Compensation and Pay for Performance

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Chapter 9: Managing Compensation: 9.2a Linking Compensation to Organizational Objectives Book Title: Managing Human Resources Printed By: Cedric Turner ([email protected]) © 2016 Cengage Learning, Cengage Learning

9.2a Linking Compensation to Organizational Objectives

The financial crisis of 2007–2010 changed the landscape for compensation. Now shareholders, the government, and the public all heavily scrutinize companies for how much they pay their people. For example, due to complaints of bloated federal government salaries, exorbitant Wall Street banker bonuses, and overly generous autoworker benefits, managers are trying to ensure that their compensation plans are in strict alignment with the organization’s objectives.

In particular, a Bloomberg National Poll showed that more than 70 percent of Americans thought big bonuses should be banned for Wall Street companies that took taxpayer bailouts. A law aimed at giving shareholders more of a say in the compensation of bankers was passed in July 2010. Wall Street banks are now much more careful to reward employees only when they perform in line with organizational objectives. Furthermore, American President Obama enacted a three-year (2011–2013) freeze on federal salaries to help the government achieve its objectives of reducing the deficit. President Obama stated that “[the freeze] would save…$28 billion in cumulative savings over the next five years.”

Finally, due in part to poor strategic decisions, General Motors (GM) experienced high pension, wage, and benefit costs that the company could not sustain in the financial crisis. As a result, GM ended up laying off more than 107,000 employees during the financial crisis. While the United Autoworker Union (UAW) was partly to blame for its lack of flexibility in adjusting salary and benefit plans, GM managers were also guilty for not aligning compensation with organizational objectives to compete with foreign automakers.

The new compensation landscape requires that managers be more strategic about their compensation decisions. Managers must first and foremost understand the strategic objectives of the organization in relation to the industry in which it operates. Next, they need to move away from paying for a specific position or job title to rewarding employees on the basis of their individual competencies or work contributions to these organizational objectives. In fact, a sample of Fortune 500 companies headquartered in America, Europe, and Asia showed that pay for performance that is linked to organizational objectives is a primary component of most compensation systems. Another study showed that 91 percent of participating companies link their pay strategy with organizational performance. The study found that a written compensation plan indicates that senior management understands and is committed to aligning their business strategy with pay, suggesting the alignment of pay with organizational objectives can positively impact company performance.

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GM’s failure to align compensation with the company’s objectives is partly to blame for its massive layoffs in recent years.

Jim West/Alamy

Increasingly, compensation specialists are asking which components of the compensation package (benefits, base pay, incentives, etc.), both separately and in combination, create value for the organization and its employees. Managers are asking questions such as: “How will this pay program help to retain and motivate valued employees?” and “Does the benefit or pay practice affect the administrative cost?” Payments that fail to advance either the employee or the organization are removed from the compensation program. It is not uncommon for organizations to establish very specific goals for linking their organizational objectives to their compensation program. Formalized compensation goals serve as guidelines for managers to ensure that wage and benefit policies achieve their intended purpose. The more common goals of a strategic compensation policy include the following:

1. To reward employees’ past performances

2. To remain competitive in the labor market

3. To maintain salary equity among employees

4. To mesh employees’ future performances with organizational goals

5. To control the compensation budget

6. To attract new employees

7. To reduce unnecessary turnover

To achieve these goals, policies must be established to guide management in making decisions. Formal statements of compensation policies typically include the following:

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1. The rate of pay within the organization and whether it is to be above, below, or at the prevailing market rate

2. The ability of the pay program to gain employee acceptance while motivating employees to perform to the best of their abilities

3. The pay level at which employees may be recruited and the pay differential between new and more senior employees

4. The intervals at which pay raises are to be granted and the extent to which merit and/or seniority will influence the raises

5. The pay levels needed to facilitate the achievement of a sound financial position in relation to the products or services offered

Chapter 9: Managing Compensation: 9.2a Linking Compensation to Organizational Objectives Book Title: Managing Human Resources Printed By: Cedric Turner ([email protected]) © 2016 Cengage Learning, Cengage Learning

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