By Richard Oyen
Compensation has gotten a lot of bad press lately. The economy has put unemployment and growing personal financial concern, along with exorbitant pay packages from failing companies around the globe into the headlines. One of the latest strategies being followed through out the world is “linking compensation to performance”. Commonly known as “Performance pay” or “Performance based pay”, it links the compensation of the employees to their performance and their contribution to the organisational goals and objectives. Therefore, periodic performance reviews merged with the compensation process provide the basis of performance related pay.
Compensation will always be a critical part of employment, influencing productivity, motivation, retention and much more. As Jack Welch said, “If you pick the right people and give them the opportunity to spread their wings and put compensation as a carrier behind it you almost don't have to manage them.” We in Human Resources, have a strong influence and role in both the process and the policies behind it.
TEST YOUR PROCESS
To start out, ask yourself these 5 simple questions about your process:
• Are your salary increases linked to performance appraisals?
• Can you rationalize bonus “Monies” being appropriately distributed?
• Can you ensure the accuracy of your compensation calculations?
• Are you able to prove the right people being rewarded?
• Are you using all methods of rewarding performance and not just cash incentives?
Your results will be analyzed in the Conclusion of this article.
PERFORMANCE BASED PAY
Performance related pay has been a topic of discussions and controversies with many arguments for and against it. But it has been proved that performance based pay motivates employees to perform better, and encourages learning, innovation, creativity, problem solving and empowerment which can be facilitated through proper performance measurement and reviews.
Rather than basing compensation on non-performance factors such as seniority, or rewarding all employees on a uniform basis, pay-per-performance compensation ensures that employees that perform well are rewarded in a manner that is fair across the organisation. That is except in cases were labour contracts or trade unions have dictated otherwise.
Sample Merit Allocation
Performance Rating Merit Increase Budget
5 8 - 12%
4 5 - 9%
3 2 - 6%
2 0 - 3%
1 0%
Being able to clearly identify top performers in your organisation allows you to target those individuals, and reward them appropriately. Rewarding your high-performers is a key component of talent retention. Employees’ performance reviews should reflect their true performance and not be subjected to individual manager’s way of rating. By implementing a web-based performance appraisal system across your organisation with workflows based on industry best-practices, your organisation can ensure all employees are measured under the same process and criteria.
At most organisations, the compensation experts are performing market surveys, ensuring payroll accuracy, fighting the occasional payroll fire, and sustaining compliance with internal business rules and external regulatory requirements. But when it comes down to the wire, when it is time for the compensation team to implement changes based on performance appraisal or other data, they’re usually facing piles of paper and hours of data entry, distracting them from their core role.
IMPROVE THE PROCESS
Once the overall appraisal ratings are applied to the data and an increase range is applied, the work isn’t over. A delicate balancing act to allocate a budget pool is still required for ensuring that increase budgets are applied appropriately. At this point, managers or other compensation decision makers may be working with multiple spreadsheets which then cause the compensation team even more effort and confusion. The simple collection and tracking of receipt of each manager’s spreadsheet is an ongoing but avoidable chore.
How to fix this? With the right initial setup of data and business rules, it is a very realistic scenario to envision performance, salary, variable compensation, and other relevant data being manipulated in real time by managers within the same system. The compensation team knows in real time exactly when submission or approval deadlines have – or haven’t – been met and by whom. A simple data exchange then feeds instructions to the payroll system, and the result is a comprehensive, accurate, relatively stress-free compensation cycle. Every change can be tracked and audited, every step can be validated.
WHY IS THIS IMPORTANT DURING THE ECONOMIC CRISIS?
While we might be tempted to cut back on some HR efforts, we should remember that our current economic crisis is actually a call for greater diligence—particularly with regard to large budget items like compensation. Now is the time to optimize your processes to ensure the most efficient use of corporate resources, and to help engage, retain, and develop your company’s most valuable asset—its workforce.
A Hewitt survey of 640 companies found they planned to raise hourly wages 2.5% this year. That's the smallest raise since 1976. The companies said executive pay increases would drop from 3.8% to 2.2% in 2009. So now is precisely the time to focus on your process and get the most out of what you’ve got. Just as the poor must be more parsimonious than those with bountiful resources, your organisation should focus its compensation management practices during lean times. There is a much smaller pie to divide for most companies this year, so make sure it is divided correctly and shared with the right people.
In the long term, part of a good Human Capital strategy must be to retain top performers in order to be successful. This is not only done with compensation, but it can not be forgotten.
HOW DO YOU ACHIEVE THIS?
