Reward Systems Compensation Theory Job Evaluation and Pay

Reward Systems

Compensation Theory, Job Evaluation and Pay Administration • Why is compensation important to organizations? • Need to control costs to remain solvent and competitive • Need to remain competitive with internal and external labor markets • Need to use pay to motivate employees • The basic problem: a limited pie to divide among all employees 2 MGMT 412 | Reward Systems Fall 2008

Information from Do. L, Bureau of Labor Statistics Compensation Costs Per Hour 3 MGMT 412 | Reward Systems Fall 2008

What is a Job Worth? • Market price; willing seller and willing buyer • Issues of justice and equity • Male/female wage differentials • U. S. wages vs. wages in less developed countries • Gaps between executive and rank-and-file employee pay • Currently in US around 400 x rank-and-file pay (20 x for most of 20 th century -- comparable to Canada & UK) • Especially an issue in the current environment (Fall 2008) • But. . does CEO incentive pay lead to performance? Who knows? 4 MGMT 412 | Reward Systems Fall 2008

Women’s Pay Equality 5 MGMT 412 | Reward Systems Fall 2008

The Basic Pay Model • Compensation plan efficiency based on: • Internal consistency • External competitiveness • Employee contributions to the firm • Compensation: • “All forms of financial returns and tangible services and benefits employees receive as part of an employment relationship” 6 MGMT 412 | Reward Systems Fall 2008

A Basic Question • Can we satisfy everybody? • Perceptions of fairness come from: • Actual pay amounts • Relative pay amounts on internal basis • Relative pay amounts on external basis • Pay administration 7 MGMT 412 | Reward Systems Fall 2008

Job Evaluation • Determining the relative value of jobs within the organization • General basis: • • Effort Skill Responsibility Working conditions • Approaches • Whole job (ranking, classification) • Decomposed (point factor) 8 MGMT 412 | Reward Systems Fall 2008

Ranking • How to: • Order the jobs from highest to lowest • Pro and con • Easy to use and to explain to employees • Cumbersome for any but the small organization • Very difficult to add jobs / re-evaluate jobs • Very subjective; it is difficult to say what criteria are being used, so difficult to justify/explain to employees or courts 9 MGMT 412 | Reward Systems Fall 2008

Classification • How to: • Set up grades or categories with descriptions of the necessary responsibility, skill, effort and working conditions (or other factors as desired) • Include benchmark or representative jobs to serve as anchors; these should be • • 10 Common and well-known Stable content Truly representative of grade Can be priced on external market MGMT 412 | Reward Systems Fall 2008

U. S. Government General Schedule • Used since 1923 • Includes 18 classes or grades • Uses 9 factors to develop grades • These factors fit into the four categories of skill, effort, responsibility and working conditions 11 MGMT 412 | Reward Systems Fall 2008

GS Factors • Knowledge required by the position • • • Nature or kind of knowledge and skills needed Complexity • • How the knowledge and skills are used in doing the work • Supervisory controls • • • How the work is assigned The employee’s responsibility for carrying out the work How the work is reviewed Guidelines • • 12 • The nature of guidelines for performing the work The judgement needed to apply the guidelines or develop new guides Scope and effort • • • The nature of the assignment The difficulty in identifying what needs to be done The difficulty and originality involved in performing the work The purpose of the work The impact of the work product or service Personal contacts Purpose of contacts Physical demands Work environment MGMT 412 | Reward Systems Fall 2008

Classification: Pro and Con • Used by U. S. government (not necessarily a positive factor, but some evidence that it works) • Relatively easy to develop and administer • Can be difficult to write grades for jobs from multiple job families 13 MGMT 412 | Reward Systems Fall 2008

Point-Factor Plans • The most commonly used type of job evaluation method • Make the criteria for comparisons explicit, unlike ranking and classification • The criteria for classification (the compensable factors) are related to the strategy of the business; they are the factors valued by or of high worth to the firm 14 MGMT 412 | Reward Systems Fall 2008

