OverviewManagement in many companies ask their human resource practitioners at some point in their careers to create a base pay structure from scratch or revise the existing structure to meet their changing needs. For those whose areas of expertise lie outside the compensation arena, such a project can seem challenging at best. HR Pro specializes in base pay structure creation or revisions. We use the latest market data to give you accurate data relevant to your positions within your organizations expertise.
We can build a market-based pay structure from scratch encompassing several major steps:
This comprehensive treatment walks through each of these MAJOR steps to develop a successful, complete pay structure.
Step 1: Gathering Background Information
Building anything of value requires a reason or business philosophy and strategy. To ensure success of the project and complete support from the top down, the project needs a plan that explains why the system is being built, what is to be built, how all the pieces fit together and what the expected end result is.
To build anything from scratch requires an architect to create a plan as well as a champion to guide and drive the process. That champion is HR PRO and we will serve as the catalyst to align decision makers and make available the resources needed to get the project completed. We pride ourselves on successfully aligning with the organization’s business philosophy, culture, vision, mission, values, resources and strategic objectives.
Building a pay structure from scratch requires the architect to articulate the compensation philosophy, clarify concepts that define the fundamental beliefs about the structure, and design and develop the strategy; and a champion to align decision makers, obtain buy-in from the top of the organization and execute the plan.
To accomplish this, HR Pro is clearly in the best position to serve as both the architect and to fill the champion role. Our first step in the process of building a pay structure is to articulate the organization’s compensation philosophy and strategy.
Defining the compensation philosophy
A well-designed compensation philosophy supports the organization’s strategic plan and initiatives, business goals, competitive outlook, operation objectives, and compensation and total reward strategies. At HR Pro we will assist your HR staff in developing a compensation philosophy that defines the following basic tenets:
Typically there are links between a strong compensation philosophy and an organization’s mission, core business, operating strategies and competitive outlook. For example, a high-tech organization, with core business strategy to attract and retain the top professional and managerial talent in the industry to outdistance competing organizations, might adopt a pay philosophy and strategy of leading the market with its total cash compensation package, or paying higher than other organizations in the industry.
In another example, a warehouse, distribution and retail organization that has low employee turnover and exists in a demographically contained community with a large labor pool might adopt a pay philosophy and strategy of offering a compensation and total rewards package that is valued less than a similar organization located 50 miles away in a highly competitive community with labor shortages and high employee demand issues. In this scenario, this organization adopted a philosophy of matching supply and demand conditions for its own community and set the policy to control cost.
Our professionals at HR Pro will help you to determine the best marketing strategy to meet your goals and needs of your organization. We will help you look at the following items to make sure you have an effective compensation philosophy that passes a quality test:
Management team buy-in
By virtue of its position in the organization, HR can best serve as the architect of and champion for articulating the organization’s compensation philosophy and strategy. To serve effectively in those roles, HR needs to develop a knowledge and understanding of the following:
HR Pro will help your HR staff understand those items in order for you HR team to provide the needed data to get your management team buy-in.
Some important questions to ask the leadership team in developing an organization’s compensation philosophy include the following:
By obtaining valuable input from the leadership team and by adopting a collaborative process to answer important strategy questions, human resources effectively creates the environment necessary to align and obtain concurrence and buy-in on a compensation philosophy from key decision makers. This does not happen overnight. Rather, one or two discussions of two to four hours each with key management team members will generate the necessary, diverging viewpoints that best represent consensus on how to link the compensation philosophy and policy to the organization’s mission, core business, operating strategies and competitive outlook necessary to be successful.
What data sources does HR Pro use?
It is rare to find one data source that meets all of an organization’s needs. Using multiple data sources is critical because it allows for cross validation and filling in information gaps. We use several industry practiced areas in ensure the data we use meets your needs.
Linking the surveys to the compensation philosophy
HR Pro uses a survey that allows for multiple cuts based on revenue category, industry and geography. We will work with you to determine which ones to use. Those decisions should tie back to the organization and its compensation philosophy and yield data that most closely match.
Geographic. Often, the geographic cuts used—national, regional or local—parallel an organization’s recruiting strategy. That is, organizations typically recruit nonexempt employees locally, so it makes sense to rely on local market data for these positions. On the other hand, organizations are likely to recruit nationally for executive positions. National data may be more appropriate for those jobs, except in a very low (e.g., rural areas or southeast United States) or a very high-cost of labor area (e.g., San Francisco and New York). In the case of these two cities, in which market rates tend to deviate significantly from the national, using city-specific or possibly regional data may be more effective.
Industry. Next, consider whether to use industry-specific or all-industry data, again referring back to the compensation philosophy. If the relevant industry is very competitive and employees often move among competitors, focus on industry-specific data, which may tend to be higher than all-industry data. In some organizations, particular positions may call for industry-specific data, such as IT positions in a high-tech company. For positions in other departments in the same company—e.g., finance, accounting and human resources—all-industry data cuts may serve the purpose because qualifications are not industry-specific.
