wages to certain classes of employed persons MINIMUM WAGES ACT, 1948 An Act to provide for fixing minimum rates of wages in certain employments EQUAL REMUNERATION ACT, 1976 An Act to provide for the payment of equal remuneration to men and women workers and for the prevention of discrimination, on the ground of sex, against women in the matter of employment and for matters connected therewith or incidental thereto. 27

PAYMENT OF BONUS ACT, 1965 Act to provide for the payment of bonus to persons employed in certain establishments on the basis of profits or on the basis of production or productivity and for matters connected therewith. EMPLOYEES' STATE INSURANCE ACT, 1948 An Act to provide for certain benefits to employees in case of sickness, maternity and employment injury and to make provision for certain other matters in relation thereto EMPLOYEES' PROVIDENT FUNDS AND MISC. PROVISIONS ACT, 1952 An Act to provide for the institution of provident funds 2*[3*[, family pension fund and deposit-linked insurance fund]] for employees in factories and other establishments THE PAYMENT OF GRATUITY ACT, 1972 An Act to provide for a Scheme for the payment of gratuity to employees engaged in factories, mines, oilfields, plantations, ports, railway companies, shops or other establishments and for matters connected therewith or incidental thereto THE WORKMEN'S COMPENSATION ACT, 1923 An Act to provide for the payment by certain classes of employers to their workmen of compensation for injury by accident PROBLEMS & ISSUES Whether extrinsic rewards such as performance-related pay actually motivate employees to better performance is a matter of controversy. It has been claimed that monetary rewards usually have a limited time-span in regard to their motivating effect. Therefore extrinsic rewards such as performance pay, even if they can exert a continuing impact on performance, should

be consistent with overall management objectives, so that performance pay may not be consistent with, for example, a purely cost reduction strategy & only be used to reinforce a motivational system in which intrinsic (non monetary) rewards exist, such as reorganization of work processes, training, employee involvement/consultation in decision-making, two-way communication, opportunities to contribute ideas, career development plans and goal setting.

Some of the reasons for the failure of performance-related pay and some of the problems and issues facing employers flow from a variety of circumstances such as the following: i. Inadequate criteria to measure performance, or criteria which are not easily understood, communicated and accepted. Performance pay should therefore be negotiated.

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ii.

Inappropriate performance appraisal systems in that the objectives of the appraisal system (e.g. where it is intended to identify training needs or suitability for promotion) do not match the objectives of the reward system. The absence of regular feedback on performance. The reward system is not designed to meet the objectives sought to be achieved. There could be a variety of objectives e.g. to satisfy distributive justice, attract and retain capable staff, match particular levels of pay in the labour market, change organizational culture (e.g. towards greater customer satisfaction) or to reinforce it. The absence of a right mix of extrinsic and intrinsic rewards. The lack of an appropriate quantum of pay which should be subject to performance criteria. This occurs when the amount which depends on performance is too small, or it is too large and therefore the amount placed at risk (when performance is poor) is not acceptable to employees. The absence of periodic evaluation of the scheme. Non-recognition of the fact that performance, especially profit, is sometimes (even often) dependent on factors outside the control of employees e.g. management decisions, exchange rates, recessions.

iii. iv.

v. vi.

vii. viii.

There are many arguments in favour of performance-related pay which are theoretically attractive. However, it is not easy to find evidence which unequivocally supports or disproves these views, because of the scarcity of empirical evidence or because the introduction of the scheme has been faulty. Governments can sometimes facilitate the introduction of performance-based pay. In Britain for instance, the Finance Act of 1987 introduced tax relief for approved schemes to encourage their adoption and proliferation. Two benefits at the macro level have been claimed for performance pay. The first relates to employment. If increases in basic pay are transferred to a profit-related scheme (e.g. 10% of basic pay), the employer may be more inclined to hire new employees as his wage cost is less than otherwise. If the percentage of profit to be shared remains fixed, additions to the workforce do not cost the employer more in terms of the profit-related pay. On the other hand, new recruitment would reduce the quantum existing employees will receive unless profits increase, and consequently dissatisfaction among employees could set in. The second argument is that if basic pay is reduced as a percentage of total earnings, increased earnings will not result in inflationary tendencies as such increases are the result of increased profits/productivity. The benefits to management and employees are:

