Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J.

Martocchio

Compensation and Performance Management

Chapter 1 Strategic Compensation

Compensation is one of the core HRM functions.

Independent Learning/Discussion:

Do you know what are core and support HRM functions?

Core: Recruitment, selection, training, compensation and evaluating employees’

performance

Support: HR planning, job analysis and job design, legal compliance and employee
and labour relations. Legal compliance in seen by some as a core HR activity but in
most texts, it is seen as a support function.

The Evolution of compensation from an administrative to a strategic function

HR departments were first called manpower/personnel management or personnel

affairs departments. They were paper-based back offices that did pure
administrative work. They were reactive offices i.e., they responded to management
demands and did the paperwork for hiring, training, performance evaluations,
paying, etc.

Independent Learning/Discussion:

Do you know the differences between personnel management and human resource
management? Find out 3-5 differences.

The roles of HR departments have changed, and they are still evolving. HR
professionals now focus on the impact HR has on organizational performance by
using people analytics and metrics. Researchers also investigate the HR-Performance
relationship.

Organizations are increasingly designing HR practices with business outcomes in

mind. Modern organizations conduct HR audits and use HR data to evaluate the
performance of HR work and the contributions it makes to the business. Also, more
and more CEOs are having HR advisers and HR managers reporting directly to them.
These changes are indicating that HR is becoming more strategic (i.e., a strategic
partner).

1
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Independent Learning/Discussion:

a. What is the HR-Performance relationship?

b. What are HR analytics and metrics?
c. What does it mean for an HR department to play the role of a business partner?
Read: A New Mandate for Human Resources by Dave Ulrich
FROM THE JANUARY–FEBRUARY 1998 ISSUE of Harvard Business Review on
https://hbr.org/1998/01/a-new-mandate-for-human-resources
Also, read (self-study) pages 9-11 in your book on ‘ A historical perspective on
compensation’.

How compensation fits into HR departments?

HR departments carry several responsibilities. To avoid conflicts and help the

organization achieve its objectives, internal consistency is needed. All HR practices
should be supporting each other and contributing to achieving the organizational
strategies, objectives, mission and vision.

2
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

How compensation is linked to other HRM activities

HR practices are interconnected and should be internally consistent (i.e., all that is
done in an HR department should support each other). Compensation is related to
all HRM practices. Read the details in chapter 1 on pages 16-18:

a. Recruitment and selection

b. Performance appraisals
c. Training
d. Career development
e. Employee relations
f. Involuntary turnover
g. Legislation

What is compensation?

Both the intrinsic and extrinsic rewards employees receive for performing their jobs.
The intrinsic rewards reflect the psychological mind-sets of employees and the
extrinsic rewards are those that come from outside. They are tangible and visible to
the employee and others. Both types of rewards motivate employees to behave in
certain ways. A company’s total compensation includes both intrinsic and extrinsic
rewards. See figure 1-1 on page 4. See the differences between extrinsic and intrinsic
motivation in the following table.

Compensation includes both monetary and non-monetary rewards. A compensation

system is designed to reward employees for performing their jobs, to reward the
best performers and to reward the learning of valuable higher-level knowledge and
skills.

3
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

What are monetary and non-monetary rewards?

Monetary rewards are also called core compensation. These include the legally
required wages and salaries that employees get. Non-monetary rewards, also
referred to as employee benefits and are legally required too. Employees get these
on top of their wages and basic salaries. Organizations also offer rewards on a
discretionary basis; the employer chooses to give these rewards. These are not
required by the law. They are called discretionary benefits or fringe benefits, perks
(short for perquisites), privileges and voluntary benefits.

4
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Monetary rewards aka core compensation:

Include base pay (wages and salaries) and
adjustments (cost of living, seniority, merit,
incentive and person-focused pay)

Non-monetary rewards aka employee benefits:

Include legally required and discretionary
benefits

How many types of pay come under core compensation?

There are seven types of core compensation. The first two types are base-pay and
include hourly wages and monthly salaries. The other five types come under ‘pay-
adjustments’ and include cost of living adjustments, seniority pay, merit pay,
incentive pay and skill-based pay.

Wages

Base pay

Salaries

Core compensation
(Monetary rewards)
Cost of living
adjustments
Seniority pay
Pay adjustments
Merit pay
Incentive/variable pay
Person-focused pay

5
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Base pay is given for performing a job. This type of pay continues if the person is in
their position. Companies decide on base pay by evaluating the worth of jobs. They
identify factors in each job that they decide to pay people for. These are called
compensable factors like skills, effort, working conditions etc.

