Definition of Compensation, Designing a Compensation System - Coursework Example

Compensation Management Inasmuch as the greatest asset an organization could have is its human resource, the issue of attracting, retaining and motivating “the brains and the brawns of organization” is understandably very crucial. It is the workers that keep things up, running and working; and, it is the compensation package that the organization has for them that keeps them optimally functioning. Compensation defined Very broadly, compensation is any reward or payment for performance of service. Usually, it is – but not limited to – direct or indirect financial rewards. Operationally, however, compensation means different things for at least the employer and the employee. An employer normally understands compensation as the package of monetary rewards – e.g., wages, salaries, commissions, bonuses, insurance and other sort of indirect financial benefits – than employees receive in exchange for their services. An employee, for his part, normally understands compensation more narrowly – i.e., it is the wage or salary in exchange for their services (see Caruth & Handlogten 2001, pp. 1). For the purpose of this paper, a working definition of compensation is going to be had. From here on, it is going to refer to the total reward package an organization offers to its employees. By total reward package, it is meant to encompass tangible or intangible, monetary and non-monetary, physical and psychological rewards or payments that an organization provides its employees in exchange for the work or service that they do (Caruth & Handlogten 2001, pp. 1). Concretely, it includes all forms of monetary reward, perquisites, non-cash rewards, services and in-kind payment. It should even incorporate job security, according to Gelinas (2005). More technically, total reward package is known as total compensation. It has three basic elements: the base pay, which is also called salary; the incentive pay, which is in the form of either cash or non-cash award such as share(s) of stock; and benefits, or non-financial awards. These three elements are also the constitutive stuff of the pay philosophy of any organization (Ojimba). Designing a compensation system Compensation system is the payment set up for the jobs in an organization. As it tells about everyone’s role and status in the organization, its importance essentially lies in its being a strong determinant of the employees’ value in the organization. As a matter of principle, then, there is a requirement that compensation system is perceived to be fair – which would happen when it is made to comprise of components that maintain internal and external equity (Kusumo 2008). Internal equity is the standard requiring employers to set wages for jobs in their organization that correspond to the internal value of each job (see Pynes 2004, pp. 230). In the concrete, it is about the question of whether employees in the same job or job class feel that the organization has distributed the pay such that better performers and more senior employees make more than less senior and poorer performers (Jones, Steffy & Bray 1991, pp. 374). Typically, positions that are more valuable in the organization receive higher wages. For, pay is proportionate to the individual employee’s qualifications and contributions to the organization (see Lee 2007). External equity deals about the general issue of market rates for jobs, and the particular issue of perceived fairness of pay relative to what other employers are paying for the same type of labor (O’Connell 1998, pp. 218; see Gomez-Mejia, Balkin & Cardy 2007). It involves market pricing analysis where organizations formulate their compensation strategies by assessing the competitors’ or industry standards (see Pynes 2004, pp. 230). Managers actually have two basic models in considering internal and external equities. These are the constructs of distributive justice and the labor market. The former holds that some employees compare their input/outcome ratio to that of employees in other firms; however, most would compare their ratios to those of their peers in the same organization (Gomez-Mejia, Balkin & Cardy 2007; cf. Solomon 1997, pp. 82; see also Maiese 2003). The latter maintain that the wage rate for any employment position is determined to a certain extent by the supply the labor viz. the demand of the labor in the marketplace. Hence, it would follow that fair wage is competitive wage or the “going rate” for the particular types of work (Gomez-Mejia, Balkin & Cardy 2007). In designing compensation system, one likewise needs to deliberate on whether employees would be given fixed or variable pay. Fixed pay involves predictable monthly paycheck, while variable pay fluctuates in accordance to some pre-established criterion. Fixed pay has less risk both for the employer and the employee; the higher the form of variable pay, the more risk sharing there is between the employer and the employee (Kusumo 2008; see Gomez-Mejia, Balkin & Cardy 2007). Linked to fixed and variable payments, another item to be decided on by one who designs a system for compensation is whether the emphasis is on performance by every employee or just the fact that one is a member of the organization. Also termed merit-pay, performance-contingent compensation may use piece-rate plans, commissions, and bonuses for perfect attendance – among others. On the other hand, membership-based compensation provides the same wage to every employee in a given job by the time – i.e., hours of work – and progression. Performance-based compensation is directly tied to doing a better job, innovation, productivity and profitability; membership-based is largely dependent on the culture and philosophy of the organization (Kusumo 2008; see Gomez-Mejia, Balkin & Cardy 2007). Still further, another concern that needs to be addressed is whether compensation is going to put the premium on particular job or on how much skill and knowledge brings to the