where performance/profits increase, higher pay is an incentive to employees 29

where profits reduce, the reduction in the performance-related pay can cushion employees against redundancies employee identification with the success of the business is enhanced variations in pay lead to employees becoming more familiar with the fortunes (or misfortunes) of the business. This would depend on the information-sharing practices of the management.

Several criticisms of a general nature (apart from those directed at particular types of schemes) have been made against performance-related pay. Among them are the following: i. ii. iii. where the performance earnings fall employees are less inclined to accept reductions in their guaranteed pay positive employment effects could be negated due to opposition from employees to recruitment as it would dilute their earnings since performance/profits depend on a variety of factors beyond the control of employees, it is not possible to link pay to the performance of employees. If it is linked to the overall performance of the enterprise, then management decisions should logically be subject to scrutiny by employees. it is difficult to determine whether the amounts paid out under schemes are more than matched by performance gains.

iv.

Even though the evidence is not always clear whether profit-sharing, for instance, raises productivity levels, the positive link between profit-sharing and productivity is clearer in enterprises with employee participation arrangements. Where the extra payments replace a fixed wage component and is not an additional component of pay, there is a greater likelihood that the extra pay is matched by performance increases. In the case of group incentives payments are never proportionate to individual performance, as poor performers ("free riders") benefit from the efforts of others. WAGE THEORIES & LABOUR MARKET ECONOMIC THEORIES CLASSICAL SOCIAL WAGE THEORIES A. Subsistence Theory Propounded by David Ricardo, 1817 Also known as the "Iron Law of Wages Was an alleged law of economics that asserted that real wages in the long run would tend to the value needed to keep the workers' population constant Ricardo drew a distinction between a natural price and a market price. For Ricardo, the natural price of labor was the cost of maintaining the laborer. However, Ricardo believed that the market price of labour or the actual wages paid could exceed subsistence level indefinitely due to countervailing economic tendencies Ricardo believed that the market price of labor could long exceed the subsistence or natural wage 30

He also claimed that the natural wage was not what was needed to physically sustain the laborer, but depended on "habits and customs The labourers are paid to enable them to subsist & perpetuate the race without increase or diminution The theory maintains that wages cluster around the bare subsistence level of workers. A wage rate much above the subsistence level causes an increase in the number of workers; competition will then lead to a depression of wages back towards the cost of subsistence. Wages that are below subsistence reduce the size of the working population; in that case competition will raise wages, but only up to the subsistence level again. * Subsistence means minimum resources required for existence * Diminution means change toward something smaller or lower B. Wage Fund Theory 1 Developed by Adam Smith (18Century) 2 The wage-fund theory is that wages are advanced out of a fixed fund of capital, from which an excess withdrawal, either through legislation or through union pressure, will ultimately reduce the amount available for other workers. 3 Any increase in wages would also have to be taken out of profits, and their reduction would cause a decline in savings, which provide the capital from which the wage fund is derived. 4 Basic assumption wages are paid out of a pre-determined fund of wealth which lay surplus with wealthy persons as a result of savings. This fund could be utilized for employing labourers for work. If the fund was large, the wages would be high; if it was small, the wages would be reduced to the subsistence level The demand for labour & the wages that could be paid them were determined by the size of the fund C Residual Claimant Theory - Propounded by Francis Walker in 19th Century - There are 4 factors of any business activity: Land, Labour, Capital, Entrepreneurship Wages represent the amount of value created in the production which remains after payment has been made for all these factors of production, thus implying that The labour is the residual claimant - After all the factors of production have received their compensation for their contribution to the process, only then the labourers wages come to the fore Theory does not explain how trade unions are able to increase the wages No role of labourers in productivity D Marxian Theory - In the surplus-value theory as propounded by Karl Marx, the value produced by the worker in excess of what is paid in wages is called surplus value - The surplus value, exacted from the worker, constitutes the capitalist's profit - According to this theory, labour was an article of commerce could be 31

