Ten compensation mistakes and how to avoid them

By Mila Stahl

Editor's note: This article was co-authored by Ron Schell of QTI.

In the 2006 version of its annual national "Job Satisfaction" survey of top 20 things most important to employees conducted by the Society for Human Resource Management (SHRM), pay was listed as No. 1 for the first time in this writer’s memory.

In 2007, it was a joint No. 1 with "benefits." (Note, benefits was No. 2 in 2006). In 2008, pay was listed No. 3, behind "benefits" (No. 2) and "job security" (No. 1). Pay is obviously very important to employees as a reason for joining and staying with, or leaving, organizations. Avoiding common compensation mistakes should be important to business owners and managers.

Most compensation programs have the same basic objectives: to attract, retain and motivate the best employees. But whether the elements become an effective system that supports your organization’s goals or contribute to attrition and poor morale depends upon paying attention to some fundamentals, even during difficult economic times. Here are 10 compensation mistakes that organizations make and how to avoid them.

1. Poor Alignment with Organizational Culture and Goals. Symptoms may include slim profit margins, lack of product design innovation and dissatisfied customers. You need to understand the value proposition of the business and how people support it. Ask yourself some of the following questions: Why do our customers buy from us? What must our employees do better than our competitors’ employees? What are the values and belief systems of our organization and what behaviors should we reward?

2. Lack of Total Rewards Perspective. Symptoms may include paying more in cash compensation than is necessary, inability of rewards system to respond to changes in business strategy and confusion among employees and managers. Can you as a business owner or leader explain direct and indirect financial rewards? Having a formal compensation philosophy can clarify exactly what the organization values and is willing to pay for. A compensation philosophy is a clear, guiding framework for the design, delivery and communication of rewards during times of both business expansion and contraction. You will also want to establish performance measures and your competitive position. Are you a leader in pay, matching industry standards or lagging in paying for needed talent?

3. Incorrect Use of Market Data. Some employers peruse the Sunday classifieds and develop their pay practices based on what others might pay for similar jobs. That isn’t effective market data. You want to have a careful labor market definition and consider the use of geographic differentials, if appropriate. You must conduct rigorous job-level and scope matching and define clear market targets.

4. Inattention to Internal Equity. Do you have fairness issues and/or challenges with administering your employees’ pay? Do your managers have difficulty explaining and supporting your current system? Could you have potential legal exposure from Title VII, Equal Pay Act or other legislation? Your best solution would be to establish pay rates that reflect your organization’s desired pay position relative to external markets and, once established, address internal equity using some internal discipline.

5. Poorly Designed Variable Compensation. Do your employees suffer from entitlement mentality? Do you have too many goals for them to reach and is your variable pay hidden in a disguised base? Have a tailored compensation strategy and clear objectives about the measures that you have developed.

6. Poor Performance Pay Link. Do your managers defer to HR or otherwise have little ownership in the process and outcomes? Does your organization have little or no differentiation of pay for performance, such as poor distribution of ratings and increases? Develop a relevant performance management system with managers’ involvement, train them on it and hold them accountable for using it. Clearly define the roles of supervisors, managers and HR in the performance evaluation and salary adjustment processes. These processes are management systems to be implemented by managers and supported by HR. Also, review the system every 24 months or so and revise your system, as needed.

7. Overpaying. Is there an excessive focus on compensation in your organization? Do you suffer from unhappy employees and a perception of underpayment? You will want to de-emphasize compensation and better manage performance. Start saying "no" to cost-of-living adjustments, unless contractually required, and reward employees who make consistent contributions and truly add value.

8. Reactive Decision-Making. Have you ever presented a counter-offer to a departing employee, only to have the person leave six months later? Was the counter-offer "outside of the range" for that pay grade, potentially causing other internal equity problems? Are managers allowed to make "special deals" and regular exceptions with starting offers or adjustments that fall outside of guidelines? Be cautious with counter-offers, perform due diligence before using questionable pay data or following compensation "fads" and minimize exceptions to agreed-upon guidelines.

9. Failure to Evaluate Program Effectiveness. Are your pay and performance management systems viewed as "overhead"? Analyze meaningful compensation and HR metrics and continually realign your pay practices with your company’s culture and goals.

10. Inconsistent Communications. Is there a poor understanding of what the organization values, is willing to pay for and how employees influence their pay? Is the pay system a mystery to all but HR? Do some managers talk to their employees more regarding pay issues, while other employees receive little or no information?

Regular open, honest and direct communication between management, HR and employees promotes better understanding of the pay system, indicates there is nothing to hide, and enhances credibility and trust by obtaining employee buy-in. Remember to communicate effectively and often.

There are no absolutely "right" or "wrong" pay philosophies and no guaranteed practices that one organization can simply adapt from another.

There are some proven approaches, however, that when applied consistently can result in effective pay practices that back the organization’s goals.

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