The other five types of core compensation besides wages and salaries are:

a. Cost-of-living adjustments
b. Seniority pay
c. Merit pay
d. Incentive pay or variable pay
e. Person-focused pay

See table 1-1 on page 5 of chapter 1 and read details on pages 5, 6 and 9.

What are the various types of non-monetary rewards/employee benefits?

These include a variety of programs and plans that promote safety, good health and
ensure a good standard of living for employees. Some of these are legally required
(legally required benefits) while others are voluntarily given by organizations
(discretionary benefits). Different forces in history led to the rise to both types of
benefits.

6
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Independent Learning/Discussion:

a. Search for the legally required benefits in Oman? Ask an HR/ Compensation manager
and consult the Labour Law.
b. Think why organizations offer discretionary benefits too? Give some examples of these
benefits.
c. What kind of benefits would you love to get in your first job? Why these not others?
d. Let us say you have a business, what kind of benefits will you have to offer your
employees in Oman? Also, will you offer any discretionary benefits? Why?

What are strategic and tactical compensation decisions?

Businesses make strategic and tactical decisions. Strategic decisions are for 2 years
or more. They result from environmental scanning and analyses. Managers interpret
the environmental opportunities and threats differently and based on their analyses
and understanding, they make choices on what products/services to produce for
which markets and how to compete.

7
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Tactical decisions are short-term, and they are made in different functional areas to
support the strategic decisions.

In HR departments, compensation professionals make both strategic and tactical

decisions. See figure 1-2 on page 12 in chapter 1 for an illustration of the relationship
between these decisions. See how a company’s compensation strategy is derived
from both the HR and competitive strategy of the organization. This happens in
other departments too. Each department will have its big plans on how it can help
the business implement strategic decisions. See the figure below.

The company's
competitive
strategy

The Marketing The Production

The HR strategy The Finance Strategy
strategy strategy

The staffing strategy

The compensation strategy
The training strategy etc.

8
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

In HR departments, we search for strategy-consistent employee roles and behaviours

HR departments support competitive strategies by hiring the right people at the right
time, developing them in the needed areas, motivating them to perform the desired
behaviours at the required levels, rewarding them and retaining them.

Independent Learning/Discussion:

Read page 14 on ‘Employee roles …’

Examples of competitive strategies are:
Lowest cost/cost leadership (see example of Ryanair on page 13)
Differentiation (see the example of P&G on page 14)
Think: What kind of behaviours should HR departments reinforce when an organization
adopts a lowest-strategy vs a differentiation strategy? i.e., tactical decisions that support the
firm’s strategy.

Goals of a compensation department

A compensation system will be effective if it achieves three goals. Read details in

chapter 1:

1. Internal consistency
i. Analyse jobs and evaluate them to develop a job structure and a pay
structure. Ensure that employees in jobs that require greater
qualifications, more responsibilities and more complex job duties are
paid more than employees whose jobs require lesser qualifications,
fewer responsibilities, and less complex job duties. This should be
consistently applied on all positions within the company.

2. Market competitiveness
i. After doing a strategic analysis (external and internal context) and
after studying the salaries offered by others through compensation
surveys, identify how much you can afford to pay and strive to pay at
the market rate.

3. Recognising individual contributions

i. No two employees will perform the same jobs equally well. To keep
those who excel in their work and encourage others to improve, have
a plan for rewarding top performers.

9
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

The five stakeholders of a compensation system

1. Employees (they expect fair, equitable and motivating compensation)

2. Line managers (they make pay-related decisions to new and existing
employees)
3. Top managers/executives (they design, approve, and implement pay
practices)
4. Unions (they negotiate with management for better compensation)
5. Government (they require compliance with the law)

End of the summary

10
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Compensation and Performance Management

Chapter 2 Contextual Influences

As mentioned in Chapter 1 summary and your book, there are three main factors that
influence compensation in organizations:

I. Laws
II. Market forces
III. Labour unions

We also added ‘organizational goals and other characteristics’ as a fourth factor. This
includes nature of jobs, cost-control, and geographical location among other factors.

I The Influence of Laws on Compensation

• Employment laws reflect a reality – employers are more powerful than employees in
the employment relationship.

• Laws are essential to maintain a balance of power between employers and

employees.

11
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

• Legal protections given to employees seek to make the power relationship between
employers and employees fair and equitable

• Employers aim to maximise profits. Laws exist to ensure that while employers focus
on achieving profits, they also pay people in an equitable and fair manner

• In Oman, the Basic Statute of the State (The White Book), the Omani Labour Law and
the Civil Service Law cover compensation-related laws.

Independent Learning/Discussion:

What is the difference between the Labour Law and the Civil Service Law? Which law do
government businesses and private companies follow?