purchased on payment of subsistence price The price of any product was determined by the labour time needed for producing it The labourer was not paid in proportion to the time spent on work, but much less The surplus went over, to be utilized for paying other expenses JUSTIFICATION THEORIES A. Marginal Productivity Theory - Developed by Philips Wicksteed & John Bates The wages are based upon an entrepreneurs estimate of the value that will probably be produced by the last of marginal worker It assumes that the wages depend on the demand for, and supply of labour Workers are paid what they are economically worth The employer has a larger share in profit as has not to pay for the non-marginal workers As long as each additional worker contributes more to the total value than the cost in wages, it pays the employer to continue hiring When this process becomes non-viable & uneconomic, the employer may resort to superior technology - This theory maintains that employers will only pay a wage that is, at most, equal to the amount of extra value added to the total product by one additional worker B. Bargaining Theory - Propounded by John Davidson - Wages are determined by the relative bargaining power of the workers / trade unions & of employers - When a trade union is involved, basic wages, fringe benefits, job differentials, and individual differences tend to be determined by the relative strength of the organization & the trade union - The bargaining theory modifies the marginal-productivity theory by: Taking into consideration other factors (e.g., laws and social and political changes) that might affect the determination of wage levels Acknowledging that certain basic assumptions (equal bargaining power of employer and employee, free competition between the two, and mobility of labor) that characterize the marginal-productivity theory do not hold in our present economic system C. Supply & Demand Theory - Inter-relation between wages & employment - Unemployment were to disappear if workers were to accept a voluntary cut in wages have wage flexibility for promoting employment at a time of depression. - These wage cuts would bring down costs and thereby fall in price - This lowering in prices would cause additional demand which will increase production - This will increase employment of workers D. Competitive Theory - Employers compete amongst themselves by offering a higher pay 32

/ wage to attract employees while employees compete with another for jobs by offering their services for a lower wage - Competition then, is essentially a disequilibrium process by which excess demand and excess supply cause changes in wages Behavioral Theories A. Employees acceptance Level - This theory takes into consideration, the factors which may induce an employee to stay on with the company Size & reputation of the company Power of the union Wages and benefits that the employee receives in proportion to the contribution made by him / her B. Internal Wage Structure - Wage Structure affected by Social norms / traditions / customs prevalent in the organization Psychological pressures on the management Prestige attached to certain jobs in terms of social status The need to maintain internal consistency in wages at all levels The ratio of maximum & minimum wage differentials Norms of span of control Demand for specialized labour C. Wage & Motivators - Purchasing power provided by monitory income helps workers to take care of their basic needs: Food / Clothing / Shelter / Transportation / Insurance / Pension Plans / Education / Other physical maintenance & security factors - Monitory income includes: Wages / Merit increases / performance based bonuses EVOLUTION OF MODERN-DAY WORKFORCE Advent of the Labour Force During the period of foreign rule, Britishers introduced industrialization and thereby heralded the advent of labour sector in this country. With the emergence of native industrialists the labour sector expanded. The pace of industrialization and the expansion of labour sector were accelerated by the first and second world wars. In the early years the workers organized to obtain wages to meet limited needs for livelihood and convenience to work decently. Labour struggle became a part of national movement. The concepts of freedom, democracy, secularism and socialism, were indoctrinated in the labour movement, thanks to agitations for rights of workers. The trade union leaders of yesteryears played a glorious role in this respect. We are still striving to ensure social security measures envisaged in the directive principles of the Indian Constitution such as right to work, living wages, security in work place etc. Today the economy of the nation itself is facing grave crisis due to the impact of globalization, and the labour sector is in the dark shadows of 33

