chapter 12 recognizing employee contributions with pay mcgraw-hill/irwin copyright © 2013 by the...
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Chapter 12Recognizing Employee Contributions with Pay
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Human Resource Management:Gaining a Competitive Advantage
Learning Objectives
Discuss how pay influences individual employees.
Describe three theories that explain compensation’s effect on individuals.
Describe pay programs for recognizing employees’ contributions to the organization’s success.
List pay programs’ advantages and disadvantages.
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Learning Objectives
Describe how organizations combine incentive plans in a balanced scorecard.
Discuss issues related to executives’ performance-based pay.
Explain importance of process issues such as communication in compensation management.
List major factors in matching pay strategy to organization’s strategy.
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IntroductionOrganizations have discretion in
deciding how to pay.
Each employee’s pay is based upon individual performance, profits, seniority, or other factors.
Regardless of cost differences, different pay programs can have different consequences for productivity and return on investment.
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Pay Influences Individual Employees
3 Theories Explain Compensation’s Effects:
ReinforcementTheory
AgencyTheory
ExpectancyTheory
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How Pay Influences Individual Employees
Reinforcement Theory – a response followed by a reward is more likely to recur in the future.
Expectancy Theory - motivation is a function of valence (utility, personal value of reward), instrumentality (perceived link between performance and pay) and expectancy (link between effort and performance).It has been argued that monetary rewards may
increase extrinsic motivation while decreasing intrinsic motivation.
Agency Theory- interests of principals (owners) and their agents (managers) may no longer converge. 12-6
Agency CostsAgency Costs can arise from goal incongruence
between agents and principles and from information asymmetry with regard to what goals the agent is pursuing
Agency costs may be minimized by principal choosing a contracting scheme that aligns agent’s interests with principal's interests.
Issues:1. Managers (agents) may not be focused on
maximizing shareholder (principal) wealth.2. Managers may be more risk adverse that
principals to protedt their income3. Decision making horizons may differ (long term
vs. short term) Outcome oriented contracts focus on
results, behavior based contracts focus on actions
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Agency Costs6 Factors that Influence Type of Contract:
1. risk aversion – preference towards behavior based compensation
2. outcome uncertainty – variables in compensation beyond agent’s control
3. job programmability – portion of job that is based upon routine, predictable portion of job
4. measurable job outcomes – may be difficult to specify
5. ability to pay – easier to fulfill with outcome oriented contracts
6. Tradition – what has been used in the past
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Programs Recognizing Contributions
Programs differ by payment method, payout frequency and ways of measuring performance.
Potential consequences include employees’ performance motivation and attraction, culture and costs.
Management style and type of work influence whether a pay program fits the situation.
Merit Pay Incentive Pay
GainSharing
Ownership
ProfitSharing
Skill-based
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Merit Pay
Merit pay programs link performance-appraisal ratings to annual pay increases.
A merit increase grid combines an employee’s performance rating with employee’s position in a pay range to determine size and frequency of his or her pay increases.
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Merit Pay
Some organizations provide guidelines regarding percentage of employees who should fall into each performance category.
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Merit Pay
Edward W. Deming, a critic of merit pay, argued that it is unfair to rate individual performance because "apparent differences between people arise almost entirely from the system that they work in, not the people themselves.”
Criticisms of merit pay include: Focus on merit pay discourages teamwork. Measurement of performance is done unfairly and
inaccurately. Merit pay may not really exist.
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Individual Incentives
Individual incentives reward individual performance but payments are not rolled into base pay and performance is usually measured as physical output rather than by subjective ratings (ex. – piecework).
Individual incentives are rare because: Most jobs have no physical output measure. Many potential administrative problems. Employees may do what they get paid for and nothing
else. Typically do not fit in with team approach. May be inconsistent with organizational goals. Some incentive plans reward output at the expense of
quality or customer service.
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Profit Sharing
Under profit sharing, payments are based on a measure of organization performance (profits), and payments do not become a part of base pay. Advantage-profit sharing may encourage employees
to think more like owners. Disadvantage-workers may perceive their
performance has less to do with profit than top management decisions over which they have little control.
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Ownership
Ownership encourages employees to focus on organization’s success, but may be less motivational the larger the organization.
One method to achieve employee ownership is through stock options, which give employees the opportunity to buy company stock at a previously fixed price.
Employee stock ownership plans (ESOPs) give employers certain tax and financial advantages when stock is granted to employees.ESOPs can carry significant risk for employees.
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Gainsharing
Gainsharing programs offer a means of sharing productivity gains with employees and are based on group or plant performance that does not become part of the employee’s base salary.
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Sample Modified Scanlon Gainsharing Plan
Employee Involvement Plans
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9 Conditions for Effective Gainsharing
1. management commitment2. need to change or commitment to continuous
improvement 3. management's acceptance and encouragement
of employee input4. high cooperation and interaction5. employment security6. information sharing on productivity and costs7. goal setting8. Commitment of all involved to the process9. agreement on a performance standard and
calculation that is understandable, seen as fair, and closely related to managerial objectives
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Group Incentives and Team Awards
Group incentives measure performace in terms of physical output.
Team award plans may use a broader range of performance measures.
Individual competition may be replaced by competition between groups or teams.
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Balanced Scorecard
Some companies design a mix of pay programs.
4 Categories of a Balanced Scorecard:1. financial2. customer3. internal4. learning and growth
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Sample Balanced Scorecard
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Managerial and Executive PayTop managers and executives are a
strategically important group whose compensation warrants special attention.
Some companies' rewards for executives are high regardless of profitability or stock market performance.
Executive pay can be linked to organizational performance (agency theory).
Increased pressure from regulators and shareholders to better link pay and performance.Securities and Exchange Commission (SEC)
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Process and Context Issues 3 issues represent areas of significant company
discretion and pose opportunities to compete effectively:
Employee Participationin Decision Making
CommunicationPay&Process:
Intertwined Effects
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Matching Pay & Organization Strategy
Pay Strategy DimensionsRisk sharing (variable pay)Time orientationPay level (short-run)Pay level (long-run potential)Benefits levelCentralization of pay decisionsPay unit of analysis
ConcentrationLowShort-termAbove marketBelow marketAbove marketCentralizedJob
GrowthHighLong-termBelow marketAbove marketBelow marketDecentralizedSkills
Organization Strategy
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Summary There are potential advantages and disadvantages of
different types of incentive or pay for performance plans.
Pay plans can have both intended and unintended consequences.
Designing a pay for performance strategy typically seeks to balance the pros and cons of different plans and reduce the chance of unintended consequences.
Pay strategy will depend on the particular goals and strategy of the organization and its units.
Many organizations are working to link pay to performance and reduce fixed labor costs, although sometimes executives appear slow to reduce what are supposed to be performance-based bonuses when firm performance declines.
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