All companies run to maximize their profits and grow, but without customer satisfaction they can not achieve it. Customer satisfaction calls for employee involvement at all levels to ensure quality is delivered. So this brings us to the importance of employees. For this reason, employees are said to be an asset for a business, because the business’s success lies on their shoulders. They can only function properly if they are motivated. Companies invest time and effort in human resource strategies to attain a motivated and skilled workforce to achieve that. This brings us to the concept of compensation, which is an essential motivator for all employees.

Of course, there are various other motivating factors also that encourage the employees to achieve their best and the organizations use many tools to enhance those factors, for e.g. challenging work through job enrichment, more responsibility through delegation, etc. but these are higher level motivators and employees can not get to that level unless their basic needs are not satisfied, according to Maslow’s Hierarchy of Needs 2. Money being an important basic necessity remains as yet the most influential motivator that is given to employees to boost up their motivation, which leads to the company achieving its goals eventually. There are many compensation tool, approaches and methodologies used which can be different from organization to organization but one thing is same, they are taken to have a competent workforce, which is motivated enough to direct themselves towards the success of the company they work for.

The Definition of Compensation

As said, compensation, due to its increasing importance in motivating the employees, has become an integral aspect of the practice of strategic human resource management. At the basic look, compensation is the monetary return that a company gives to the employees in return for their services. It is a general belief that the more the company pays the more satisfied the employee is. But it is not as simple as that. In practice, satisfying the employees with the pay is harder than it looks. There are several factors to take into account when developing a compensation system. Compensation systems are not precise or vague; much thought and planning has to be invested in developing the appropriate plans for the employees of the company.

The Need for Compensation

Compensation is required to pay off employees. But why? Of course for their services, but that is not the only reason. A good compensation does wonders for the organization’s overall performance in terms of motivated employees. Following are the impacts of a good compensation plan.

Increase in Productivity

When employees believe they are being paid well enough which satisfies their basic needs, they get motivated to show productivity at work.

Retention of Employees

When employees are not paid well enough, they may go on strikes to slow down productivity or leave the jobs simply, increasing the job turnover of the overall organization which is clearly not a good sign of a healthy organization. Healthy and considerate compensation plans on the other hand ensure that all employees stay satisfied and retain themselves at work for long and sustain their productivity, allowing the organization to achieve its goals.

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Serving of Psychological and Self-Actualization Needs

The compensation system allows not only the fulfillment of the basic physical needs, but also once they are crossed over, proper compensation allows the employees to remain happy, and satisfied with how they are being appreciated through the pay and they move towards achieving their self actualization needs, and throughout the company benefits from their enthusiasm and motivation in their jobs.

Attraction and Sustainment of Talent

When a company pays well, through word of mouth, and other medium of communication, it gets well known, and ends up attracting competent workers and talent from the labor market, which only serves as an additional step towards achieving the targets and maintaining creativity in products.

The Role of the HR Department

The human resource department, as formerly known as the ‘hiring department’ or the ‘personnel department’ has taken the strategic path and has now arrived at the corporate forefront, where the department is linked with the major strategies in action. Companies are now increasingly developing strategic pay plans and the human resource departments are playing a big role in that. Compensation plans are not developed by the human resource department in isolation with the overall organization. The concerned departments are all coordinated with during the process and the respective managers’ opinions and experience are taken into account for an effective plan that coincides with the objectives of each of the department’s and the overall organization’s objectives.

Compensation plans are not general, and the human resource specialists have to cut down the plans to fit to each individual job. The many ways they do this are discussed later in the paper, but the point here to be made is that the process is complex, and long, and the human resource professionals put in a lot of effort into it. Human resource departments have grown ever since their importance has been recognized by the big companies. In small companies, the human resource department constitutes of a single or two individuals, but in big companies, human resource department is as large as any other department, as they are engaged, in recruitment, selection, retention of employees, compensation being part of the retention activities.

The human resource department takes in the strategy of the company and assesses the employee requirements, in terms of performance or more positions to be filled. It incorporates the employee requirements associated with the successful implementation of the newest strategy into their pay plans to ensure they stay and grow further motivated to make that happen.

The human Resource department functions around the belief that employees matter and the most effective way to encourage them to pursue their full potential and to allow the company to achieve its objectives is to establish and implement a winning compensation plan, taking into account strategic and employee need perspectives.

