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THE NEW PAY: 
Innovations in Employee Compensation

Author: Martin Kenny
Contributed by Baker, Thomsen Associates

 

 

The "dirty little secret" of pay administration . . . . .

When I first became involved in compensation work in the early 1980’s the dirty little secret among comp people was that nothing much had changed in the field during the last half century or so.

Despite brave talk by practitioners about new and innovative ideas, pay systems were stuck in a rut: Companies spent a great deal of time, effort and anguish on elaborate job evaluation systems to measure "internal worth"; pay grades were many, often with small percentage differences between them, and followed a hierarchical pattern; salary ranges were rigid and employees generally received annual cost-of living increases with perhaps a small merit amount thrown in; each year the boss would announce a bonus award with only a select few knowing how it was decided. In general, the pay systems were highly centralized, secretive and inflexible.

The Revolution Begins…

But then in the mid 1990’s a quiet revolution took place in pay programs. The familiar ideas were challenged, found wanting and new approaches swept many of the practices aside. Once the dust settled, it was apparent that these were huge and fundamental changes and characterized by shifting:

FROM Pay for job and status TO Pay for individual employee skills and contributions

FROM Fixed pay TO Variable and incentive pay

FROM Discretionary bonuses TO Awards for achieving defined targets with set payout formulae

FROM Rigid centralized pay administration TO Decentralized programs with line managers making key decisions

In short, companies started treating employees and line managers more as adults.

Caused by…

As with most big management changes, these were driven by pressures and major realignments taking place in the larger economy and the nature of business itself. Some of these developments include:

  • Flatter, leaner and less hierarchical organizational structures

  • More emphasis on teams and group work

  • A tight labor market resulting in employers needing more inducements for attracting and retaining key staff

  • A more educated workforce with many employees "carrying" their skills with them from company to company

  • Rapid changes in technology, products and competition requiring greater flexibility and adaptability

  • Enhanced pressures for bottom-line results

So, many companies started revising their compensation programs and using new ones to:

  • Excite and motivate employees

  • Focus attention on key results and rewarding for accomplishing those results

  • Provide more flexibility in salary administration

  • Improve staff retention

The Big Changes…

These changes are appearing in a number of innovative compensation programs:

Broadbanding

At first glance, broadbanding—or reducing the number of grades in an organization-- seems not very exciting, but in reality it opens up a variety of interesting possibilities to improve effectiveness of pay programs.

Simply put, broadbanding involves having fewer pay grades in an organization. A company that had 25 grades may reduce them to 15 or so (or even 5 or six if they are daring ). Positions that were in different, but reasonably similar grades, can be placed in the same pay grade. Very often a broadbanding system will use wider salary ranges than traditional giving more opportunities for performance pay, incentive pay and competency pay.

Competency-based pay programs

Competency or skills- based pay programs start by identifying what employees need to know and abilities they need to possess in order to meet expectations. Competencies can be general across the organization--such as a customer service orientation—or specific to the job. Their key benefit is that they encourage employees to continually upgrade their skills and emphasize paying the person rather than the job.

Incentive compensation

True incentive pay--pay that directly relates to and varies with individual or group performance-- is returning to fashion as evidence shows that it can result in significant increases in performance and productivity. Properly designed, these plans can excite employees and motivate them to work harder, smarter and on target.

But in order to work these plans need to meet some critical design considerations:

  • The employees involved must value money; the possible additional pay should be of interest to them.

  • The employees must be able to see a direct connection between their efforts and rewards. If the reward is a vague promise or way off in the future it is unlikely that employees will be motivated

  • The potential rewards must be significant. The amount of money they can earn has to be large enough to get them interested

  • There must be more positive than negative outcomes of the program. For example, if productivity gains might eliminate jobs, it is not surprising that they are not interested

Type of plans that do not meet these criteria are annual "merit increases, profit sharing and discretionary bonuses Examples of genuine incentive pay programs include: piece work plans, sales commissions and gainsharing, team pay and target-based bonuses for managers. Of these, the last three have seen recent increases in use. The following figures give more information on these programs.

What’s next?…

Are these programs valid for all organizations? Perhaps not. There are some commitments a company must be prepared to undertake if they are to be successful.

Making the effort - All of these programs require significant up front investment in time and effort to make them work. A competency-based pay plan, of course, needs to have the job competencies defined in advance. While not a small task, it can pay dividends in employee development and effectiveness. Similarly a true incentive pay program requires work to define critical targets, establish performance measurements and relate to potential pay in a clear manner. Most important, all require careful design and testing prior to implementation.

Letting go - The hallmark of many of these programs is the delegation of decisions and actions as far as possible to employees and line managers. Senior manager and compensation professionals need to design the overall programs and set parameters, but leave the details to the people involved.

Communicating - Clear and complete explanation to employees is critical. It is the employees and line managers who will make it work-or not work. 


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