Strategic HRM

Lesson # 7
Compensation Management
PIQC
USMAN SAEED
COMPENSATION SYSTEM
Pay:

Pay is a statement of an employee’s worth by an employer.

Or

Pay is a perception of worth by an employee

HR Management Strategy Model:

Human resource department uses differentstrategies to manage the workforce so that thedesired
results can be attained. These desiredresult as stated in earlier chapters as well, can beattained if
organization is able to attract, select,develop and retain workforce in successfulmanner in short, the
effective hiring andretaining workforce can be helpful in achievingorganizational goals. This purpose
can beattained through fair and effective rewardssystems in the organization. Rewards are used
asbasic motivational tools in the organization sothat performance of the employees can beinfluenced
in desirable way. So to be moresuccessful organizations need attractive and faircompensation and
reward systems to be paid tothe workforce.

A. Job Pricing

Job pricing means placing a dollar value on the worth of a job.

I. Pay Grades—The grouping of similar jobs together to simplify the job pricing process.
Plottingjobs on a scatter diagram is often useful in determining the appropriate number of pay
grades.

II. Wage Curve—The fitting of plotted points in order to create a smooth progression between
paygrades.

III. Pay Ranges—Includes a minimum and maximum pay rate with enough variance between thetwo
to allow some significant pay difference.

IV. Broad Banding—A technique that collapses many pay grades (salary grades) into a few
widebands in order to improve organizational effectiveness.

V. Single-Rate System—Pay ranges are not appropriate for some workplace conditions. Whensingle
rates are used, everyone in the same job receives the same base pay, regardless of seniorityor
productivity. This rate may correspond to the midpoint of a range determined by acompensation
survey.

VI. Adjusting Pay Rates—when pay ranges have been determined and jobs assigned to pay
grades,it may become obvious that some jobs are overpaid and others underpaid. Underpaid
jobsnormally are brought to the minimum of the pay range as soon as possible.

Compensation: An Overview

i. Compensation—The total of all rewards provided employees in return for their services.

ii. Direct Financial Compensation—Consists of the pay that a person receives in the form ofwages,
salaries, bonuses, and commissions.

iii. Indirect Financial Compensation—All financial rewards that are not included in

directcompensation.

iv. Non-financial Compensation—Consists of the satisfaction that a person receives from the

jobitself or from the psychological and/or physical environment in which the person works. All
suchrewards comprise a total compensation program.

Equity in financial Compensation :

Organizations must attract, motivate, and retain competent employees. Because achievement of these
goalsis largely accomplished through a firm’s compensation system, organizations must strive for
compensationequity.

a. Equity—Workers’ perceptions that they are being treated fairly. Compensation must befair to all
parties concerned and be perceived as fair.

b. External Equity—Exists when a firm’s employees are paid comparably to workers whoperform
similar jobs in other firms.

c. Internal Equity—Exists when employees are paid according to the relative value of theirjobs
within an organization.

d. Employee Equity—Exists when individuals performing similar jobs for the same firm arepaid
according to factors unique to the employee, such as performance level or seniority.

e. Team Equity—Achieved when more productive teams are rewarded more than
lessproductiveteams.

II. Determinants of individual financial compensation:

Compensation theory has never been able to provide a completely satisfactory answer to what an
individualis worth for performing jobs.

• The Organization,
• The Labor Market,

• The Job, and

• The Employee

These all have an impact on job pricing and the ultimate determination of an individual’s
financialcompensation.

a. The Organization as a Determinant of Financial Compensation:

• Compensation Policies—An organization often establishes—formally or informally—

compensation policies that determine whether it will be a pay leader, a pay follower, orstrive for an
average position in the labor market.

1. Pay Leaders: Those organizations that pay higher wages and salaries than competing firms.

2. Market Rate or Going Rate: The average pay that most employers provide for the same job in
aparticular area or industry.

3. Pay Followers: Companies that choose to pay below the market rate because of poor
financialcondition or a belief that they simply do not require highly capable employees.

