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Compensation Insights

Choose the Right Compensation Approach

Compensation Planning Insights Part 2

choose the right compensation approachIn the previous Compensation Planning Insights post, I outlined why it’s important for senior leadership to articulate the company’s business strategy before compensation and reward systems are designed. Once compensation professionals are on board with the business strategy, the next step is to design systems. This is where many companies seem to be persuaded that popular and trendy approaches are better than less glamorous but often more effective approaches.

Does it make sense to change the compensation system to a broad-band approach, use team incentives, or link financial goals to external measures? Each one of these plan designs have a great following in the business press, but do they make sense for your company?

For example, a precision optics manufacturer may need to move slowly before changing job specifications to fit a new compensation approach because of the specialized nature of the work. For a heat transfer equipment manufacturer, however, it may be easier to modify pay without affecting product quality. In either case, the job structure must meet the needs of the company's product and services cycle and the compensation system must support the company's strategic objectives.

The need for care in changing compensation approaches became clear to one company that used earnings per share (EPS) as the primary financial performance measure in its short  and long term incentive plans. Although EPS was easy to communicate to both internal and external audiences, existing accounting procedures made it difficult to maintain enthusiasm among individuals working in business units with operating problems. Only after each business unit had its own operating performance indicators under a short term incentive plan was the company able to rejuvenate itself.

As this company's experience suggests, choosing the right compensation approach is a matter of determining what a given employee or group of employees can control and what impact their performance has on overall company success. Such an understanding enables the compensation professional to develop a list of potential goals and objectives that can be rewarded, and associated reward levels.

Another example: Senior leadership of a financial product company shifted its strategic focus from growth via new customer acquisition to a strategy focused on selling more to existing clients and in current geographic areas. This shift required a change from cold selling to improved account management and product enhancement. This, in turn, required sales management and marketing to listen more closely and respond more carefully to existing customers.

The company did not neglect the cold call selling, but now balanced it with this new approach. As a result of this shift, recruiting emphasized customer servicing skills and the organization emphasized team work and coordination. There was also a shift in pay practices from rewarding only new dollar sales to a balance of rewards for retention sales, account management, service quality, and new sales both inside and outside of the current customer base.

Extending Variable Pay

The process also requires determining what level of pay should be at risk. With various incentive types percolating down through many organizations, limiting at-risk pay to the executive levels may no longer make sense.

For example, the now deregulated utility industry is facing increased competition and struggling to increase margins to sustain competitive shareholder return rates. Many utilities are therefore extending variable pay practices deep into the organization to focus employee attention on operating margins, return on investment, cash flow, and customer service.

One utility went a step further by holding base salaries at the competitive market level, using lump sum merit increases for salaries above the competitive level, and making all employees eligible for variable pay. The variable pay was conditioned on achieving a certain level of shareholder returns before any incentive payouts would be made. In other words, only after the shareholder was taken care of would each business unit receive incentive monies to reward individuals for achieving corporate and business unit goals. As a result of this approach, communications about what is important to the organization's success have improved and people are speaking the same language of success.

The process also includes assessing how existing compensation programs reward employees and the performance and behaviors they reward. After all, just because the company's strategy changes does not mean that existing reward programs must completely change. Reward programs often simply need updating to accommodate the company’s new goals, objectives and direction.

For instance, one apparel company simply had to tweak its reward programs by paying more attention to its communication program. The company already had variable pay and reliable measurements. But the employees who were supposed to be enjoying the fruits of their labor did not have a clear understanding of how it all made sense. The company embarked on a revised and sustained communication program aimed at all employees.

Next post: Reviewing Plan and Strategy Alignment 



Tags: compensation, employee compensation, compensation plan, compensation planning insights, designing compensation systems