Factors to Consider When Producing Reward Strategies

The human resource managers have to consider several factors before they establish a compensation strategy, because like said, a lot rides on the impact of the compensation upon the employees, where a slight dissatisfaction with the return can cause the employee to lose motivation and end up with bad performance. So what are those factors? They are discussed as follows.

Competitive Position

The competitive position of the market has to be analyzed beforehand through benchmarking or other research. Based on that benchmarked information, the competency required from the employees can be determined. It is to take into account, that the competitive strategy of the overall company is directly linked with the competitive workforce and hence requires a similar compensation plan. The compensation should also go along abiding the corporate policies, so they have to be taken into account beforehand as well. The compensation strategy should be an aligned reward strategy, which will manifest itself in pay policies. To further induce the competitive position into the compensation formulation process two important market factors have to be considered: Salary compression and Geographical impacts on the employees. Salary compression is caused by inflation, where long term employees eventually end up earning less than the new entrants as their pay is bound under gradual increment, while the new ones get paid according to the position they are hired for. Geography implies the cost of living differentials which have to be considered before the final pay is decided.

Cost/Perceived Value

Employees have certain preferences over the pay they expect to get when they are hired. These perceptions are usually developed considering the costs they incur in their living, which they want to be covered with the pay. Also, another element that induces the perceived value of the pay is through word or mouth from the people who have the similar jobs. What the human resource managers have to do is determine what the employees prefer; on what level of pay would they be attracted and retained in the organization. And if however, the company is to cut back on the pay, what will the costs be to bear for the company.

Role of Reward Elements

Foremost in the consideration for the role of reward elements is prominence of the basic pay among the other benefits. Then comes the determination of how much of the pay will compose of variable and fixed pay. The human resource managers also have to consider that if they develop long term incentives for the employees, what affects they will have on the performance. But before developing the plans, the employees have to qualify eligibility for the increments or the benefits. Thus, there has to be eligibility criteria.

Performance Management

The duty of human resource managers is to ensure the effective functioning of the performance management system which is a process that consolidates goal setting, performance appraisal and development into a single, common system, the aim of which is to ensure that the employee’s performance is supporting the company’s strategic aims. Developing a compensation plan is one way of doing that. Reflecting onto the performance management essentials, the human resource mangers need to know the organization’s, teams and individual’s goals and focus and the best in progress performances prevailing in the organization.


The compensation should not violate the corporate polices and budgets, the human resource managers have to make sure of that. Also, the industry rates, the labor laws and local perceived values of pay are to be considered as well to develop an effective compensation plan. There are laws concerning minimum wage rates, for example, that can lead to serious law suits for the company, if violated.

Communication and Involvement

The human resource managers have to properly communicate the compensation plan to the employee so as to develop a perception that it is fair. Employees get vulnerable when they fear they are being discriminated in their pay or degraded. Thus, the plan should be clearly defined to the employee so that if they have something to add, they could do so and resolve all future potential conflicts and reasons for dissatisfaction. Also, it is important that the managers of the concerned departments should also be involved in the process of the establishment of the compensation plan so that the areas which the human resource manager may fail to acknowledge, the managers can broadly define them and enable a preparation of a sound strategy for compensation of the employees.

Union Influences

Violating the government laws for pay, overlooking the labor and employee demands for higher pay and overworking the employees for the same pay, may cause negative reactions from the employees, which can be a great deal of concern if they are projected through a union. Unions have had strong influences in affecting the overall company strategies. They can encourage the employees to act on a strike on a large scale which can terribly affect the productivity of the company. And the company has no choice but to meet the demands. So, to avoid such a hostile situation, it is wise to consider the labor demands before giving them a chance to be furious.

Equity Theory of Motivation

The Equity theory of motivation states that if a person perceives an inequity, a tension or drive will develop in the person’s mind, and the person will be motivated to reduce or eliminate the tension and perceived inequity. There are four areas of the equity that have to be considered which affect the motivation of the employee:

  1. External Equity – The Employee compares the pay of a job in one company with the pay in another. The human resource managers can ensure the external equity through formerly conducting a salary survey to determine what other companies are paying. The concept of the salary survey is discussed later.
  2. Internal Equity – Internal equity is where the employee of the company compares the pay of his job with the pay of other jobs within in the same company and sees how similar they are. For that, the human resource managers have to conduct job analysis and job evaluation. This results in internal equity.
  3. Individual Equity – Individual equity is obtained when the employee compares the pay of his job with the pay of the co-workers of similar jobs with the same company and sees justice. This is ensured by regular performance appraisals and incentive pays.
  4. Procedural Equity – This is the employee’s perceived fairness of procedures which determine the pay. If the employee senses injustice in the system then the motivation levels go down due to the procedural inequity. This can be ensured by proper communications and employee participation in the play development, like mentioned before.

