Compensation Practices: Signals of Your Organization’s Climate & Culture

Organizations may fail to consider the impact of their compensation practices on their employees’ perceptions of organizational climate and culture. In light of recent research suggesting that compensation practices employed by organizations last year in response to the economy have had a dramatic impact on top performer engagement (Towers Perrin, 2009), it appears that compensation practices are more significantly impacting employee perceptions of organizational climate and culture than perhaps we previously gave credit.

How Compensation Practices Impact Climate & Culture

Compensation practices convey certain aspects of the organization’s climate and culture, specifically the degree to which the organization…

  • Competes for exceptional talent. The compensation offered to prospective employees should recognize their skills, experience, and expertise and be commensurate with what other organizations are offering. If your organization doesn’t know what other employers within your market are paying employees in similar jobs with similar levels of experience, it’s likely that your pay practices aren’t in line with the market. Remember that your organization is only as good as the talent it has to sustain its success, so keep this in mind as you are striving to attract the best. If your top job candidate has picked another organization over yours due to compensation considerations, it’s possible you need to relook at how you are paying relative to the market.
  • Emphasizes individual, team, and/or organizational performance. The types of pay for performance you offer to employees emphasizes the degree to which your organization values individual, team, and/or organizational performance. In a study conducted by Kuhn (2009), communicating that the organization provides bonuses based on individual performance caused an organization to be perceived as likely to have a more individualist culture, whereas communicating that the organization provides bonuses based on team or organizational performance led to perceptions of a more collectivist culture. In other words, employees with individualistic values were more likely to be attracted to organizations providing bonuses based on individual performance; whereas employees with more collectivistic values were more likely to be attracted to organizations providing bonuses on a team or organizational basis. Conclusion: the type of pay for performance offered communicates your organization’s values in terms of performance.
  • Fairly compensates for, recognizes, and rewards contributions. Similarly, how fairly your organization’s procedures for compensating, recognizing, and rewarding contributions are perceived can be implied by its compensation practices. The methods in which pay raises, and other forms of compensation are distributed, influence employee perceptions of fairness, equity, and distributive justice in organizations (Cho & Kessler, 2008). Where effectively communicated distributive rules regarding pay exist that are “bought into” by employees, employee perceptions of fairness, equity, and distributive justice tend to be higher. This suggests that developing and consistently employing compensation policies can impact perceptions of fairness and equity.
  • Is transparent. At some level, the organization needs to share information about their compensation practices and how they are determined – especially at the managerial level which has been found to be more effective than at the HR or broader organizational level. In addition, according to a recent survey conducted by ERC, managers are most commonly charged with the responsibility of carrying out salary decisions. Employees should be given a general sense of how pay rates have been determined – specifically what sources of information, criteria, and/or other procedures have been used to determine how they are paid. This transparency surrounding compensation is essential because many employees develop their own perceptions of how pay is determined. Transparent communication battles against employees’ inevitable inferences. Keep in mind, however, other possible barriers to effective communication and transparency of compensation practices which can include (Rennekamp, 2007):
  • Misconceptions of pay differentials. Employees will likely question why they are paid a certain pay rate in comparison to their peers in the organization. If you use pay ranges and place employees within the range based on a certain criterion, such as experience or educational level, tell the employees what that criterion is.
  • Combining compensation increases. Typically employers give three types of increases to their employees – adjustment due to a change in market, increase to recognize exceptional performance, and cost-of-living adjustment. It’s common, however, for employers to make all of these one in the same and for a merit increase (performance recognition) to be misinterpreted as a cost of living increase, for example.  Therefore, it’s important for managers to accurately disclose the type of increase being provided to employees so that it is not misinterpreted.
  • Eliminating compensation increases. This is unfortunately a common practice, especially if an employee has just been promoted or received a large raise. Organizations may reduce or eliminate other increases such as cost of living increases. Doing so commonly results in employees feeling shortchanged.