Revenue category. Most companies tend to use data from organizations of a similar revenue size across all levels of positions. For a more precise assessment, however, some organizations focus on a select subset of similarly sized companies.
Applying statistical terms to the compensation philosophy
To determine the appropriate percentile to use when reviewing market data, we will consider the compensation philosophy.
Matching the market. To target the 50th percentile means that an organization wants to pay in the middle of all organizations that have a similar position. In other words, 50 percent of the organizations should be paying less than that market rate and 50 percent should be paying more than the market rate. “Matching the market” is the formal name for this approach.
Market leader. If an organization chooses to focus on the 75th percentile and take a “market leader” position, it will pay higher than 75 percent of other organizations with similar positions. Organizations competing for employees with specialized skill sets in a tight labor market or organizations that want to be a high payer in the market typically select a market leader position. Organizations with less robust variable compensation and/or benefits programs may also select a market leader base pay position to end up with an overall 50th percentile total compensation program.
Market lag. If an organization chooses to focus on the 25th percentile and take a “market lag” position, it will pay higher than only 25 percent of other organizations with similar positions. Organizations with strong variable compensation and/or benefits programs, or those encountering financial difficulties, may opt for a market lag position.
Lead-lag. As an additional variation, some organizations may choose to lead the base pay market for the beginning of the fiscal year and then lag at the end of that year. “Lead-lag” is the formal name for this approach to base pay management.
Step 3: Conducting the Market Data Analysis
After obtaining and preparing the data, we will begin the market analysis.
Benchmarking positions against the market
HR Pro will review for outliers. After pulling the various market data points, we will review the salary data for outliers (extreme data points on either end) and remove as appropriate:
We will then adjust as necessary. We will adjust data as needed including the following common data adjustments:
We will then create a market composite for each benchmark position.
We will review current pay rates against market data. We will review each benchmark’s current employee average pay rates against the target market data
Step 4: Developing the Pay Structures
We will use the composite market data to develop the actual pay structure by constructing job grades, building a market pay line and calculating the pay ranges.
Constructing job grades
A job grade or job level is simply a group of different jobs that are internally equivalent. Grades enable flexibility and internal equity in an organization by providing a framework in which equivalent jobs are treated equally for pay purposes. Grades also establish a promotional ladder for employees.
Step 5: Calculating the Costs of the Pay Structures
After creating the new pay grades and ranges, the next project step is to consider the financial impact of those ranges. One of several approaches provides HR and management with the necessary financial impact information:
The simplest but often most essential calculation is the bring-to-minimum adjustment. In this scenario, the financial model compares each employee’s current pay and his or her new pay range minimum. Employees with pay rates below the minimum receive an adjustment to the minimum of the pay range. These pay rates are also known as green circle rates. Employees with pay rates above the minimum receive no adjustment.
Comparisons of current employee pay and the new system midpoints determine compa ratios. The formula for compa ratio is current employee pay/current range midpoint. Compa ratios are useful for identifying at a glance which employees’ pay rates are below the minimum (green circled) and above the maximum (red circled), and which employees fall above or below the midpoint.
Step 6: Implementation and Evaluation
The organization’s salary structure policy ultimately will drive communication and training. The following issues should be included in the new compensation policy:
Depending on organization policy, HR may be the only one with access to the structures, or all managers and employees may have access. Organizations may operate anywhere along a communications continuum by deciding to restrict employee access to salary ranges entirely, allowing employees to view their own range, or permitting employees to examine their own range and the next highest range. Managers typically have access to all salary ranges or the salary ranges relevant to their team members. However, some organizations may decide that salary range information is too sensitive and, as a result, restrict it entirely.
Regardless of the target group, it is important to understand the goals of the communication process. These goals typically fall into one or more of the following categories:
HR Pro will help your HR Team tailor each communication based on the target audience and the communication goals. For example, the goal in communicating the new salary structures to the executive team may be to change a perception that a salary structure will bring unwanted bureaucracy or to get buy-in on the list of surveyed peer organizations or selected salary surveys moving forward. Communication to managers who will administer pay using the new structures might simply be to ensure understanding of effective dates, how to access the structures and how to effectively use the structures when hiring new or promoting current employees. Communication to employees who will be paid with the new structure must demonstrate the fairness, equity, competitiveness and link to business strategy.
Pulling it All Together – Final Thoughts on Compensation System Development
Building a pay structure from scratch is not an easy undertaking. There are many steps to do, many stakeholders to involve and much to research. Compensation system development is not only science but also art. HR Pro will help guide you through the process to give you a usable pay structure. Contact us to help you start the process today. HR Pro can create simple, easy to understand, yet sophisticated and fiscally sensitive pay structures that will serve the organization’s strategic needs now and in the future. There are few such rewarding opportunities to dramatically affect the organization’s strategy and the employee’s careers.Need more information? Click here to send us a request!
Market Based Pay Structure