economic and social problems. The threats faced by the economy of the nation, industry, agriculture and thereby the labour sector are due to the impact of the global pressures and hence beyond our control. Yet we are compelled to defend ourselves to protect our economic and social security Consequent on the grave crisis in the Indian economy, significant reforms based on liberalization, globalization was enforced from 1991. It was these economic reforms that dictated the industrial policy from then on. Only after a couple of years of reforms that negative effects on other sectors of polity came to be felt, the most affected being the Labour Need of the Hour Ensuring equity as well as accelerating the rate of growth of economy in the labour market is the need of the hour It is necessary to ensure significant improvements in the quality of labour, productivity, skill development and working conditions, and to provide welfare and social security measures particularly, to those in the unorganized sector It is also necessary to ensure that all adult persons looking for work are employed at levels of productivity and income, which are necessary to afford them a decent life. A significant proportion of workers presently earn below the subsistence wages Another unfortunate facet of labour markets is the persistence of child labour which must be eradicated in the shortest possible time Background Modern day professions as we know them had their origin in the post-industrial age after World War II when most Western nations saw a long spell of growth This era also saw the emergence of modern day consumerism. To cater to the emerging needs of the market, huge corporations built gigantic factories to manufacture products and serve the needs of consumers They also started employing thousands of people to manufacture, service and market the products Sometime during this period (in 1956), William H Whyte wrote his much acclaimed book titled the Organization Mana term which caught the fancy of an entire generation of working professionals. For Whyte Organization Men are People who only work for the Organization. They are the ones of our middleclass who have left home, spiritually as well as physically, to take the vows of organization life, and it is they who are the mind and soul of our great self-perpetuating institutions For nearly half century after the book appeared, Organization Man typified the working class. In most parts of the world, huge corporationsprivate, public and government-ownedemployed hundreds of thousands of Organization Men In the US, Fortune 500 companies created millions of jobs. Similarly, UK, Europe, the Eastern bloc, and India saw the emergence of huge government owned corporations and Public Sector Undertakings (PSUs) that employed millions In many parts of the world, government service was the career choice for a generation of the best and the brightest. In India, joining the 34

Indian Administrative Service (IAS) or Police Service (IPS) was the dream In the US, President Kennedys "send a man to the moon" project captured the imagination of a whole generation of youngsters who either wanted to become rocket scientists or astronauts for NASA A whole generation of the best and brightest from top universities competed to give their life and souls, and dedicate their professional lives to mammoth corporations by joining the burgeoning ranks of Organization Men. In return, they were assured of a steady paycheck, raises, promotions and a golden watch at retirement, with a guaranteed pension to boot Educated professionals were not the only ones welcomed by these organizations There was a need for everyonefrom the mailroom clerk and janitor to shop floor workers, supervisors and managers; and everyone else in between One common aspect binding all employees was their unrelenting loyalty to the organization. There was very little individualism and entrepreneurship shown (or expected) by employees, and most of the decision-making took place in ivory towers at head offices The organizations asked for, and got the unwavering following of its organization men; in return, it guaranteed employment, almost taking on a patriarchal role for families of organization men Transition There is little debate over the fact that we are experiencing a major shift in the job market worldwide Changes in the marketplace are leading to a fundamental shift in careers and professions across the board Perhaps the most important shift in the paradigm is the move from Organization Man to Free Agents or Gold Collar Workers Individuals will not remain loyal to one single organization, just as most organizations have given up on guaranteeing lifetime employment New entrants to the job-market, and even those who have been working in the corporate world for a while are starting to realize that we cannot hope to become, or remain, Organization Men The New Generation This workforce contains the now generation, me generation, new breed, and new X generation These generations have been variously described as having lower overall job satisfaction, less desire to lead (move up the organizational hierarchy) and to defer to authority; believe that they are entitled to a good job; have a strong a desire to control their own destiny; have a low absenteeism threshold They have also been described as having a lower respect for authority, and a greater desire for self-expression, personal growth, and self-fulfillment This group also tends to be more educated than their predecessors, in most cases, they are more educated than their supervisors 35