Compensation Practices That Will Positively Impact Your Organizational Climate

The most effective compensation practices employed by organizations that contribute to a positive organizational climate and higher employee engagement include a five primary practices:

  • Determine pay position in market. The pay position in your market should be communicated in the compensation strategy or philosophy in your organization’s handbook. As a best practice, all employees should be paid at or above market levels. On average, employers pay 2/3 of their positions at market and 1/3 of their positions above market. On occasion, an employer could pay some positions below market if they are not strategic to the organization.
  • Conduct a market review. Compensation structures should be reviewed every 1-2 years. The reason for this is that pay practices are constantly changing, especially for some jobs.  Recently, technical professions have seen the largest changes in pay. In order to track these changes, your organization must review the competitive pay rates for these positions using market-based data.
  • Provide increases. Compensation increases and/or adjustments are provided, according to the market and differentiated based on performance. Common increases provided by employers include adjustments due to a change in market, increases to recognize exceptional performance, and cost-of-living adjustments.
  • Make sure managers communicate pay effectively. Pay practices need to be communicated by managers effectively. New research suggests that compensation program effectiveness stems largely from the communication of pay practices by managers – not just HR. Training by your organization’s compensation professionals may be necessary in order to make sure your managers are aware of the information used to make pay decisions.
  • Pay for performance. The organization should provide at least one opportunity for employees to earn more pay based on their performance, possibly in the form of bonuses, profit sharing, or gain-sharing (tend to be the most common forms of incentive pay).

Additional Resources: Compensation Information for Every Market

If your organization is unsure of where to turn for sources of compensation information relevant to your market, as a member of ERC you have access to an incredible array of market information:

  • Local Compensation Surveys: ERC compensation surveys provide local benchmark information in regards to salaries, wages, and pay adjustments for Northeast Ohio employers spanning a wide range of industries and organizational sizes that are applicable to nearly every organization. Please click here to participate and receive free access to the results.
  • Regional/National Compensation Surveys: ERC compensation surveys provide regional and national benchmark information in regards to salaries, wages, and pay adjustments spanning a wide range of industries and organizational sizes that are applicable to nearly every organization. Contact surveys@ercnet.org to learn about ways you can access this information.
  • Other Compensation Resources: Visit ERC’s Research Library or email hrhelp@ercnet.org to access compensation information from other reputable sources of compensation information including Mercer, ERI (Economic Research Institute), BLR, and more. Again, all free information if you are a member.

Sources

  • Kuhn, K. M. (2009). Compensation as a signal of organizational culture: the effects of advertising individual or collective incentives. The International Journal of Human Resource Management.
  • Dulebohn, J. & Martocchio, J. J. (1998). Employees’ perceptions of the distributive justice of pay raise decisions: A policy capturing approach. Journal of Business Psychology.
  • Cho, J. & Kessler, S. R. (2008). Employees’ distributive justice perceptions and organizational citizenship behaviors: a social exchange perspective. Review of Business Research.
  • Rennekamp, J. M. (2007). Communicating Compensation Decisions. Rothgerber Johnson & Lyons.
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3 Responses to Compensation Practices: Signals of Your Organization’s Climate & Culture

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  2. Eric says:

    I stopped reading when I got to this part: “As a best practice, all employees should be paid at or above market levels. On average, employers pay 2/3 of their positions at market and 1/3 of their positions above market.” To paraphrase: “on average pay should be above average.” Does not compute.

    • J says:

      why not ? When you pay 2/3 of your positions at market, let’s say 100 dollar. And 1/3 of your positions above market, let say 101 dollar.

      When taking the average pay of all positions you are paying above market average.

      example:

      30 positions.

      20 positions get paid 100 dollar at market average
      10 positions get paid 250 dollar, 150 above average

      the average pay of all positions is (20*100=) 1000 + (10*250=)2500 which together makes 3500 total pay for your positions.

      3500/30 = 116,68 dollar average pay for the organisation. 16,68 dollar above market average.

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