Automate compensation management and link to performance appraisals: No Compensation system is complete without sound performance management data! Calculating the effect of an employee performance management system in this case is not so cut and dried. If you are concerned about how your current performance management processes affect compensation, leverage compensation surveys and map them to the positions your organisation currently employs. If you find that you’re drastically overpaying your workforce even considering regional adjustments and other demographics, an employee performance management system can help close that gap. Again, no compensation tool is valuable without sound performance management data!
Improve Compensation Alignment: Most organisations claim to pay at market rates. Some organisations purposely pay above at a premium. Almost all companies are leaving some money on the table as they manage compensation. Compensation specialists have for years relied on market data and subjective review ratings to determine salary adjustments. This is flawed because most organisations suffer from the following cycle: As performance reviews aren’t objective and consistent among groups, some employees gain while others are victims to the process. Merit and compensation increases are given, often inconsistently, based on faulty data. And the cycle repeats itself year after year. The more out-of-whack this becomes, the worse it affects a company’s bottom line. The grossly underpaid will eventually leave and you’ll have replacement costs mentioned above. Most performance management systems result in a fairly flat distribution of ratings. In a system where everyone is rated a 4 on a scale of 1-5, it is often difficult to differentiate pay and other incentives enough to motivate top performers or change the behaviour of poor performers. A system that supports calibration, a wider rating scale, and/or comparative rating results in a fairer and more accurate distribution and helps employees better understand where they stand within the organization.
Other Forms of Compensation
flexible work schedules
telecommuting
advanced skill training
certification training
executive shadowing
tickets to events
laundry service
company parties
cellular phones/pagers
reduced work week
Beyond the Dosh: And never forget that money is not the only motivator for engaging and retaining your workforce. Employees may be more worried this year about job security than their annual increase. You can make your employees more valuable to the organisation by imparting more skills in them, and these new skills will also add to their personal talent inventory prove beneficial to their career plan. Managers should spend extra time on talent assessments and other succession planning activities to help look for development opportunities, such as training or an increase in work responsibilities. These alternatives reflect your faith in key employees while defining clear conduits for career growth. In addition look at other alternatives. A Mercer survey conducted in late 2008 showed that, within the next six months, 22% of employers are for the first time planning to offer at least some of their employees the option of a four-day work week, and slightly more (24 percent) are planning to allow more employees to telecommute.
Avoid Errors: Human capital is your organisation’s greatest cost—yet far too many of us continue to manage employee data and calculate salary adjustments using basic spreadsheets. Over a decade of research has consistently proven that spreadsheets are notoriously full of errors. In fact, people are typically only 95% to 98% accurate when they create formulas in spreadsheets Compensation data is also highly confidential. To disseminate the information, there is typically a need for multiple spreadsheet versions which are sent out to various department heads and then recombined again at the end of the process. The intricate administration of the process, always complicated by the inevitable last minute change, also lead to a chance for spreadsheet error.
Your organisation can have the most in-depth compensation management model, equipped with fancy processes and up-to-the-second salary market data, but it all means nothing if it does not tie your merit adjustments to your performance metrics.
CONCLUSION
So how did you do on your test? Give yourself 3 points for every question in which you answered ‘Yes’. If you scored above 9, you are well on your way to aligning pay for performance in your organisation and probably deserve a salary increase yourself. If you scored between 6 and 9, you are on the right track, but should see what changes can be implemented to improve your process. If you scored below 6, take the time to discuss the company’s compensation philosophy with your executive team. Is it serving the right purpose? If you scored a 0, make sure you have not already been deemed redundant!
Compensation is crucial to retaining employees, keeping morale high, and enforcing a performance-based, goal-oriented culture. Having a Compensation Management solution can be a key component of your talent development strategy. By integrating compensation with performance management processes, organisations can ensure that employee increases are fair and equitable. In addition, you can work to provide incremental bonuses and manage raises during promotions. The results? You can accurately identify and reward your top performers, while fairly distributing consistent salary adjustments based on merit.
Pay-for-performance is the fair and equitable way to reward and retain the talent in your organisation. And the only way to guarantee the integrity of your compensation plan is to link it to your employee performance management system, which provides you the tools you need to manage, monitor, and measure employee performance accurately at every step in the process. Many companies around the world will experience change in 2009. Don’t take them for granted even though there may be limited opportunities for them elsewhere. This period will pass, and employee loyalty will depend how you treated them during the tough times.
The author is the Senior Director for Global Human Resources at SumTotal Systems, and directs SumTotal’s Customer Value Program, giving customers the practical advice they need to get the most from their talent development initiatives. Oyen has over 20 years of experience in HR and Performance Management with renowned companies such as Oracle, Walgreens and Keynote Systems. Oyen has also worked as an Adjunct Professor of Human Resources Management at the University of San Francisco. He is SPHR certified and has both a BS from the University of Minnesota and an MBA from the University of San Francisco.
