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11
Compensation: Methods and Policies

McGraw-Hill/Irwin Human Resource Management, 10/e

© 2007 The McGraw-Hill Companies, Inc. All rights reserved.

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Objectives
Understand

how individual pay is determined. Define variable pay and discuss the various incentive programs that can be used in such a system. Explain why merit pay may cause employees to compete rather than cooperate. Recognize the significant changes in these innovations and learn to differentiate among them: skill-based, knowledge-based, credential-based, feedback, and competency-based pay. Describe issues such as secrecy, security and compression

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Introduction
A

compensation system should be: Secure Balanced Cost-effective Acceptable to employees aspects of acceptability will be discussed: Whether pay should be secret Communication to achieve acceptability Employee participation in pay decision making

Three

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Determination of Individual Pay
To

determine individual pay: Management must answer these questions: How should one employee be paid relative to another when they both hold the same job in the organization? Should we pay all employees doing the same work at the same level the same? If not, on what basis should distinctions be made? Seniority, merit, or some other basis?

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Determination of Individual Pay
Most

employers pay different rates to employees performing the same job based on: Individual differences in experience, skills, and performance Expectations that seniority, higher performance, or both deserve higher pay

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Determination of Individual Pay
Reasons

to pay different rates for the same job: Employees performing the same job make substantially different contributions to goals A changed emphasis on important job roles, skills, knowledge, and so on Emphasizes the norms of enterprise without having employees change jobs (promotion) Without differentials, the pay system violates the internal equity norms of most employees  Recognizes market changes between jobs in the same grade without overhauling the whole system

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Methods of Payment
Employees

can be paid for: The time they work The output they produce Skills Knowledge Competencies A combination of these factors

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Variable Pay: Incentive Compensation
Global

competition and economic restructuring are requiring businesses to become more productive Reliance on outdated pay systems is holding American businesses back pay systems do not effectively link pay to performance or productivity Managers are increasingly using variable pay plans

Traditional

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Variable Pay: Incentive Compensation
pay is any compensation plan that: Emphasizes a shared focus on organizational success Opens incentives to nontraditional groups Operates outside the base pay increase system in the calculations of variable pay are: Individual incentive awards Individual recognition awards Group and team awards Scheduled lump-sum awards

Variable

Included

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Variable Pay: Incentive Compensation
implement successful variable pay systems, companies must based their plans on: Clear goals Unambiguous measurements Visible linkage to employees' efforts design factors include: Support by management Acceptance by employees Supportive organizational culture Timing

To

Key

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Variable Pay: Incentive Compensation
variable pay, a percentage of an employee's paycheck is at risk If business goals aren't met, the pay rate will not rise above the base salary Annual raises are not guaranteed The individual earns all or part of the bonus by meeting objectives Pay returns to the base level the next year and the employee must again compete for the variable reward

With

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Variable Pay: Incentive Compensation
compensation includes: Base pay Variable pay Indirect pay

Total

Variable

pay helps manage labor costs, but does not guarantee equitable treatment of employees Financial insecurity is built into the system As a result, productivity may actually decline employees on the basis of output is usually referred to as an incentive

Paying

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Merit Incentives
most widely used plan for managing individual performance is merit pay A reward based on how well a job was done merit pay results in a higher base salary after the annual performance evaluation Merit increases are usually spread evenly throughout the subsequent year to 90 percent of firms offer merit raises, but little research has examined merit pay or its effects

The

Traditionally,

80

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Merit Incentives
claim merit pay is the most valid type of pay increase Awards are directly linked to performance Rewarding the best performers with the largest pay is claimed to be a powerful motivator premise has two flawed assumptions: Competence and incompetence are distributed in roughly the same percentages in a work group Every supervisor is a competent evaluator

Advocates

This

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Merit Incentives
merit pay systems fail due of three problems: Employees fail to make the connection between pay and performance The secrecy of the reward is perceived as inequity The size of the award has little effect on performance plans can work where: The job is well designed The performance criteria are well delineated and assessable

Many

Merit

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Merit Incentives
pay systems depend on a reward to produce an effect A promise of increased salary in exchange for a promise to perform satisfactory future work Many existing merit plans are not clearly linked to an individual's performance, so merit increases are not always viewed as meaningful pay focuses on the individual It is more likely to cause employees to compete with each other than to collaborate or share resources

Merit

Merit

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Individual Incentives
oldest form of compensation is the individual incentive plan The employee is paid for units produced incentive plan takes several forms: Piecework Production bonuses Commissions

The

Individual

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Individual Incentives
incentive plans are likely to be effective if: The task is liked The task is not boring The supervisor reinforces and supports the system The plan is acceptable to employees and managers The incentive is financially sufficient to induce increased output Quality of work is not especially important Most work delays are under the employees' control

Individual

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Team Incentives
incentives can be paid to teams of individuals Team incentive plans can reduce administrative costs

Individual

Reasons

to choose a team incentive plan It is difficult to measure individual output Cooperation is needed to complete a task or project Management thinks this is a more appropriate measure on which to base incentives

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Team Incentives
Japanese use team incentives to foster group cohesiveness and reduce jealousy In the United States, there may be a clash between societal norms and group incentive systems small-group incentives to be effective, management must: Define its objectives Analyze the situation Select the most appropriate group incentive