Point-Factor: How it Works • Point factor plans all include three elements: • Compensable factors are defined • Degrees or level of each factor are given numerical rankings • Factors weighted as to their relative value to the organization • Job worth is measured by the total number of points • The steps to follow: • Job analysis • Determine compensable factors • Scale the factors • Weight the factors • Communications and documentation Compensable Factors “Characteristics in the work that the organization values, that help it pursue its strategy and achieve its objectives” • Apply the plan 15 MGMT 412 | Reward Systems Fall 2008

Selecting Compensable Factors • These should be: • Based on the work performed • Based on the strategy and values of the organization • Acceptable and considered to be fair by all concerned parties As a result, compensable factors should be developed by each organization, rather than using an off-the-shelf plan • Basic group of compensable factors: • • Skill • Effort • Responsibility • Working conditions 16 MGMT 412 | Reward Systems Fall 2008

The Hay Plan A widely used plan developed by a consulting firm, Hay Associates, and aimed toward management jobs • It includes: • • Know-how • Functional expertise • Managerial skills • Human relations • Problem solving • Environment • Challenge • Accountability • Freedom to act • Impact of end results • Magnitude 17 MGMT 412 | Reward Systems Fall 2008

Other Plans • J. C. Penney looks at: • Decision making impact on the company’s objectives • Communications • Supervision and management • Knowledge requirements • Internal customers • External customers • Many firms (i. e. , 3 M, TRW) add a factor for “International Responsibilities” 18 MGMT 412 | Reward Systems Fall 2008

Weighting Compensable Factors • Each factor contributes a different amount towards the total score for the job, depending on the importance of the factor to the organization. These weights can be arrived at in two ways • Committee judgments (compensation committee, which is made up of management representatives) • Statistical analysis: the weights are chosen so that the factor scores for a selected group of benchmark jobs will predict market prices or current rates for those jobs • When compensable factors are weighted and the total number of points determined, points assigned to each level of the factors 19 MGMT 412 | Reward Systems Fall 2008

Point-Factor: Pro and Con • Point-factor systems orderly, rational, and make criteria for evaluating jobs explicit • Time consuming to set up (and they do need to be periodically updated), but very simple to add new jobs • Job evaluations may still be affected by what the evaluator already knows or believes the market value of the job to be 20 MGMT 412 | Reward Systems Fall 2008

Why Conduct Salary Surveys? • To create and adjust pay structure • Adjust actual pay in response to the market • All jobs on scheduled basis (almost a COLA); be careful this doesn’t become an entitlement • Jobs for which supply or demand has changed • Monitor other forms of pay, such as shift differentials, bonuses, incentives, overtime practices • Estimate competitors’ labor costs • However, we cannot market price every job 21 MGMT 412 | Reward Systems Fall 2008

What Is The Market? • Who? Employers who compete for the same occupations and skills • Employers who compete for employees in the same geographic area • Employers who compete with the same products • How to determine this? • Who are our competitors? • Where do we recruit? • Where are employees going? • • Interaction of skill/place/product If labor market is rich in a particular skill, may recruit/price locally • If labor market does not include skills, recruiting and pricing are on a wider scale • Commuting time within a market may also be a factor • 22 MGMT 412 | Reward Systems Fall 2008

Guidelines for Salary Surveys (I) • How many firms to include • Include fewer firms if you are a major employer and make the market • Commercial surveys often include several hundred firms (but they make money by getting participants and selling them surveys) • Price fixing issues • Under the Sherman Act, surveys can be viewed as a conspiracy in restraint of trade • Having a third party conduct the survey protects you, but you lose control 23 MGMT 412 | Reward Systems Fall 2008

Guidelines for Salary Surveys (II) • Make or buy • For national data, may need to buy from a consultant • Some firms may be reluctant to respond to your survey, but will participate in third-party survey • More control with own survey • Purchasing a survey means you get what they want to report • Running your own survey takes more time, but may be less expensive • Odd jobs, local jobs may not be available commercially • Free data from Department of Labor. . . but you get what you pay for (useful in general terms) 24 MGMT 412 | Reward Systems Fall 2008

Guidelines for Salary Surveys (III) • What jobs to survey • Benchmark jobs: • Well-known and stable content • Stable pricing (stable supply/demand) • Represent entire structure • Represent majority of covered positions • Market sensitive jobs 25 MGMT 412 | Reward Systems Fall 2008