Methodologies of Compensation Strategies

Now we come to the greatest challenge: establishing the actual compensation plan. When all of the above factors are considered, there are five more steps that the human resource manager has to follow to ensure the establishment of a successful and effective compensation plan.

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Step 1: The Salary Survey

The Salary Survey is a survey aimed at determining prevailing wage rates. A good salary survey provides specific wage rates for specific jobs. Formal written questionnaire surveys are the most comprehensive, but telephone surveys and newspaper ads are also sources of information. These are used in three ways:

  1. To price benchmark jobs – these are jobs used to anchor the employer’s pay scale and around which other jobs are arranged in order of relative worth.
  2. Employers price 20% or more of their positions directly in the marketplace based on what comparable firms are paying for comparable jobs
  3. It becomes a basis for decisions regarding employee benefits.

Step 2: Job Evaluation

It is a systematic comparison done in order to determine the worth of one job relative to another. Jobs can be compared using compensable factors, such as skills, efforts etc which can help determine the pay for each job. The preparation for the Job Evaluation procedure involves the following:

  1. Identifying the need for job evaluation
  2. Getting employees to cooperate
  3. Choosing a job evaluation committee which performs three jobs: identifies 10 or 15 benchmark jobs, selects compensable factors, and uses several methods of job evaluation to determine the worth of each job.

How is job evaluation conducted? Following are the methods:

  1. Ranking – Ranking is the simplest method of job evaluation that involves ranking each job relative to all other jobs usually based on overall difficulty. The procedure of ranking is:
    • Obtain job information through job specifications and descriptions
    • Select and group jobs so as to rank in clusters
    • Select compensable factors
    • Rank Jobs
    • Combine ratings by averaging the raters’ rankings
    • Job Classification – Job classification is a method for categorizing jobs into groups. The groups are called classes if they contain similar jobs and grades if they contain jobs that are similar in difficult but different otherwise.
    • Point Method – In the point method, a number of compensable factors are identified and then the degree to which each of these factors is present on the job is determined.
    • Factor Comparison – This method ranks jobs according to a variety of skill and difficulty factors, then adding up these rankings to arrive at an overall numerical rating for each given job.
    • Computerized Job Evaluation – This uses questionnaires and statistical models to streamline the time consuming quantitative job evaluation methods.

Step 3: Group Similar Jobs into Pay Grades

In the third step the human resource manager has to develop pay grades. A pay grade is comprised of jobs of approximately equal difficulty. Such as in government jobs where the ranks are Grade 21 or 22, depending on the skill and knowledge level they require.

Step 4: Price Each Pay Grade

When the pay grades are developed, each one has to be priced to develop the overall pay in ranges. These pay grades are illustrated on to wage curves. A wage curve shows the relationship between the value of the job and the average wage paid for this job.

Step 5: Fine tune Pay Rates

When the pay rates are developed, the human resource mangers fine tune the pay ranges to look for flaws and room for improvements. Fine-tuning involves:

  1. Developing pay ranges – series of steps or levels within a pay grade, usually based upon years of service.
  2. Correcting out of line rates by raising the wages of underpaid employees to minimum rate range for their pay grade. For overpaid jobs: (1) the rate paid is frozen until general salary increases bring the other jobs into line; (2) there is transfer or promotion of the employees involved to jobs for which you legitimately pay them their current pay rates; (3) the rate is frozen for six months, during which the human resource manager tres to transfer or promote the overpaid employees.

Pricing Managerial and Professional Jobs

Of course not all employees are paid the same way. The more the employees climb the corporate ladder, the more complex their pay establishment process gets, and the more efforts the human resource managers have to invest in to develop effective and motivating pays.