• Compensation laws in Oman apply to areas like:

o Minimum wage
o Working hours and overtime-pay
o Legally required benefits
o Pension
o Compensation because of injuries on the job
o Penalties

Independent Learning/Discussion:
a. Download a copy of the Omani labour law from the Internet and look for answers to the
following questions:
b. Identify all the compensation-related laws and put them in a table or list like Table 1-3 on
page 18 of your textbook.
c. What is the minimum wage in Oman? When was the first minimum wage announced in
Oman?
d. What are the legal working hours in Oman?
e. What is overtime pay in Oman?
f. What are the legally required benefits in Oman?
g. What is end-of-service gratuity?
h. What is a pension? Who deserves to get a pension?

12
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

• Why have a minimum wage/salary?

o Minimum wages have several benefits. They help achieve an acceptable
standard of living for the poorest people in a society, stimulate buying goods
and services, decrease the cost of government social welfare program and
discourage performing illegal activities for money.

Discussion/Debate:
a. What do you think would have happened if Oman didn’t have a minimum wage/salary for
Omani nationals? Do we need a minimum wage?
b. Do you think having a minimum wage/salary for expatriates will help increase the number of
Omanis hired? Break your team into two and debate on this issue.

II Market Forces

• Labour market demands – the minimum pay that job seekers accept influence how
much companies pay
• Product markets – their selling price per unit (which is determined by their total
production cost per unit which includes labour cost) indirectly puts pressure on
businesses on how much to pay their workers. The more they pay, the higher the
production cost will be and the higher the selling price. If they charge a higher price,
they are less likely to be able to compete with substitute products effectively and
efficiently unless if they are following a differentiation strategy.
• War for talents - Companies compete for best talents by offering better
compensation packages to the people they need.
• But some companies can’t afford to pay above the market rates or more benefits
and this leads to ‘compensation differentials’ across companies and industries.

Independent Learning:
Can you think of companies or industries that pay more than others in Oman? What do you believe
enables them to pay relatively higher salaries?

• Why inter-industry pay differentials exist?

o Competition: This could be due to little or high competition in the local or

international market. Companies that face little or no competition get
substantial profits and can pay higher salaries and wages whereas companies
that face high competition cannot sell as much and thus cannot generate
substantial profits like monopolies.

13
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

o Profitable businesses: On average, companies in profitable industries tend to

pay higher compensation because they meet their financial goals and
generate more money.

o Capital vs labour intensity: Another reason for inter-industry pay differentials

is the extent to which companies need and use investments/wealth in order
to operate and produce its goods and services. In general, capital-intensive
industries pay more salaries than less capital-intensive industries. But, why?

▪ Capital-intensive businesses: these businesses have large investments

in capital and require highly capable employees who have the
aptitude to learn how to use complex technology i.e. specialized
technical skills for operating equipment, machineries, robotics etc.

▪ Labour- intensive businesses: these businesses are not capital

intensive and most have the reputation of paying relatively lower
salaries unless competition is low (for example, they are a monopoly).
These businesses depend on a large number of employees with
relatively common skills rather than specialized skills to operate
equipment, machineries, robotics etc.

14
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

Give examples of capital intensive and labour-intensive businesses in Oman.

Capital Intensive Businesses/Industries Labour Intensive Businesses/Industries

III Labour Unions and Collective Bargaining

• Unions influence compensation because they negotiate with management on issues

related to salaries, cost-of-living adjustments, working conditions, working hours,
fairness etc.

15
Strategic Compensation: A Human Resource Management Approach, Seventh Edition, 2013 by Joseph J. Martocchio

When a trade union engages in collective bargaining, it has talks with an employer about its
members’ pay and working conditions.
(https://www.collinsdictionary.com/dictionary/english/collective-
bargaining)

• A spill-over effect: What unions manage to change in companies influence how other
companies compensate their employees

A spill-over is a situation or feeling that starts in one place but then begins to happen or have an
effect somewhere else.

(https://www.collinsdictionary.com/dictionary/english/spillover)

• In 2006, Oman allowed the establishment of unions.

Visit the General Federation Of Oman Trade Unions | ‫ عمان سلطنة لعمال العام االتحاد‬and discuss its
role. (www.gfotu.org). Are they influential?

• Many employees today don’t feel the need to belong to unions because companies
are getting better at managing ‘Employee Relations’. Other reasons are legal
protections for employees, the spread of administrative courts and increase in
numbers of lawyers.

Employee Relations – the HR function that looks after the employee-employer relationship and
covers all aspects of working including compensation, working conditions and resolving workplace
conflicts. The function ensures that relations with employees comply with the local laws and
regulations.

End of the chapter summary

16