job. Actually, as a system, neither of these two is better. It is the particular contexts within which these are to be used that determine their effectiveness. Job-based pay works very well with stable technology, more or less permanent or unchanging jobs, more training opportunities for employees to learn the job, low turnover, minimal withdrawal so that employees do not need to cover for one another frequently, standardized jobs within the industry, and assured promotions for employees over time (Kusumo 2008; see Gomez-Mejia, Balkin & Cardy 2007). For its part, individual-based pay is more preferred for these conditions: the firm has relatively educated (or at least willing to learn) workforce; the technology – and the organizational structure – of the company changes often; employee participation and teamwork are encouraged; there is limited promotional chances; there are opportunities to learn new skills; and turnover and absenteeism are the company very high cost (Kusumo 2008; see Gomez-Mejia, Balkin & Cardy 2007). The final criterion relative to compensation system design is the option between elitism and egalitarianism, which creates an impression of what it takes to be successful in the company and gives hint to the type of work valued by the managers. An elitist pay system consists of different compensation plans by organizational level and/or employee group. This pay structure results to a more stable workforce because promotion is mostly by seniority (Kusumo 2008; Gomez-Mejia, Balkin & Cardy 2007). On the other hand, an egalitarian pay system places most, if not all, of the employees under the same compensation plan. More common in highly competitive environments, egalitarian system of pay increases the possibilities of professional advancement and keeps the status related perks to the minimum (Kusumo 2008; Gomez-Mejia, Balkin & Cardy 2007). Job evaluation: key to achieving internal equity Having considered the criteria in the preceding relative to the design of fair compensation system, one is in the position now to consider how to achieve internal equity. Internal equity is possible through job evaluation, which involves conducting job analysis, writing job descriptions, determining job specifications, rating the worth of all jobs (using a predetermined system), setting and identifying compensable factors (such as education, work experience, skills, responsibility, etc.) and creating job hierarchies (Gomez-Mejia, Balkin & Cardy 2007). The manager has to identify and describe what is happening on the job, with each job carefully examined – listing down necessary tasks and actions, identifying skills and abilities, and establishing desirable behaviors for successful completion of the job. With this data, the jobs will then be compared among themselves and their relative worth determined. The results of this process will now be used to establish pay or wage grades (Lee 2007). Towards external equity To establish external equity, employers need to do market surveys with benchmark jobs and the establishment of a pay policy (Gomez-Mejia, Balkin & Cardy 2007). Wage surveys should seek information about employee benefits and the going on rates, among others (Lee 2007), in similar organizations in the same labor market. When data is collected, a simply analysis of it would involve a simple comparison of the on-going market rate and approximation of this rate within the organization’s own pay structure. More complicated methods involve using statistical methods to establish the relationships among certain items in a specific job or market group (Compensation Plan – An Overview, n.d.). Conclusion Pay is an important work reward for most people. In this paper which covered pay structure, one may learn about the general frameworks for establishing compensation system in organizations. In general terms, any system of compensation will serve its purpose only when it is perceived to be equitable by both the employees and employers. As conclusion, this paper makes a careful reminder that pay structures must be continually evaluated – one or twice, at least, in a year – to assure competitiveness in attracting, retaining and motivating people for any organization. References: Caruth, D.L. & Handlogten, G.D. (2001). Managing compensation (and understanding it too): A handbook for the perplexed. Westport: Quorum Books. “Compensation plans – An overview,” (n.d.). Retrieved from http://www.citehr.com/601-compensation-plans-overview.html Fishman, S. (2008). Deduct it! Lower your small business taxes. Berkeley: Delta Printing Solutions, Inc. Gelinas, P. (2005). Redefining total compensation to include the value of job security. Ivey Business Journal, November/December, pp. 1-7. Gomez-Mejia, L.R., Balkin, D.B. & Cardy, R.L. (2007). Managing human resources, 5th ed. Englewood Cliffs (NJ): Prentice Hall. Jones, J.W., Steffy, B.D. & Bray, D.W. (1991). Applying psychology in business: the handbook for managers and human resource professionals. New York: Lexington Books. Kusumo, S.W. (2008). Compensation planning. Retrieved from http://compensations.blogspot.com/2008/05/compensation-planning.html Lee, L. (2007). Employee compensation. Encyclopedia of business and finance. Retrieved from http://www.encyclopedia.com/doc/1G2-1552100108.html Maiese, M. (2003). The notion of fair distribution. Retrieved from http://www.beyondintractability.org/essay/distributive_justice/ Ojimba, E. (2004). Pay philosophies. Salary.com. Retrieved from http://www.salary.com/personal/layoutscripts/psnl_articles.asp?tab=psn&cat=cat011&ser=ser034&part=par410 O’Connell, J. (1998). Internal/external equity. In C.L. Cooper & C. Argyris, eds. The concise Blackwell encyclopedia of management. Oxford: Blackwell Publishers Ltd. Pynes, J. (2004). Human resources management for public and non-profit organizations. San Francisco: Jossey-Bass. Solomon, R. (1997). The physician manager’s handbook: essential business skills for succeeding in health care. Gaithersburg: Aspen Publishers Inc. Read More