Week 10: Compensation & Benefits

1. Week 10: Compensation & Benefits Agenda for Today • Discuss reasons why pay sometimes motivates and sometimes it does not • Discuss Pay-for-performance plans from individual, group and corporate perspectives • Discuss major approaches to making compensation decisions • In-class exercise: Ethical Compensation Dilemmas

2. Compensation and Rewards • Extrinsic Rewards • Monetary • Wage and salary • Commissions and bonuses • Benefits • Intrinsic Rewards • Recognition, promotion opportunities, working conditions, nature of work

3. Objectives of Good Compensation • Attract Good Applicants • Market competitiveness • Wage surveys • External equity • Retain Good Employees • External and internal equity • Procedural Justice: perceived fairness of the process and procedures used to make decisions about employees • Distributive Justice: Perceived fairness in the distribution of outcomes • Job evaluation • Motivate Employees??

4. Does Pay Motivate?? YES! • Reinforcement Theory • Pay is positive reinforcement • Expectancy Theory • Motivation: Expectancy * Instrumentality * Valence (E*I*V) • High Effort High Perf. (Expectancy link) • High Perf.Valued Monetary Rewards (Instrumentality link) • Valued Monetary RewardsPay Satisfaction (Valence Link) • Equity Theory • Social comparison of inputs and outputs • If paid less for same or more effort = less effort • Actions to restore equity

5. Does Pay Motivate?? NO! • Maslow’s Need Hierarchy Theory • Pay is lower-order need, once it is satisfied it no longer motivates, move on to higher order needs • Herzberg’s Two-Factor Theory • Motivators and Hygiene factors • Pay is Hygiene Factor – presence will not motivate • Motivation comes from presence of motivators (recognition, job enrichment) • Deci’s Theory of Intrinsic Motivation • Intrinsic rewards are gained from certain activities • Extrinsic rewards decrease intrinsic motivation

6. Does Pay Motivate?? COMPROMISE • Individual differences in response to pay as a motivator • Need pay, but don’t rely on it as a sole motivator • Pay loses potency over time • Establish clear performance-reward contingencies • Good performance appraisal system; feedback • Make sure employees have skills, abilities, and resources needed to do the job (selection; training, development) • Ensure Equity (perceived and actual) • Money is not for everyone: determine individual reinforcers (reinforcement buffet)

7. Major Issues in Compensation: Overview • Pay-for-Performance • Fixed vs. variable Pay • Performance vs. Membership • Job vs. Individual Pay • Open vs. Secret Pay Policy • Egalitarianism vs. Elitism • Monetary vs. Nonmonetary Rewards • Below-Market vs. Above Market Compensation • Centralizations vs. Decentralization of Pay Decisions

8. Pay-for-Performance • Incentive system that rewards employee performance • Performance rather than entitlement orientation • Assumptions: • Individuals and teams differ in their contributions to firm • Performance based pay will affect attraction, retention, and motivation of high-performing employees • Assumes that performance appraisals are done well

9. Pay-for-Performance – Advantages & Disadvantages • Advantages: • Merit based • Based on objective rather than subjective criteria • Disadvantages: • “Do only what you get paid for” syndrome • Employee focus on rewarded measures of job & ignore other important aspects of work (e.g., quality or service) • Possibly manipulate the system • Negative effects on cooperation: increases competition • Lack of control over factors affecting performance • Performance of other group members, job support, materials • Leads to job dissatisfaction and stress • Difficulties in measuring performance (individual and team) • Encourages short-term orientation (performance over a year) • Psychological contracts may be broken when system changed • Lack of confidence in the system (“is it really fair?”)

