Compensation: Market – What is it?
From a compensation standpoint the market is the range of pay for a set of organizations with which your organization competes for talent. The characteristics of the organizations that make them part of your market can include the following.
- Commercial Businesses
- Non-Profit Organizations
- Government Organizations
- Annual Revenue
- Number of Employees
The definition of your market may include a combination of these characteristics. The market for commercial businesses generally only includes other commercial businesses. The market for non-profits and governments may also include commercial businesses as it may be necessary to compete with these businesses for specific talent.
The size of the organizations in your defined market is fundamental characteristic. Higher level positions in larger organizations pay more than similar positions in smaller organizations. As an organization increases in size the scope of responsibility increases for management positions as they manage more assets of the company. The same is not true of lower level positions. The pay for non-exempt positions is not affected by the size of the organization. The same is true for most individual contributor positions.
Your organization will most likely source talent locally for lower level positions. It may be necessary to source talent regionally or nationally for higher level positions or positions that are in high demand. Defining your market as local for positions below a specific grade and national for those positions above a specific grade is quite often the appropriate course.
A unique situation exists where pay rates in the local market are higher than national pay rates. In this case the proper market definition is local for all positions.
To complete your market definition you also need to decide where to target your pay. Historically the midpoint of the market data was the target. I advise against this. See my earlier article Compensation Calibration Using Range Ratio for a better way to develop pay ranges using a lower percentile at which you target your range minimums and a higher percentile for your range maximums target. Thus “the market” is the range of pay between X percentile and Y percentile. The midpoint of the data collected in surveys is not the market.
The market is the minimum of your pay range up to the maximum of your pay range. All employee pay within the range is “in the market”.
The range midpoint is just a mathematical mean with no intrinsic value. It’s simply halfway between the bottom and the top. Shoving employees with lower-level qualifications toward a midpoint is senseless and results in money ill spent. It is better for both company and employee if the employee’s pay increases as the employee’s demonstrated qualifications increases and as performance enhances. Employees who continue to perform have the entire range available to them. There is no value in throwing employee pay toward the midpoint nor is there value in retarding employee pay above the midpoint.
A special note about geographic differentials: they are often different for different pay levels. I did a study for a client headquartered in Austin and which had offices in many US locations. I compared pay in the other locations to those in Austin. The following chart shows what the Cost of Labor would be in the other locations as a percent of Austin pay.
|Austin Pay Rates|
|Percent Difference Vis-a-vis Austin Pay Rates||Avg|
|San Francisco, California||131%||129%||127%||124%||122%||120%||119%||117%||115%||115%||121%|
The average Cost of Labor in Lancaster was 95% of that in Austin. If pay ranges were set up for Lancaster at 95% of the ranges for Austin, the lower ranges would be 9% below market and the upper ranges would be 3% above market. Springfield would be 14% below for the lower grades and 4% above for the higher grades.