Optimizing Total Rewards: Controlling Costs and Maximizing Business Value

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Optimizing Total Rewards Controlling Costs and
Maximizing Business Value
Mark Englizian Microsoft Allen Slade
Microsoft Tom Davenport Towers Perrin
May 14, 2002
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Workshop objectives

• Explain Total Rewards Optimization
• What it is
• How it works
• Discuss how Microsoft used the approach
  successfully
• Answer your questions about optimizing your
  investment in employee engagement and retention

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Workshop agenda

• Why should you be concerned about optimizing
  rewards?
• Microsofts people issues
• TRO overview and approach
• Microsoft case study
• TRO modeling
• QA

4
Why should you be concerned about optimizing
rewards?
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Q Who agreed most strongly with this statement
People are our most important investment?
4

• Human resource executives
• Line management executives
• Strategic planning executives
• Financial executives
• Ex-spouses of CEOs
• Who agreed least strongly?

4
Source Towers Perrin People Strategy Benchmark
Awareness and Attitude Study
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Its time for a new metaphor
Our employees are our...
Most Important Investor
Highest Cost
Greatest Asset
What does the employee cost the organization?
What is the employee worth to the organization?
What is the organization worth to the employee?
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What the organization delivers
Total Rewards
Pay
Benefits
Base salary Variable pay Recognition Stock
Health care Retirement Savings Time off
Career development Performance management Learning
management
Leadership Work/life balance Trust and
respect Organizational climate Line of
sight/Involvement
Learning Development
Work Environment
8
Q What gives people the most personal
satisfaction?
Percent Saying A Lot of Personal Satisfaction

• Getting promotedfaster than expected 40 50 60
  70

40
Getting a bigger-than-average raise
40 50 60 70
48
Knowing that you hada really productive day
40 50 60 70
63
Receiving a compliment/memo from your boss
40 50 60 70
53
Source Roper Starch
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The High TSR Talent Management Differentiators
of Employees Rating Their Company as Good or
Excellent.
Reputation in the job market
Competitive retirement benefits
Incentive pay tied to performance
Rewarding top performers
Selecting skilled employees
Providing recognition for talented employees
10 TSR
Developing leaders
0 or negative TSR
Allowing employees to have their job their way
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NOTE Company groupings based on five-year Total
Shareholder Return (TSR).
Source Towers Perrin Talent Management Study
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Questions for participants

• What major reward issues are you facing?
• Are you more concerned about reward effectiveness
  (that is, employee behavior) or reward cost?

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Concepts relevant to the rest of our discussion

• The deal
• Reciprocity
• Retention and engagement
• Total rewards
• Optimization

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Microsofts People Issues
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What were we thinking in Fall 2000?

• Historically, Microsoft had a winning rewards
  formula
• Stock that produced wealth under the right market
  conditions
• Conservative base salaries
• Small variable pay opportunity
• Generous benefits
• Engaging but challenging work environment
• The effectiveness of this rewards formula
  decreased as share price declined and competitors
  became more aggressive with cash compensation

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What were we thinking in Fall 2000? (contd)

• Responses to attraction and retention challenges
  had limited success
• MS Poll suggested dissatisfaction with cash
  compensation
• Despite much data on employee attitudes, surveys
  not designed to identify the rewards that
  encourage people to join or stay
• The organization wanted to avoid the silver
  bullet approach to dealing with unwanted
  turnover

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What were we thinking in Fall 2000? (contd)

• Therefore, total rewards response had to be
• Comprehensive, covering all reward quadrants
• Effective against competitors
• Reflective of the organizations status as an
  attractive albeit maturing company
• Clear link of rewards with contribution
• Flexible in accommodating individual needs but
  also administratively practical
• Effective in ensuring that the organization
  invests its reward dollars where they produce the
  greatest benefit (employee commitment and
  engagement)

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2002 HR mission Create an environment where the
industrys most talented people can do their best
work

• Employee engagement
• Career development
• Mentoring
• Part-time/leave policy changes
• Rewards optimization
• Management matters
• Cultural attributes
• Management development road map
• Manager portal

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Questions for participants

• Do any of these challenges sound familiar?
• What forms do they take in your organizations?