10. How to Establish Effective Pay-for-Performance Incentive Systems • Determine if it is appropriate for the job • Is it piece rate? -- absolutely • Other knowledge-based work? What is the product? • Reinforce with other HR systems • E.g., performance appraisals, selection, employee training • Build Employee Trust • Does it pay for me to work harder? • Does anyone notice extra efforts? • Promote belief that performance makes a difference • Use multiple layers of rewards (individual and team) • Involve employees in design of play plan • Complement with non-financial rewards

11. Pay-for Performance (P-F-P) Plans : Individual • Examples: merit pay, piece-rate, commissions, bonuses • Advantages: • Helps achieve individual equity • Ties with expectancy theory, goal theory, reinforcement theory • Fit in well with individualistic cultures • Disadvantages: • Creates competition and destroys cooperation among peers • General pitfalls of P-F-P plans most evident at individual level • Conditions under which most likely to succeed: • When contributions of individual employees can be accurately isolated • When job demands autonomy • When cooperation is less critical; competition is encouraged

12. Pay-for-Performance Plans: Team Incentives • Advantages: • Fosters group cohesiveness • Reflects current work performance more realistically: more effective measurement tool • Disadvantages: • Lack of fit with individualistic corporate cultures • Free-riders • Social pressures to limit performance • Difficulties in identifying meaningful groups • Intergroup competition leading to a decline in overall perf. • Conditions under which most likely to succeed: • When high task interdependence within group • When there are independent tasks between groups • When objective is to foster self-managed work groups

13. Pay-for-Performance Plans: Organizational • Examples: gainsharing, profit-sharing, ESOP • Advantages: • Increases employee commitment; promotes employee ownership • Provides financial flexibility for firm (cost is automatically adjusted downward during economic downturn) • Tax advantages to the firm • Disadvantages: • Profits vary from year to year – employees financial well-being may be at considerable risk • Payoff removed from employee efforts • Stock risks – long-run financial difficulties • Conditions under which most likely to succeed: • Large corporations with interdependent business units (difficult to target contributions of individual business units) • Along with other individual and team incentive programs

14. Job vs. Individual Pay • Knowledge-based or skill-based pay: employees paid on the basis of jobs they can do • Base level of pay increased with ability to do other jobs • Employees move from job to job as needed • Advantages: • Increases staffing flexibility • Reduces costs of turnover and absenteeism • Motivational effects: job rotation • Disadvantages: • Loss of labor specialization • Greater difficulty in selecting applicants because qualifications are less specific • Workplace chaos if not managed properly

15. Job vs. Individual Pay (contd.) • Knowledge-based systems work best when: • There are limited opportunities for upward mobility • There is high change in technology and organizational structure • The workforce is educated and has the ability and willingness to learn new jobs • Teamwork and participation is stressed • There are opportunities to learn new skills • There are high costs associated with absenteeism and turnover

16. Open vs. Secret Pay Policy • Advantages to Open Pay Policy: • When compensation is secret, people believe they are more underpaid than they really are • Forces managers to be more fair and effective in administering compensation • Bad decisions cannot be hidden • Good decisions motivate others • Disadvantages: • Managers forced to defend decisions publicly • May give everyone the same raise to avoid conflict; demotivates high performers • Pay becomes political – unleashes jealousy, conflict • Use Open Pay Policy: • Egalitarian culture with employee involvement • Cultures with trust and commitment

17. Elitism vs. Egalitarianism • Egalitarianism: employees under the same compensation system (i.e., all employees eligible for stock options) • Reduces barriers between employees • Allows reassignment of employee to different area without changing compensation package • More common in highly competitive environment • Elitism: different compensation systems for different groups • Increases stability; have to stay in organization and move up through the ranks to get stock options • More common in older, well- established firms with mature products

18. Other Compensation Questions • Monetary vs. Nonmonetary Rewards? • Non-monetary rewards: interesting work, job security, work sabbaticals, flexible work, benefits, overseas transfers, extensive training and development • Use combination; contingent upon employee, position, company orientation and culture • Below Market vs. Above Market Compensation? • Depends on labor market, position, technology, geographical location • Implications for turnover, organizational commitment, getting and keeping top performers • Pay Decisions Centralized vs. Decentralized? • Centralizations may be cost-effective; hire compensation specialist • Centralization increases internal equity, but may be less in touch with external market • Decentralization better in large and diverse organizations