Introduction To Compensation Management

Compensation has been an extremely important issue for both,

the employer and employee. This is because money is crucial
incentive and directly or indirectly related with fulfilment of all
human needs. Compensation or paying employees for work and
developing structures of compensation packages thus becomes
one of the major responsibilities of HRM managers. A good pay
packet not only helps in attracting the most talented
employees but also helps in retaining them for a long time in
the organization. However, a large number of problems in
industries in India are also attributable to compensation. Over
the years, compensation has become a complicated issue. Not
only are the problems of internal equity and external parity
important, but also the larger issues of the wider economy and
society impinge on the problem of compensation.

Compensation refers to the monetary and non-monetary

rewards employees receive in exchange for the work they do
for an organization. In exchange for these rewards, employees
are expected to be loyal and committed to their firms.
Compensation can be either direct or indirect.

Direct compensation
includes the hourly wages or salaries paid to employees, as
well as any
incentives, including merit raises and bonuses or commission s
they receive. Direct compensation can be fixed(wages) and/or
variable (commissions).
Indirect compensation includes the benefits and services
employees receive, such as their health care insurance,
vacations, company-paid training programs and other “perks”.
8.2 Concept of Compensation
Compensation is purely extrinsic-a 'quid-pro-quo' arrangement.
It contains all forms of financial incomes and tangible services
and benefits that an
employee receives as part of employment relationship.
The term 'compensation' is used to mean employees' gross
earnings in the
form of financial rewards and benefits as a part of employment
relationship.
Compensation may also be viewed as
a) A system of rewards that motivates employees to perform,
b) A tool used by organization to foster the values, culture and
the behaviour they require
c) An instrument that enables organizations to achieve their
business
objectives.

8.3 Definitions
According to Milkovich and Newman (2007), compensation may
be defined
as” all forms of financial and tangible services and benefits
employees receive as [part of an employment relationship”.
Therefore, compensation management is a process to reward
employees
financially and non- financially for their work, performance and
contributions in order to achieve high levels of organizational
performance keeping in view the following factors: -
· Employees are paid adequately in terms of their work, skills,
performance and motivation;
· Ability of the organization to pay;
· Labor market(internal and external) conditions;
· Government regulations in relations to compensation;
· Economic, social, political and technological environment;
· Equity considerations in compensation;
· Psychological contract;
· Improving individual motivation, morale, productivity and
quality of
work performed by employees; and
· Building competitive advantage by organizations.
“Compensation Systems are the financial reward structures
organizations use to compensate individuals for the work they
perform for the organization.” (Linda K. Stroh, Gregory B.
Northcraft and Margret AnnNeale)
“Compensation Management refers to payment systems which
determine employee wages or salary, direct and indirect
rewards”. (I. Kessler)
8.4 Objectives of Compensation Planning
The basic purpose or objective of establishing sound
compensation is to
establish and maintain an equitable rewards system. The other
aim is the
establishment and maintenance of an equitable compensation
structure i.e. an optimal balancing of conflicting personnel
interest so that the satisfaction of employees and employers is
maximized and conflicts minimized, the compensation
management is concerned with the financial aspect of
employees need, motivation and rewards.

A sound compensation structure tries to achieve these

objectives:
To attract manpower in a competitive market.
To control wages and salaries and labor costs by determining
rate
change and frequency of increment.
To maintain satisfaction of employees by exhibiting that
remuneration
is fair adequate and equitable.
To induce and improved performance, money is an effective
motivator.
a) To Employees:
i. Employees are paid according to requirement of their jobs i.e.
highly
skilled jobs are paid more compensation than low skilled jobs.
This
eliminates inequalities.
ii. The chances of favouritism are minimized.
iii. Jobs sequence and lines of promotion are established
wherever they
are applicable.
iv. Employee's moral and motivation are increased because of
the sound
compensation structure.
b) To Employers:
i. They can systematically plan for and control the turnover in
the
organization.
ii. A sound compensation structure reduces the likelihood of
friction
and grievance over remunerations.
iii. It enhances an employee morale and motivation because
adequate
and fairly administrative incentives are basis to his wants and
need.
iv. It attracts qualified employees by ensuring and adequate
payment for
all the jobs.
v. In dealing with a trade union, they can explain the basis of
their wages
program me because it is based upon a systematic analysis of
jobs and
wages facts.

