Every business runs on the ‘Four M's’ — materials, machines, men, and money. The first two, while crucial for business, wouldn't be much use without men. And the time-tested way to get your people to perform is with the last M —money. To combine and unlock the true potential of men and money, every organization needs an effective compensation plan.
In this article, we'll explore compensation plans, best practices, and how a well-structured pay strategy can boost performance throughout your organization.
Compensation Plans Defined
Before exploring what a compensation plan is, it's important to clearly define what is meant by ‘compensation’.
Long story short — compensation refers to the benefits or incentives that employees of an organization get in exchange for their efforts.
Long story longer — while there is a common belief that salary and compensation are synonymous, compensation includes much more than monetary benefits provided by an employer. "Compensation is all forms of financial returns and tangible services and benefits employees receive as a part of an employment relationship," says Milkowitch and Newman.
So, what are compensation plans?
A compensation plan, also known as a ‘total compensation plan’, includes all of the compensation components of a company's strategy - wages, salaries, perks, and the overall conditions of payment.
Employee compensation plans also include pay raise schedules, any fringe benefits, and any union privileges or vendor discounts supplied by the firm.
There are two sides to why an effective compensation plan is important:
First, compensation (including salary, but not limited to) is considered one of the most important factors when choosing a job. That’s why companies require a well-thought-out compensation plan to remain competitive in their industry and to recruit and retain top talent.
Second, running a workforce without a well-thought-out budget is akin to playing with fire. Sooner or later, unforeseen circumstances will arise and your organization will get financially burnt. Compensation schemes enable budgeting and planning to be consistent and predictable.
Designing Compensation Plans
While the exact way to design your company's compensation plan may differ, a general process can look something like this:
- Create an outline: What are your objectives? Your targets? Do you have a budget, and are your job descriptions accurate?
- Determine your compensation philosophy: Will you offer high direct compensation(salaries) or offer more modest pays with excellent benefits? How competitive do you want to be with the market?
- Rank jobs and place them on tiers: Not all jobs are created equally. Rank yours and place them into tiers for the sake of comparison.
- Develop seniority grades: This allows career advancement and is vital in job selection.
- Determine salaries: Assign pay rates for each job description and level.
- Fill in related policies: Your plan should also include pay-related policies and fringe benefits like healthcare and holidays.
- Create a communication plan: Planning is half the challenge. Think about how you will communicate the new plan to your employees. Consider using several methods of communication.
Remember that compensation plans are always designed to streamline business activities, not hinder them. In other words, the plan must be set to reflect business goals, employee expectations, and other factors - the design must never go ‘against the grain’.
4 Hacks for Better Compensation Plans
We've said this before — there is no one-size-fits-all, carpet-bombing approach to creating compensation plans. However, the following tips may help flesh out your organization’s plan.
Direct and Indirect Compensation
All successful compensation plans pay attention to both direct and indirect compensation methods. All types of compensation are important for talent attraction and retention. Make sure your compensation plans cast a wide net when selecting what to include.
In recent years, there has been a considerable focus on the creation of compensation systems that go beyond monetary compensation. Fringe benefits include employee benefits like paid leave, flexible hours, medical care, accident relief, health and group insurance, food, uniform, and recreation.
The Power of Allowances
Allowances are paid in addition to basic pay. There are various types of allowances:
- Dearness allowance
- Travel allowance
- Fuel allowance
- Rent allowance
These have a high impact on talent attraction and retention and a comprehensive suite of allowances may be the difference between keeping and losing top talent.
Pay-for-performance (P4P) has recently become increasingly popular among management and professional staff, particularly executive management and senior managers. Most employees are motivated primarily by money. The opportunity to make more money by performing more is extremely enticing and acts as a sure-fire way to boost performance.
Pay-for-Performance - what you've just read about - happens to be a seismic trend in the world of compensation. More companies are adopting it by the day. Your organization may stand to benefit from it, too.
If you're interested in learning the ins and outs of Compensation Design and Pay-for-Performance, check out our upcoming masterclass.
You'll get to learn from an industry expert and network with peers from around the world.
Click here to read more about the Compensation Design and Pay-for-Performance Virtual Masterclass.