Impatience and self-confidence define today's educated young worker In older times, people used to do anything to get a job - Today everyone thinks they're entitled to a job In the old days, such attitudes were unimaginable; they would have been self-defeating Companies are no longer in the driver's seat - Employees are in control now Labor Market Discrimination

What is Discrimination? The valuation in the market place of personal characteristics of the worker that are unrelated to worker productivity. o These personal characteristics may be sex, race, age, national origin, religion, education or sexual preference Labor market discrimination may take the form of different wage rates for equally productive workers with different personal characteristics Labor market discrimination may also take the form of exclusion from jobs on the grounds of social class, union membership, or political beliefs Labor Market Discrimination Discrimination is a cause of labour market failure and a source of inequity in the distribution of income and wealth and it is usually subject to government intervention e.g. through regulation and legislation Discriminatory treatment of minority groups leads to lower wages and reduced employment opportunities, including less training and fewer promotions. The result is that groups subject to discrimination earn less than they would and suffer a fall in relative living standards Why does discrimination occur in the labour market? The 'Taste' Model - Discrimination arises here because employers and workers have distaste for working with people from different ethnic backgrounds or final customers dislike buying goods from salespeople from different races i.e. people prefer to associate with others from their own group. They are willing to pay a price to avoid contact with other groups. With reference to race, this is equivalent to racial prejudice Employer ignorance Discrimination also arises because employers are unable to directly observe the productive ability of individuals and therefore easily observable characteristics such as gender or race may be used as proxies the employer through ignorance or prejudice assumes that certain groups of workers are less productive than others and is therefore less willing to employ them, or pay them a wage or salary that fairly reflects their productivity, experience and applicability for a particular job Occupational crowding effects Females and minorities may be crowded into lower paying occupations. There is little doubt that a permanent gap exists between average pay rates for females and males in the labour markets of UK, US, Africa, Europe & Asia Quality in Labour Market Towards Productive Employment 36

Country like India has tremendous labor cost advantage as far as daily or monthly wage rates are concerned. But there are limitations due to poor quality of training and skills, non-professional approach, low productivity and too many labor laws. The labor market is deregulated & there is increased mobility of labor in global markets Many other low cost countries like china, Mexico, Turkey, SAARC region neighbors, some north African and Latin American countries are moving fast on learning curve and will offer tough competition to Indian exporters in low cost labor advantage The real labor cost will rise in countries like India erasing much of low cost advantage of labor Labour market demands are changing with greater emphasis on the quality of jobs Labour market reforms are necessary to cope with the accelerating economic and social restructuring associated with globalization, technological processes and the development of an inclusive knowledge and information society and economy In an era of globalization where capital, technology, high skills and high productivity play a major role in labour markets In India, like in many other developing countries, the growth of labour force is accelerating and will remain high for quite sometime It needs rapid economic growth with effective and efficient utilization of labour by upgrading its skills to ensure development and employment generation. Intervention is required in labour markets to promote employment and its quality. Quality in work including training, career prospects and work organization makes a valuable contribution towards increasing employment and productivity Improvements in the quality of work may increase the efficiency of production processes by allowing employers to exploit fully the potential of new technologies They are further likely to increase employees motivation and job satisfaction Upgrading the quality of labour force by pursuing suitable education and skill development policies Low quality of jobs and low productivity is directly attributable to low level of skills. The latter poses a serious challenge to integration of the labour force in world economy There is overwhelming evidence that whereas educated and skilled workers are generally able to derive some benefits of new opportunities as a result of globalization, it is the uneducated and unskilled workers on whom the burden of re-structuring falls Designing appropriate training systems is, therefore, an important means to deal with labour market instabilities like under-employment, skill mismatch and redundancy Higher productivity of labour would, apart from dignity of labour, improve the living standards of workers and also help the industry in facing international competition An increase in overall productivity and skill up-gradation will lead to 37