Factors Affecting Compensation Planning

Factors determining compensation of an employee
considerable amount of guess word and negotiation are
involved. But following are the certain factors which have been
extracted as having an important bearing upon the final
decision:
a) Supply and Demand of Labor: Whatever the organization
produces
as commodity they desire services and it must pay a price that
of
workers acting in concert. If more the labour is required, such
as at war
time prosperity, there will be tendency to increase the
compensation;
whereas the situation when anything works to decrease the
supply of
labour, such as restriction by a particular labour union, there
will be a
tendency to increase the compensation. The reverse of each
situation
is likely to result in a decrease in employee compensation,
provided,
labour union, ability to pay, productivity, government do not
intervene.
b) Ability to Pay: Labour Unions have often demanded an
increase in
compensation on the basis that the firm is prosperous and able
to pay.
c) Management's Philosophy: Management's desire to
maintain or
improve moral, attract high caliber employees, reduce
turnover, and
improve employees standard of living also affect wages, as
does the
relative importance of a given position to a firm.
d) Legislation: Legislation related to plays a vital role in
determining
internal organization practices. Various acts are prescribed by
government of country for wage hours laws. Wage-hour laws
set limits
on minimum wages to be paid and maximum hours to be
worked. In
India minimum wages act 1948 reflecting the wage policy for
an
organization and fixation of minimum rates of wages to workers
in
sweated industries. In 1976 equal remuneration act was
enacted
which prohibits discrimination in matters relating to
remuneration on
the basis of religion, region or gender.
Various Modes of Compensation
Various modes of compensation are as follows
Wages and Salary- Wages represent hourly rates of pay and
salary
refers to monthly rate of pay irrespective of the number of
hours
worked. They are subject to annual increments. They differ
from employee
to employee and depend upon the nature of jobs, seniority and
merit.
b) Incentives- These are also known as payment by results.
These are
paid in addition to wages and salaries. Incentive depends upon
productivity, sales, profit or cost reduction efforts. Incentive
scheme
are of two types:
1) Individual incentive schemes.
2) Group incentive schemes.
c) Fringe Benefits- These are given to employees in the form
of benefits
such as provident fund, gratuity, medical care, hospitalization,
accident relief, health insurance, canteen, uniform etc.
d) Non- Monetary Benefits- They include challenging job
responsibilities, recognition of merit, growth prospects,
competent supervision, comfortable working condition, job
sharing and flexi time.