The

For

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Problems with Incentives
individual and group incentive systems, competition can result in: Withholding information or resources Political gamesmanship Not helping others Sabotaging the work of others minimize these problems, some organizations are using organization-wide incentive plans

In

To

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Organization-wide Incentives

Organization-wide

incentives are more common than individual or group incentives Payments are usually based on one of two performance concepts: Sharing profits generated by the efforts of all employees altogether Sharing money saved as a result of employees' efforts to reduce costs

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Organizationwide Incentives
approaches to incentive plans are used at the organizationwide level: Suggestion systems Company group incentive plans (gain-sharing) Profit sharing

Three

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Suggestion Systems
formal method of obtaining employee advice about organizational effectiveness It includes some kind of reward based on the successful application of the idea The key to success is employee involvement These programs are quite cost-effective systems can: Improve employee relations Foster high-quality products Reduce costs Increase revenue

A

Suggestion

Suggestion systems are often administered by the HR department

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Suggestion Systems
successful suggestion system includes: Management commitment Clear goals Designated administrator Structured award system Regular publicity Immediate response to each suggestion

A

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Gainsharing Incentive Plans
plans are company-wide group incentive plans that use a financial formula to: Distribute organization-wide gains, and Unite diverse organizational elements in the common pursuit of improved organizational effectiveness cash bonuses, these systems share the benefits of: Improved productivity Reduced costs Improved quality

Gain-sharing

Through

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Gain-sharing Incentive Plans
incentive systems are exceptionally effective in enhancing teamwork in: Manufacturing organizations Service organizations used gain-sharing plans: Lincoln Electric Scanlon Rucker ImproShare

Gain-sharing

Commonly

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Profit-Sharing Plans
plans distribute a fixed percentage of total profit to employees in cash or deferred bonuses Profit sharing is not dominant in other industrialized countries plans are typically found in three combinations: Cash or current distribution plans Deferred plans A combination of both
80% of the companies using profit sharing use the deferred option

Profit-sharing

Profit-sharing

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People-Based Pay
bureaucratic job-based method of determining pay will not be used in the future The new designs will be people-based of people-based pay: Skill-based Knowledge-based Credential-based Feedback Competency-based

The

Variants

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Skill-Based Pay
pay sets pay levels on the basis of: How many skills employees have, or How many jobs they can do positive outcomes include: Increased quality Higher productivity A more flexible workforce Improved morale Decreased absenteeism and turnover
When a new skill is added to an existing job, the employee earns a pay increase by mastering it

Skill-based

Expected

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Skill-Based Pay

Methods

for defining individual skills: Direct observation Testing Measurable results

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Knowledge-based Pay
pay rewards employees for acquiring additional knowledge Applies to both the current and new job Stretches the skill-based model to professionals, managers, and some technical personnel study compared two manufacturing plants One used the job-centered pay design; the other a knowledge-based design After 10 months, the pay-for-knowledge facility had higher quality, lower absenteeism, fewer accidents The traditional plant had higher productivity

Knowledge-based

A

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Credential-based Pay
pay rests on the fact that an individual must have: A diploma or license, or Pass one or more examinations from a third-party professional or regulatory agency pay is more cut-and-dried than skill-based or knowledge-based pay

Credential-based

Credential-based

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Feedback Pay
pay is based on: Aligning pay with strategic business objectives Establishing a direct connection between the jobholder and his/her part in accomplishing goals design must conform to four principles: Flows directly from strategic business goals Directly links employees' actions to these goals Provides sufficient opportunity for rewards to hold employees' attention Is timely

Feedback

This

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Issues in Compensation Administration
must make policy decisions that involve the extent to which: Compensation will be secret Compensation will be secure Pay is compressed

Managers

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Pay Secrecy or Openness
are degrees of pay secretiveness and openness In many organizations, pay ranges and individual pay are open to the public and fellow employees (open system)

There

With

the secret system, pay is known only to the employee, her/his superior, and HRM/payroll In some organizations, employees cannot discuss pay matters and, specifically, their own pay

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Pay Secrecy or Openness
up a system has costs and benefits To reduce the manipulative aura surrounding pay, a company must share pay information with employees As firms post job openings, information on pay becomes a critical decision deciding on secrecy or openness: Determine what employees want to know about pay Decide if the information will harm or help the firm Weigh performance, interdependence, and causal relationships

Opening

When

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Pay Security
compensation can motivate performance So can the belief that there will be future compensation security for providing this security include:
A

Current

Plans

guaranteed annual wage Supplementary unemployment benefits Cost of living allowances (COLAs) Severance pay Seniority rules Employment contracts

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Pay Compression
when employees perceive too narrow a difference between their pay and that of colleagues There is a narrowing gap between senior and junior employees and between supervisors and subordinates Differentials of 10 percent or less are not unusual Junior employees are sometimes brought in at salaries greater than those of their superiors The resulting low morale can lead to decreasing productivity, higher absenteeism, and turnover To identify pay compression, compare salaries and incumbents' years of experience with the company

Occurs

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Pay Compression
for pay compression include: Reexamining how many entry-level people are needed Reassessing recruitment Emphasizing performance instead of salary-grade assignment Basing all salaries on longevity Giving first-line supervisors and other managers the authority to recommend equity adjustments Limiting the number of new hires with excessive salaries

Solutions

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