Compensation and Rewards

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Compensation and Rewards

• Business 158
• Spring Semester 2007
• Tim Brown

Session 2
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Agenda

• This week in compensation
• To this point in the course
• Strategic perspectives
• Break
• Internal alignment

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Strategic considerations

• Philosophies
• Entitlement orientation
• Performance orientation
• Design options
• Culture
• Market

• Decisions
• Person-based or Team-based
• Short-term or Long-term
• Product-based or Service-based
• Incentive mix

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Types of Employment Relationships
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Key Objectives in Reward Systems

• ATTRACT
• RETAIN
• MOTIVATE

• EFFICIENT
• FAIR
• COMPLIANT

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Learning Objectives (Chapter 2)

• Explain the idea of strategic perspective to
  compensation
• Identify five dimensions of a compensation
  strategy and how compensation strategy supports
  organization strategy
• Discuss four steps in developing a total comp
  strategy
• Describe three tests to determine if a pay
  strategy can be a source of competitive advantage
• Present key arguments related to two approaches
  best-fit and best-practice

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What is the strategic perspective?
The strategic perspective involves thinking about
how pay can assist in achieving organization
success, while not being fixated on pay techniques
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Strategic Brain Teasers

• Do you even need a strategy?
• Why bother?
• It worked fine for them
• What works here may not work there
• Is no strategy a strategy?
• Example chess game
• So what will this do for us?
• Be able to defend your position

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5 Dimensions of Strategy

• Objectives
• Internal alignment
• External alignment/competitiveness
• Employee contributions
• Management

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Strategic Perspectives Toward Total Compensation
Exhibit 2.1
Bristol - Myers Squibb
Firepond
Microsoft

• Support business mission and goals
• Develop global leaders at every level
• Reinforce team-based culture
• Reduce costs, increase productivity

• Demonstrate respect for individual talent and
  the limitless potential of a highly motivated
  team
• Encourage high standards, original thinking,
  passion for discovery and willingness to take
  risks
• Reward fresh ideas, hard work and commitment to
  excellence
• Value diverse perspectives as a key to discovery

• Support the business objectives
• Support recruiting, motivation, and retention of
  MS-caliber talent
• Preserve MS core values

Objectives

• Integral part of MS culture
• Support MS performance driven culture
• Business/technology-based organization design
  structure

• Pay differences that foster a collegial
  atmosphere
• Reinforce high expectations

• Flexibility for development and growth
• Reflect responsibilities, required competencies,
  and business impact

Internal Alignment
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Strategic Perspectives Toward Total Compensation
Firepond
Microsoft
Bristol - Myers Squibb

• Compare favorably to high-performing competitor
• Cash between the 50th and 75th percentile

• Lead in total comp
• Lag in base pay
• Lead in bonuses, stock

• Demonstrate respect for individual talent and
  the limitless potential of a highly motivated team

External

• Bonus pool based on Firepond financial
  performance. Individual share of pool based on
  individual performance.
• Push stock ownership deep into company

• Support high performance, leadership culture
• Team-based increases
• Options align employee and shareholder interest
• Tailor to business and team results

• Bonuses and options based on individual
  performance

Internal Alignment

• Open, transparent communications
• Centralized administration
• Software supported

• Performance and leadership
  feedback everyone is a leader
• Administrative ease

• Goal-focused
• team-oriented
• self-managed

Mgmt
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Strategic Alignment
VISION/MISSION CORE BELIEFS OBJECTIVES BUSINESS
STRATEGY

COMPENSATIONSYSTEM
PERFORMANCE
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Exhibit 2.2 Strategic Choices
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Generic Business-level Strategies

• Innovator
• Cost Cutter
• Customer Focused

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Tailor the Compensation System to the Strategy
Business Response
HR Program Alignment
Compensation System
Strategy

• Reward Innovation in Products and Processes
• Market-Based Pay
• Flexible Generic Job Descriptions

Innovator Increase Product Complexity and
Shorten Product Life Cycle

• Product Leader
• Shift to Mass Customization and Innovation
• Cycle Time

• Committed to Agile, Risk Taking, Innovative
  People

• Focus on Labor Costs
• Increase incentives
• Productivity focus
• System focus on control and work specifications

• Do More With Less

• Operational Excellence
• Pursue Cost-effective Solutions

Cost Cutter Focus on Efficiency

• Customer Satisfaction Incentives
• Value of Job and Skills Based on Customer Contact

Customer Focused Increase Customer Expectations

• Customer Intimacy
• Deliver Solutions to Customers
• Speed to Market

• Delight Customer, Exceed Expectations

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Example The Strategic Compensation Decisions
Facing Starbucks

• Objectives How should compensation support
  business strategy and be adaptive to the cultural
  and regulatory environment?
• Starbucks Objectives
• Grow by making employees feel valued.
• Recognize that every dollar earned passes through
  employees hands.
• Use pay, benefits, and opportunities for personal
  development to help gain employee loyalty and
  become difficult to imitate.