What Data to Collect • Basic company information, for comparability, • • weighting of results How closely surveyed jobs match your jobs Salary range Actual pay (individuals, range or average); may include actual pay and tenure/experience Other forms of compensation • Benefits (optional) 26 MGMT 412 | Reward Systems Fall 2008

How to Survey • Mail surveys cheapest, but may not be as accurate • Interviews are more accurate (allow you to verify content) but are very time consuming • Compromises may be phone verification or interviews every second or third year (Do. L surveys) 27 MGMT 412 | Reward Systems Fall 2008

Putting it Together: The Pay Regression Line • Job evaluation (internal equity) gives us relative value of jobs within the organization • Salary surveys (external equity) gives us dollar value of selected jobs outside the organization • The pay regression line combines the two sources of information 28 MGMT 412 | Reward Systems Fall 2008

Basic Information 29 MGMT 412 | Reward Systems Fall 2008

The Pay Regression Line Legal Sect’y Dept. Sect’y 30 MGMT 412 | Reward Systems Fall 2008

Developing Pay Grades • Pay grades are “convenient groupings of a wide variety of jobs. . . similar in work difficulty and responsibility requirements but possibly having nothing else in common” • Pay grades allow compensation to be administered for a group of jobs that are worth approximately the same • A pay grade can be a single rate or a range of rates • An administrative convenience 31 MGMT 412 | Reward Systems Fall 2008

Basic Characteristics of Pay Grades • • • Grades normally provide for a range of pay rates, though single rates are possible Pay grades contain a minimum, midpoint and maximum The range from minimum to maximum can be from 20% to 100%, with 30% to 35% being most common The midpoint of pay grades increase in a constant percentage, normally 5% to 15%. However, the percentage increase may be larger at the top of the pay structure There is normally some overlap between pay grades. If there is a 30% range within a pay grade and there is a 10% difference between midpoints, there will be a 67% overlap 32 MGMT 412 | Reward Systems Fall 2008

Developing Pay Grades • How many grades? Differences between grades? Grade width? The range of jobs included in the structure is an influence. A wider range of jobs requires more grades, possibly wider grades (to cover a wider range of pay) or less overlap between grades • Fewer pay grades will normally be wider pay grades, allowing the organization to place more emphasis on recognizing time in job • 33 • Can be argued that differences between grades should increase as one advances through the pay structure; the value of incumbents in higher level jobs increases more with time and wider variation in performance is possible. In lower level jobs, the learning curve levels off much sooner and there is less scope for harming or contributing to the organization • Small increments between pay grades reduces the effect of an error in assigning a job to a pay grade MGMT 412 | Reward Systems Fall 2008

Other Issues • Single rate pay grade? • Is there a single “market rate” for the job, or are there a variety of rates? • How do you then reward seniority or performance? • Often found in union settings • What is the midpoint? • Midpoint is the market rate for the job • However, firm may determine their “market rate” as being higher or lower than the survey average 34 MGMT 412 | Reward Systems Fall 2008

Other Pay Plan Issues • Who evaluates jobs? • Moving individuals through pay structures • Merit vs. seniority • Special situations • Pay differentials • Compression between employees and supervisors • Compression between old and new employees 35 MGMT 412 | Reward Systems Fall 2008

Moving Individuals Through Pay Structures • Merit vs. seniority • Faster progression to the midpoint, then slow down • Grade maximum; what then? • Special situations • Red circled jobs • Green circled jobs 36 MGMT 412 | Reward Systems Fall 2008

Pay Compression • Between employees and supervisors • May occur if employees are very senior and supervisors brought in from outside • Also possible if employees work significant overtime or have shift pay • May also happen with commission sales and sales management • Solutions: • Ensure sufficient distance between pay ranges for employees and supervisors (10%) and watch actual pay • Pay commissions to sales managers or select sales management staff who are motivated by security rather than money • Compression between current and newly hired employees Happens when market rates change faster than employees move through grade • What happens if an employee can quit and be rehired at a higher salary? • Solution: Adjust rate of progression through grade • 37 MGMT 412 | Reward Systems Fall 2008