8.5 Objectives Of Compensation Management

The vital objective of any compensation system is equal pay for
equal work
without any disparity. The final objective of compensation
administration is
to extend rewards to the outstanding behaviors and provoke
people to
perform well in their jobs. The other vital objectives that is
needed to be
accomplished through fair compensation management are
mentioned here under: -
· Quality Retention: When the compensation policies of the
organizations are not encouraging, employees may quit the
organization out of despair.
· Talent Capture: In order to attract the high skill talent
compensation
needs to fix an exorbitant scale. Since, there is a cut throat
competition among corporate to capture the talented people,
the
remunerative pocket of perks must be high to attract them.
· Equity of Pay: There should be equal pay for equal works.
Similar
cadre employees should get similar perks. Besides, highly
qualified
employees should get additional wages.
· Regulations Overheads: The various overheads to be
incurred for
hiring personnel should be regulated to minimum level.
Prudential
compensation management ensures that employees are
neither
overpaid nor underpaid.
· Novel & Trusted characteristics: Revised and hiked pay
should be
extended to the personnel working with sincerity, loyalty,
gratitude,
commitment, stress takers, experienced, initiative and other
required
characters. While the establishment fails to offer higher
rewards to
those employees, they may go for quest better career outside.
· Co-relate with legal procedures: Compensation policies
should
inevitably meet the governmental rules with regard to
minimum wages ,
incen_ves, bonus, benefits and other allowances.characters.
While the
establishment fails to offer higher rewards to those employees,
they
may go for quest better career outside.
Co-relate with legal procedures: Compensation policies
should
inevitably meet the governmental rules with regard to
minimum
wages ,incentives, bonus, benefits and other allowances.
8.6 Principles Of Compensation Management
Compensation management is built upon the following sound
principles:-
Ability to pay:- Organization should pay to their employees as
per their
financial capacity and capability.
Internal and External equity:- Employers in their
organizations must
compensate their employees according to their experience,
skills,
knowledge , job responsibilities and qualifications. This is called
internal
equity. Organizations must pay their employees a
compensation which is
at least comparable to their competitors or industry standards.
This is
called external equity. If an organization's compensation level
is lower
than that of its competitors or industry average, then the
organization will
find it difficult to recruit and retain talented employees. If on
the other hand,
organization pays above industry average or more than
competitors, then
it is likely to attract talents and keep them too.
Performance orientation: Compensation should be in
commensuration
with individual and organizational performance. Employees
exhibiting
better performance should be compensated at higher level to
maintain
enhanced performance or output and encourage them to attain
excellence. Performance
linkage is essential for creating a performance driven work
culture where
every Non discriminatory Principles of Compensation
Management Employee development Simple & Flexible Legal
compliance Ability to pay
Equity Considerations Performance orientations linkage is
essential for creating a performance driven work culture where
every employee willingly assumes responsibility and works with
ownership. This also helps in maintaining a sense of justice and
faith in
the organization's leadership.
Non-discriminatory: Organizations must pay their employees
without
any discrimination on the ground of race, religion, gender,
nationality
and ethnicity.
Legal compliances: Organizations must pay as per the
relevant laws of
the land. If we take an example of India, the minimum wages
Act, 1948
stipulates that workers in the unskilled, semi skilled and skilled
jobs must
be paid a minimum wage. This is an essential character of any
welfare
state committed towards the goals of social justice and
securing the
rights of the employees to at least minimum standard of living.
Therefore, an organization that does not have the ability to pay
even
minimum wages to its employees has no rights to exist.
Simplicity and Flexibility: Compensation system should
simple to
design, understand and administer. Compensation plan s and
policies
must be flexible to adapt with ease to the changing profile of
the
workforce, needs of the individual employees, organizational
goals and
objectives and labor market conditions. In other words,
compensation
management must be strategically aligned.
Faster employee development: Compensation should be
such so as
to motivate employees to acquire, sharpen and develop their
skills and
competencies in conjunction with changing technology,
innovations and
organizational requirements. Increased differentiation on
account of
gaps in employee's skills and competencies acts as a
motivator.
8.7 Importance Of Compensation Management
Compensation plays a pivotal role in effective management of
human
resource s, which is crucial to the competitive advantage of
organizations.
The importance of compensation management is enlisted
below:-
1. It is essential for integrating employee efforts with
organizational goals
and objectives.
2. It is a part of sound people management framework for
recruiting,
selecting, socializing, performing, developing and maintaining a
capable and motivated workforce.
3. It has social implications as poorly paid employees are likely
to indulge
in social unrest and undesirable activities.
4. It is a management tool for controlling and directing
employee's
productive energies for improving organizational competence
and
HUMAN RESOURCE MANAGEMENT
performance.
5. It helps in generating a talent pool.
6. It helps in creating better brand equity through increased
employee
communications with customers, professional and society at
large.
7. It helps in maintaining compensation costs of an organization
efficiently.
8. The system provides growth and advancement opportunities
to the
deserving employees.
9. It aims at creating a healthy competition among them and
encourages
employees to work hard and efficiently
10. The business organization can think of expansion and
growth if it has
the support of skillful, talented and happy workforce.
The sound compensation system is hallmark of organization's
success