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Example The Strategic Compensation Decisions
Facing Starbucks (cont.)

• Alignment How differently should the various
  types and levels of skills be paid within the
  organization?
• Starbucks Approach
• De-emphasize differences.
• Use egalitarian pay structures, cross-train
  employees to handle many jobs, and call employees
  partners.

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Example The Strategic Compensation Decisions
Facing Starbucks (cont.)

• Competitiveness How should total compensation be
  positioned against our competitors? What forms of
  compensation should we use?
• Starbucks Approach
• Pay just slightly above other fast-food
  employers.
• Provide health insurance and stock options for
  all employees (including part-timers).
• Give everyone a free pound of coffee every week.

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Example The Strategic Compensation Decisions
Facing Starbucks (cont.)

• Contributions Should pay increases be based on
  individual and/or team performance, on experience
  and/or continuous learning, on improved skills,
  on changes in cost of living, on personal needs,
  and/or on each business units performance?
• Starbucks Approach
• Emphasize team performance and shareholder
  returns.
• For new managers in Beijing and Prague, provide
  training opportunities in the U.S.

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Example The Strategic Compensation Decisions
Facing Starbucks (cont.)

• Management How open and transparent should pay
  decisions be to all employees? Who should be
  involved in designing and managing the system?
• Starbucks Approach
• As members of the Starbucks family, our
  employees realize what is best for them.
• Partners can and do get involved.

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4 Steps in Strategy Development

• Assess
• Strategic map
• Implement
• Reassess

Whats valuable in strategy development works for
projects, too

• Discover
• Develop
• Deploy
• Debrief

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Key Steps to Formulating Compensation Strategy
Exhibit 2.5

• 1. Assess Total Compensation Implications
• Competitive Dynamics
• Core Culture / Values
• Social and Political Context
• Employee / Union Needs
• Other HR Systems

2. Fit Policy Decisions to Strategy Objectives
Contributions Alignment
Administration Competitiveness

• 4. Reassess the Fit
• Realign as Conditions Change
• Realign as Strategy Changes

• 3. Implement Strategy
• Design System to Translate Strategy
• into Action
• Choose Techniques to Fit Strategy

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Step 1 Assess Implications

• Before any new compensation program is
  designed, there must be a clear understanding of
  the implications

• Competitive dynamics
• Culture/values
• Social and political context
• Employee needs
• Customization and flexibility

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Step 1 Assess Total Compensation Implications
(cont.)

• Competitive dynamics
• Customer needs
• Competitors actions
• Labor market conditions
• Regulations
• Global environment
• Culture/values
• A pay system reflects values guiding an
  employers behaviors and treatment of employees

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Step 1 Assess Total Compensation Implications
(cont.)

• Social and political context
• Legal and regulatory requirements
• Cultural differences
• Changing work force demographics
• Employee values and expectations

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Step 1 Assess Total Compensation Implications
(cont.)

• Employee needs
• Contemporary pay systems
• Flexible compensation systems
• Nature of employee-mgmt relationship
• Informal opinion leaders
• Union representations

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Step 1 Assess Total Compensation Implications
(cont.)

• Role of pay in overall HR strategy
• Supporting player
• Agent of change

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3 Tests for Strategic Advantage

• Is it aligned?
• Does it differentiate?
• Does it add value?

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2 Approaches Contrasted

• Best fit
• Do what works in a specific situation
• Best practice
• Do what works best in other places

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Best Fit vs. Best Practices

• Best Fit
• Reflects companys strategy and values
• Responsive to employees needs
• Globally competitive
• Provides company some competitive advantage

• Best Practices
• Assumes a set of best-pay practices exists
• Practices can be applied universally across all
  situations

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Best-Practices Options

• The New Pay
• External market-sensitive-based pay, not internal
  alignment
• Variable performance-based pay, not annual
  increases
• Risk-sharing partnership, not entitlement
• Flexible opportunities to contribute, not jobs
• Lateral promotions, not career path
• Employability, not job security
• Teams, not individual contributors

• Exhibit 2.11

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Best-Practices Options

• High Commitment
• High wages
• get what you pay for
• Employment security
• Apply incentives
• share gains, not risks
• Employee ownership
• Participation/Empowerment
• Stress team over individual

• Reduce pay differences
• Promote from within
• Selective recruiting
• Enterprise-wide info sharing
• Training, cross-training, and skill development
• Egalitarianism adds value
• Stress Long-term perspective
• Emphasize measurement

• Exhibit 2.11

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So What Matters More -Best Practices or Best Fit?