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Total Rewards Optimization (TRO) Overview and
Approach
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Suppose you knew all this...
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...and could determine this
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Towers Perrins Total Rewards Optimization (TRO)
enables organizations to invest in rewards that
maximize ROI
Investment in Employees
What is the optimum level of investment in
employees?
Retiree medical
Paid time off
Thrift plan
Work flexibility
What is the optimum allocation of that
investment to maximize retention?
Learning and development
Base pay
Retirement plan
Healthcare
Bonus
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Our approach to TRO consists of two primary
activities
Optimum Level of Investment Optimum Allocation
of Investment
Conjoint Analysis
Portfolio Optimization

• Optimum solution may be to
• Increase retention by changing allocation while
  maintaining the current level of investment
• Maintain current level of retention at lower
  level of investment by changing allocation
• Increase investment and retention to economically
  efficient level (marginal investment equals
  marginal turnover savings)

• Reflects cost constraints on investment
• Develops an efficient frontier of optimum
  allocation of investments in retention
• Determines an optimum investment level on the
  basis of program costs and turnover cost savings

• Is a surveying method used for many years in
  marketing to capture subjective preferences
• Asks employees to make trade-offs among program
  features as opposed to assessing the features
  individually
• Is a more reliable forecast of behavior than
  traditional survey methods

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Determining utilities
Marginal Utilities of Reward Levels
Work Flexibility
Manager Performance
Nature of Job
Bonus
Training
Stock Options
3
Base Pay
Sabbatical
Tuition Reimbursement
Career Path
Current
5
15
401(k)
Levels of Reward Elements
Health Care
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Determining utilities (contd)
Marginal Utilities of Reward Levels
Work Flexibility
Manager Performance
Nature of Job
Bonus
Training
Stock Options
3
Base Pay
Sabbatical
Tuition Reimbursement
3
Career Path
1
2
3
401(k)
Levels of Reward Elements
Health Care
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Comparing utilities
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Identifying optimal reward portfolios

• C

• B

Current level of investment and retention
2-Year Retention ()

• A

0
100,000
200,000
300,000
400,000
500,000
600,000
(100,000)
Change in Cost (000)
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Determining financial outcomes

• Work Flexibility
• Work at home up to 20 of time with supervisor
  approval
• Manager Performance
• Manager provides more autonomy, informal learning
  opportunities and business unit strategy
  information
• Nature of Job
• More opportunities for strategic projects and
  more engaging assignments
• Bonus
• No change to current performance bonus
  opportunity
• Training
• At least 40 hours of training annually per
  employee

• Stock Options
• No change
• Base Pay
• No change
• Sabbatical
• Eight weeks paid after four years
• Tuition Reimbursement
• No change
• Career Path
• Formal career map extensive internal job
  markets
• 401(k)
• No change
• Health Care

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Determining financial outcomes (contd)
Current
Proposed
Rewards
Rewards
Change in Reward Cost
0
22,850
68.8
87.5
2-yr retention
15.6
6.2
Annual turnover rate
Change in turnover rate
-9.4
Change in turnover cost
-76,963
Net change in cost
(54,113)
237
Net as of Change in Reward Cost
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Consider your target variable

• Retention
• Engagement

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Q How much of a pay increase do people expect
from changing jobs?
How much of a total cash compensation (base
salary plus annual incentive) increase would you
expect if you left your job?
Source Towers Perrin Talent Management Study
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Microsoft Case Study
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Project summary

• Objective Create a data-driven framework for
  evaluating changes (improvements or take-aways)
  to compensation, benefits and other employee
  programs by analyzing the impact on retention
  and cost
• Scope Focus on cost and the impact of rewards on
  retention, rather than other objectives behind
  reward elements (employee motivation, community
  relations, etc.)