progressive absorption of large number of workers from informal or unorganized sector in the formal or organized sector and ensure rapid economic growth Quality of labour force alone determines their employability abroad or in institutions of foreign origin including multinational organization Manpower development to provide rising labour force with skills and training according to the emerging demand pattern is essential to eliminate the mismatch between the supply of and demand for labour Reward Management in TNCs (Transnational Corporations) Transnational Corporations Transnational Corporation means a for-profit enterprise marked by two basic characteristics: It engages in enough business activities -- including sales, distribution, extraction, manufacturing, and research and development -- outside the country of origin so that it is dependent financially on operations in two or more countries Its management decisions are made based on regional or global alternatives In an era of declining constraints on their mobility and the attraction of cheaper wages in less-industrialized nations eager to draw foreign investment, TNCs are eliminating jobs in their home countries and shifting production abroad In less-industrialized regions, the lure for TNCs of fewer costs and regulations offers little promise to workers of decent working conditions, sufficient pay, or job security. Tax breaks and subsidies governments use as incentives are no guarantee that the TNCs will not move on after the benefits have expired, and as cost advantages now found in Singapore appear in, say, Bangladesh, the countries currently experiencing an influx of investment may eventually find themselves in the same position as that of the US and other industrialized nations today. TNCs are corporations that operate in more than one country. Usually, headquarters are in one or more nations and production or services are in another have become some of the most powerful economic and political entities in the world today. Such companies have a geocentric orientation and attempt to be responsive to both national markets, while simultaneously seeking global coordination The number of transnational corporations in the world has jumped from 7,000 in 1970 to 40,000 in 1995 What is the difference between Multi National Corporation and Trans National Corporation? MNCs operate in several different countries while transnational implies "just across the border" as in the US and Canada. Obviously, both operate internationally A MNC has a centralized headquarters & is a corporation with extensive ties in international operations in more than one foreign country. Examples are Coke, Pepsi, General Electric, Exxon, Wal-Mart, Mitsubishi, Diamler Chrysler 38

A transnational company has no "head office" and moves whatever base of operations it has fluidly between its national offices. It is a MNC that operates worldwide without being identified with a national home base i.e. it is said to operate on a borderless basis. Examples are Daewoo, Saint Gobain, Daimler-Benz, Sony, Samsung Group, Shell Oil etc Reward Management - The type and amount of compensation necessary to attract technically and culturally qualified international managers and technical professionals to the three nationals or country categories involved international human resource management activities from which employees are selected whether the people are: PCNs (parent country nationals) TCNs (third country nationals) or HCNs (host country nationals) - HR managers focus on their strategic objectives to develop a comprehensive compensation plan, in terms of considering base pay, short and long-term incentives, benefits and growth opportunities - The objective of this kind of strategy is to ensure that both TNC/MNCs long and short-term objectives coexist in the compensation system without overlap, which would duplicate a single pay plan for the same objectives. - The purpose of the planning is also designed to ensure that the compensation system attracts and retains the desired employees and that it motivates them to do those things that support the business plan - The type and amount of compensation necessary to attract technically and culturally qualified international managers and technical professionals to the three nationals or country categories involved international human resource management activities from which employees are selected whether the people are: PCNs (parent country nationals) TCNs (third country nationals) or HCNs (host country nationals) - HR managers focus on their strategic objectives to develop a comprehensive compensation plan, in terms of considering base pay, short and long-term incentives, benefits and growth opportunities - The objective of this kind of strategy is to ensure that both TNC/MNCs long and short-term objectives coexist in the compensation system without overlap, which would duplicate a single pay plan for the same objectives. - The purpose of the planning is also designed to ensure that the compensation system attracts and retains the desired employees and that it motivates them to do those things that support the business plan Global Staffers An expatriate is an employee working in a country other than their country of origin. An expatriate may also be referred to as a PCN or parent-country national - PCNs (Parent Country Nationals) Those personnel who are of the same nationality as the contracting 39

government or personnel from headquarte