• Organizational Politics—Political considerations may also enter into the equation. Asound,
objective compensation system can be destroyed by organizational politics.

Managers should become aware of this possibility and take appropriate action.

• Ability to Pay—An organization’s assessment of its ability to pay is also an importantfactor in

determining pay levels. Financially successful firms tend to provide higher-
thanaveragecompensation. However, an organization’s financial strength establishes only theupper
limit of what it will pay.

b. The labor market as a determinant of financial compensation:

Potential employees located within the geographical area from which employees are recruited
comprise thelabor market.

• Compensation Surveys—Large organizations routinely conduct compensation surveys

todetermine prevailing pay rates within labor markets.

1. Compensation surveys: Provide information for establishing both direct and indirect
compensation.
2. Benchmark job: A job that is well known in the company and industry, one that represents
theentire job structure, and one in which a large percentage of the workforce is employed.

• Cost of Living—A pay increase must be roughly the equivalent to the cost of livingincrease if a
person is to maintain a previous level of real wages.

• Labor Unions—When a union uses comparable pay as a standard for makingcompensation

demands, the employer must obtain accurate labor market data. When aunion emphasizes cost of
living, management may be pressured to include a cost-of-livingallowance (COLA). This is an
escalator clause in the labor agreement that automaticallyincreases wages as the U.S Bureau of Labor
Statistics’ cost-of-living index rises.

• Society—Compensation paid to employees often affects a firm’s pricing of its goodsand/or

services. Consumers may also be interested in compensation decisions.

• Economy—In most cases, the cost of living will rise in an expanding economy. Thus,
theeconomy’s health exerts a major impact on pay decisions.

• Legislation—The amount of compensation a person receives can also be affected bycertain federal
and state legislation.

c. The job as a determinant of financial compensation:

Organizations pay for the value they attach to certain duties, responsibilities, and other job-related
factors.Techniques used to determine a job’s relative worth include job analysis, job descriptions,
and jobevaluation.

• Job Analysis and Job Descriptions—Before an organization can determine the relative difficulty
orvalue of its jobs, it must first define their content, which it normally does by analyzing jobs. Job
analysisis the systematic process of determining the skills and knowledge required for performing
jobs. The jobdescription is the primary by-product of job analysis, consisting of a written document
that describesjob duties and responsibilities. Job descriptions are used for many different purposes,
including jobevaluation.

• Job Evaluation—That part of a compensation system in which a firm determines the relative value
ofone job compared with that of another.

d. The employee as a determinant of financial compensation:

In addition to the organization, the labor market, and the job, factors related to the employee are
alsoessential in determining pay and employee equity.

I. Performance Based Pay—PA data provide the input for such approaches as merit pay,
variablepay, skill-based pay, and competency-based pay.

1. Merit Pay: A pay increase given to employees based on their level of performance as indicated
inthe appraisal.

2. Bonus: The most common type of variable pay for performance and is a one-time award that isnot
added to employees’ base pay.

3. Skill-based Pay: A system that compensates employees on the basis of job-related skills
andknowledge they possess, not for their job titles.

4. Competency-Based Pay: A compensation plan that rewards employees for their

demonstratedexpertise.

II. Seniority—The length of time an employee has been associated with the company,
division,department, or job is referred to as seniority.

III. Experience—Regardless of the nature of the task, very few factors has a more significant
impacton performance than experience.

IV. Membership in the Organization—Some components of individual financial compensationare

given to employees without regard to the particular job they perform or their level ofproductivity.

V. Potential—Organizations do pay some individuals based on their potential.

e. Political Influence—Political influence is a factor that obviously should not be used as a

determinantof financial compensation. However, to deny that it exists would be unrealistic.

f. Luck—The expression has often been stated, “It certainly helps to be in the right place at the
righttime.” There is more than a little truth in this statement as it relates to the determination of a
person’scompensation.

g. Special Employee Classes—These include pay for executives, which are discussed in a later
section,and pay for professionals and sales employees.