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The project unfolded over about four months
February 2001
January 2001
March 2001
April 2001
Step 2
Survey Administration
Step 1
Step 4
Step 5
Analysis, Interpretation and Recommendations
Implementation Planning and Results Monitoring
Step 3
Cost Calculation
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Initial insights

• The results were similar across job family, level
  and tenure
• However, the highest stock-rated population has
  a higher preference for stock, bonus and
  sabbatical...
• And an equal preference for base pay, as compared
  to the lowest stock-rated population
• Traditional reward levers (in isolation) have
  poor payoffs
• Nontraditional rewards have high payoffs (in
  isolation)

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Actions

• Policy changes we are already driving
• Invest in manager effectiveness
• Eliminate no poaching rule
• Expand LOA
• are projected to have the following impact
• 20m investment
• 21 decrease in attrition (from 10 to 7.9)
• 30m reduction in cost of attrition
• Net savings of 10m

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Innovations

• Interactive decision tool
• Data dialogue driving decisions
• Conjoint
• Put employees into the domain of constrained
  choices
• Collaboration
• Between cost data and attitude data
• Between Compensation, Research and Finance

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Deal scenarios
CHANGE IN TURNO VER COST (SAVINGS)
CHANGE IN REWARD COST
CHANGE IN ATTRITION
NET COST (SAVINGS)
SCENARIO
ELIMINATE
ADD

• 10 base pay
• Improve manager effectiveness
• Remove no poaching
• 40 hours of training
• Improve nature of job
• Paid sabbatical
• Telecommuting
• Improve manager effectiveness
• Remove no poaching
• 40 hours of training
• Improve nature of job
• Paid sabbatical
• Telecommuting

Trade Bonus for Base Maximize Payoff Maxim
ize Retention Cut Cost Fixate on Cash
Salary Improve Retirement Benefits
No Bonus No Bonus NA No
bonus NA NA
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Q Where is manager performance best (and worst)?
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• Customer focus
• Multitasking
• Working with diverse workforce
• Transforming ideas into words and actions
• Recognizing and solving problems
• Coaching and mentoring

4
4
4
4
4
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Managers see their roles evolving
COMMUNICATION
NOW
Help people interpret information from multiple
sources
3 TO 5 YEARS FROM NOW
TEAMWORK
Build teams with diverse backgrounds, skills,
perspectives
CONNECTING PEOPLE WITH GOALS
Help people discover how they contribute
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Managers see their roles evolving (contd)
REWARDS
Give people opportunity to earn what they value
most
COACHING
Introduce many learning options, help people
choose
CHANGE
Help people take change initiative
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Interactive Mini-Case
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Mini-case study BC Inc.

• Business Clothing retailer with 20 stores in the
  Northeast
• Revenues 1b
• Employees 10,000 front-line employees (cashiers,
  stockers, sales clerks)
• Presenting issue Unwanted turnover of 100 per
  year at a cost of more than 30m per year
  customer satisfaction scores at an all-time low
• Situation Highly autonomous store management
  with many silver bullet horror stories Wall
  Street expects 5 profit margin improvement

Where do we start???
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Exercise 1 Frame the problem

• You have three minutes in the elevator to
  convince the CEO to take action to analyze and
  act on a turnover problem. What will you tell her
  about...

• Where the problem is most acute
• Which implications are the most dramatic
• Cost of turnover
• Revenue lost from customer dissatisfaction
• Institutional knowledge lost
• How employees and managers will be engaged in
  solving the problem

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Exercise 2 Hypothesize the reward elements

• Youre conducting a focus group to pin down the
  reward elements to be analyzed. What kinds of
  questions will you ask to...

• Get a sense of whats important to people?
• Ensure that you have information on the full
  range of total rewards?
• Ensure that you are specific about elements
  within reward categories?
• Use terms that have meaning for employees?

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Exercise 3 Interpret results

• Your survey produces these results. How would you
  explain these to the CEO?

Pay
Benefits
Perceived Value
Perceived Value
Supervision
Learning Development
Perceived Value
Perceived Value
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Exercise 4 Interpret the curve

• How much should you spend to reduce turnover?

50
45
40
Retention Increase
Turnover Savings
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Cost
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Predicted Retention Increase
10 20 30 40 45
12.3 mil 24.6 36.9 49.2 55.4
25
20
15
10
5
0
0
(30)
(20)
(10)
10
20
30
40
50
60
70
80
90
100
110
120
130
140
Added Total Rewards Cost (mm)
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QA