and prosperity. The success and stability of organization is
measured
with pay-package it provides to its employees.
8.8 Process Of Compensation Management
Compensation Management is the strategic process of aligning
pay,
incentives and benefits (rewards) of employees with
organizational goals and
objectives.
Ÿ The Process of compensation management is depicted
in figure 8.2
157 | Page
HUMAN RESOURCE MANAGEMENT
Compensation
Management Process
HR strategy
Compensation
Philosophy
Compensation
Policy
Job Evaluation
Design &
Implementation of
Compensation Plan
Evaluation & Review
Business strategy
Information on:
External Labor market
Internal Labor market
Market place rate/ alignment
Compensation range
Relationship between
compensation levels
Components of
compensation
158 | Page
Each step of compensation management process is explained
in detail:-
1) Business strategy:- The nature of an organization's
strategy is the
primary determinant of its compensation strategy. For
example, an
organization going into expansion wills have different
organization
strategy and consequently different compensation strategy
than an
organization, which is not getting into expansion mode. Greater
expansion gives rise to a greater need of attracting and
retaining high
caliber employees in fastest possible time consistent with its
goals and
objectives. Such organization shall pay mo re compensation to
meet its
human resource needs than an organization not in expansion
mode
which shall require people mainly for replenishments. Thus,
organization with no expansion plan shall use more objective
criteria
for compensation increases and bonuses are significantly
greater
proportion of total compensation than in organizations into
expansion
mode.
2) HR strategy: The organizations which view employees as
talent
investors would have an HR strategy, built around competitive
advantage through people. In such organization's HR strategy
compensation plays a pivotal role and has variety of other
business
roles. In these organizations, compensation plays a dominant
role
such as high risk and high return incentive plans and
performance
based incentives. While those organizations which consider
people to
be valuable resource should emphasize HR strategy for
attaining
strategic goals and objectives of the organizations. However,
organizations which view its employees as factor of production
would
have an HR strategy that is focused upon implementing
decisions of
the line management. In these organizations, compensation
plays a
subordinate role to other human resource system.
3) Compensation Philosophy: Compensation management
seeks to
link individual and the organization through an employment
relationship in such a way that the organization achieves its
objectives
and strategy effectively and employee gets compensated well
for
making it possible. Compensation management in any
organizations
an integral part of effective human resource management.
Compensation management is essentially based on human
dimensions and its success is closely linked with how
organizations
create opportunities for economic, social and psychological
growth of
employees in the course of attainment of organizational
objectives and
strategy.
4) Compensation Philosophy: An organization's
compensation policy
and practices, by rewarding desired results, can reinforce
employee
behavior that realizes its strategic business objectives.
Compensation
HUMAN RESOURCE MANAGEMENT
policy is specified by the organization with focus on creating a
flexible,
competitive and performance oriented compensation
environment that
allows the organization to recruit and manage employees in the
face of
future challenges. The compensation policy addresses the
issues
pertaining to the basis of determination of total compensation
package
keeping in view internal and external factors.
5) Job Evaluation: Job evaluation is a technique of
determining the relative
worth of jobs within an organization for the purpose of
determining
appropriate compensation levels for individual jobs or job
elements. Many
techniques of job evaluation are available and depending on
the needs
and requirements of an organization, appropriate techniques
can be
employed.
6) Design and implementation of compensation system:
Designing and
implementing compensation systems involves compensation
levels,
compensation level, and compensation structure and
compensation
payment system decisions. First, compensation level decision
determines
whether an organization will have a lead, lag, or match policy.
Compensation decisions made by organizations can
significantly impact
individual and group level consequences including
performance, skill
development, work related attitudes, and workforce
composition. Second,
compensation structure decision determines the minimum and
maximum
levels of compensation and market place rate and finally, the
division of
total compensation amount into fixed and variable
compensation. Once,
these decisions are taken, compensation plans and systems are
implemented.
7) Evaluation and review: Since compensation is a dynamic
concept,
therefore, it must be evaluated in terms of employee
satisfaction, morale
and productivity indices and suitable review should be made
from time to
time.
8.9 Classification Of Compensation Management
Compensation of employees can be categorized in to two
categories. The
two categories are:
i) Base or primary compensation;
ii) Supplementary compensation.
Base Compensation: - Base compensation refers to the basic
pay/wage in
the form of wages and salaries. It is a fixed and exclusive
incentives paid on the
bais of time spent in the employment activities.
Supplementary compensation: Supplementary
compensation includes of
incentive and different kind of payment depending upon either
individual
employee's caliber or the productivity of the group of employed
persons.
CompensationManagementisaconceptwhe
reemployee's
compensation/wages and salaries of employees are
administered in a
systematic and scientific way. This concept includes
compilation and
implementation of rational policies related to wages and
salaries and other
allied benefits of employee compensation. It also deals with
evaluation of job
in-terms of monetary benefits, conduct of survey towards, the
wages and
salaries, development and administration of wage structure,
the terms,
conditions and specific norms for administration of wages,
implementation of
democracy and other incentives and control of payroll costs.
Compensation
management is a concept where employee's compensation
/wages and
salaries of employees are administered in a systematic and
scientific way.__