• Some research supports the best practices
  approach
• Some research supports the best fit approach

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BREAK

• 15 minute break

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Exhibit 1.5 THE PAY MODEL

• EFFICIENCY
• Performance
• Quality
• Customers
• Stockholders
• Costs
• FAIRNESS
• COMPLIANCE

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Learning Objectives (Chapter 3)

• Explain why internal alignment is an important
  policy issue and how to evaluate internal
  alignment
• Discuss three key factors that define internal
  pay structures
• Describe how external and organization factors
  shape the design of pay structures
• Discuss the pros and cons of egalitarian and
  hierarchical structures and how they relate to an
  organizations strategy
• Describe the key effects associated with an
  internally aligned pay structure

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Topics

• Internal Alignment
• How Structures Vary Among Organizations
• Internal Structures and Work Environment
• Strategic Choices in Designing Internal
  Structures
• Contributions from Structures

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Key Issues

• Two basic questions lie at the core of
  compensation management . . .
• How is pay determined for the wide variety of
  work performed in organizations?
• Does how much an organization pay for different
  work make a difference?

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What Is Internal Alignment?
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Internal Alignment Matters

• The relationships formed in a pay structure
  should
• support the organization strategy,
• support the workflow,
• be fair to employees, and
• motivate behavior
• toward organization objectives.

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What Is Pay Structure?
Refers to the array of pay rates for different
work or skills within a single organization. The
number of levels, differentials in pay between
the levels, and the criteria used to determine
those differences create the structure.
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Internal Alignment

• Fairness Issues
• Procedural justice
• Process by which a decision is reached
• Distributive justice
• Results/outcomes of the process
• Pay procedures more likely to be viewed as fair
  if . . .
• They are consistently applied to all employees
• Employee participation/representation is allowed
• An appeals procedure is available
• Data used are accurate

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Structures Vary

• An internal pay structure is defined by
• Number of levels of work
• Pay differentials between levels
• Criteria used to determine levels and
  differentials
• Content - Work performed in a job and how it gets
  done
• Value - Worth of the work its relative
  contribution to objectives
• Job- and person-based structures

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Structures Vary Examples

• Number of levels of work
• Exhibit 3.1 Engineering Structure at Lockheed
• Exhibit 3.2 Managerial/Professional Levels at
  General Electric Plastics (GEP)
• Pay differentials between levels
• Exhibit 3.3 Engineering Pay Structure at
  Lockheed Martin
• Criteria
• Job-based - Exhibit 3.1
• Person-based - Exhibit 3.2

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Exhibit 3.2 Managerial/Professional Levels at
General Electric Plastics
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Exhibit 3.3 Engineering Pay Structureat
Lockheed Martin
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Exhibit 3.4 What Shapes Internal Structures?
EXTERNAL FACTORS Economic pressures Government
policies, laws, regulations Stakeholders Cultures
and customs
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Exhibit 3.5 Illustration of anInternal Labor
Market
Consultant Engineer
Dual Career Ladders
Hire
Advisor Engineer
Lead Engineer
Systems Engineer
Senior Engineer
Hire
Engineer
Hire
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Strategic Choices in DesigningInternal Structures
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Exhibit 3.6 Strategic ChoiceHierarchical
versus Egalitarian
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Exhibit 3.7 Structural Impact on Performance
and Fairness

• Structure B
• De-layered
• Chief Engineer
• Consulting Engineer
• Associate Engineer

• Structure A
• Layered
• Chief Engineer
• Engineering Manager
• Consulting Engineer
• Senior Lead Engineer
• Lead Engineer
• Senior Engineer
• Engineer
• Engineer Trainee

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Perceived Equity of a Pay Structure
MY PAY My qualifications My work performed My
product value
OTHERS PAY Their qualifications Their work
performed Their product value
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Exhibit 3.8 Some Consequences of anInternally
Aligned Structure
Undertake training Increase experience Reduce
turnover Facilitate career progression Facilitate
performance Reduce pay-related grievances Reduce
pay-related work stoppages
Pay structure
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Which Structure Fits Best?

• More hierarchical structures are related to
  greater performance when the work flow depends
  more on individual contributors
• More egalitarian structures are related to
  greater performance when collaboration and
  sharing of knowledge are required
• Structures not aligned with the work flow appear
  to be related to greater turnover

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Consequences of Structures
Efficiency Competitive Advantage
Fairness
Compliance