For the executives and managers, much emphasis is upon performance based pay and performance incentives. The human resource managers consider their basic pay, the short tem incentives, long term incentives and the executive benefits and perks, all of which are to be reflected in the pay. Also, the company size, performance, business strategy, corporate trends, complexity and unpredictability of the decisions they make, and the level of R & D and the capital investment in a business are some of the determinants of the level of the final pay of the executives and the managerial positions. The job evaluation process for their jobs involves classifying all executive and managerial jobs into a series of grades to which a series of salary ranges are attached.

As for the professional employees, the human resource manager has to consider other compensable factors. The compensable factors here focus on:

  1. Problem solving skills required for the job
  2. Creativity – that is how much innovation and brainstorming that the job entails.
  3. Job scope – how large of an impact does the performance job cause in the overall company’s operations.
  4. Technical knowledge – usually the more the technical knowledge, the more stretched the range is and more the employees are paid. Technical knowledge accounts for a lot.
  5. Expertise – the higher level, and more advanced jobs have the greatest implications for expertise, and expertise is only cherished with appropriate pay scales.

Most employers use market-pricing approach to establish values for benchmark jobs.

Compensation Trends

Considering how important and influential the compensation strategies are to the company, more and more research has produced several trends that the companies are now following, all to achieve their objectives through a satisfied workforce. These trends are discussed as follows.

Now, human resource managers are moving away from performance pay and heading more towards the competency based pay. Competency based pay is where the company pays for the employee’s range, depth and the types of skills and knowledge rather than for the job title he or she holds. It moves the pay from being job-oriented to being person-oriented where the employees build job competencies through experience on the job and ties his pay to his competency. Competency based pay has several advantages for the company. It supports high-performance work systems, the strategic aim of the company and makes the performance management effective in achieving the targets.

Broad-banding is another increasingly becoming popular trend. It consolidates salary grades and ranges into just a few wide levels or “bands” each of which contains a relatively wide range of jobs and salary levels. Is suitable for self-managing teams where organizations are flatter. It can be unsettling for new employees, but they can be guided to acquire complete information regarding them so that they can stay satisfied that the system is just.

Another compensation trend is comparable worth.The comparable worth is a concept by which women who are usually paid less than men can claim that men in comparable rather than in strictly equal jobs are paid more. Thus, the concept allows the women to obtain equity and through that keep themselves motivated to achieve their full potential at work and helping the organization achieve its objectives.

There are also Automated Compensation Administration systems which are now being used by the companies. Companies use server based intranet compensation planning programs to keep track of who can spend what and who is spending what. This web based method has the advantages of allowing quick update of compensation programs, and reducing costs. Thus, it not only allows the company to achieve motivated workforce, but it doing so, the company also benefits from cost reduction measures.

Companies are increasingly inclining towards latest trends in compensation strategies, as an attempt to attract and retain the employees which is an underlying tool to achieve the overall organization’s goals.


Using compensation as a tool to satisfy the basic requirement of the employees is surely a major accomplisher of motivation that is required to achieve the targets of the company. But as simple as the concept of compensation is, unfortunately it is not as appears to be. It is not simple because the employee motivation rides on it and there are huge costs to be faced if the compensation results in negative influence upon the employees who get provoked to produce lack of performance required by the company. Thus, the human resource managers are continuously involved in making the compensation plans as effective as possible. For that matter, they have to consider various outside and inside factors, such as the industry rates, the laws of the company and the government, the employee preferences and perceive values, and establishing equity being some of those factors.

Usually there is a five step procedure that leads to the development of the effective compensation plan. For, professional and technical employees and higher management employees, the pay ranges and methodologies are somewhat different, but the difference lies on in the process their pay is established but in the compensable factors that have to be considered, such as expertise, innovation and technical knowledge. The latest trends have also allowed the companies to set strong feet into the ground as they are increasingly becoming popular in keeping the employees productive.

The compensation plans can not turn effective on their own and for a simple purpose. The company has to realize how important the compensation plans are and how important their impacts on the employees can be with regard to the achievement of the overall goals of the company. Appropriate compensation can do wonders for the company in terms of satisfied and motivated employees who see productivity as their aim once their needs are recognized. The important thing to do on part of the company is to recognize their needs and what better way to make sure the employees know that their needs and their efforts have been recognized than providing them the pay they deserve. The result is which is going to nothing less than the organization seeing its objectives and goals being achieved, taking it to new heights, all thanks to the motivated workforce and the effective compensation plans.

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