Understanding Compensation Merit Cycles: Adding Value to Businesses and Employees

Understanding Compensation Merit Cycles: Adding Value to Businesses and Employees

By Geoffrey Griffard

In the world of Compensation Management, merit cycles play a crucial role in determining how employees are rewarded for their performance and contributions.  In this article, we will provide you with a straightforward and general overview of what a merit cycle is, how businesses of all sizes utilize merit cycles to compensate their employee population, how they differ for different employee populations, and the objectives of merit cycles and processes and how they add value to businesses and employees.

What is a Merit Cycle?  A merit cycle refers to a systematic process in which organizations assess employee performance, provide feedback, and make decisions about salary increases or adjustments.  It typically occurs annually or on a regular basis and serves to recognize and reward employees based on their performance and contributions to the organization.

Utilization of Merit Cycles in Businesses:  Both large corporations and small businesses utilize merit cycles as a structured approach to compensation.  Here’s how they are commonly used:

  1. Performance Evaluation: Merit cycles provide a framework for evaluating employee performance against predetermined goals and objectives.  Management assesses various factors of each employee such as job proficiency, achievements, teamwork, and leadership skills.
  2. Salary Increases: Based on performance evaluations, merit cycles determine salary increases or adjustments for employees.  The percentage increase may vary depending on factors like performance ratings, market competitiveness, promotion timelines, and available budgets.
  3. Differentiation of Rewards: Merit cycles allow businesses to differentiate rewards based on individual performance.  High-performing employees may receive larger salary increases, while low performers may receive smaller or no increases.  There are numerous factors, such as where the employee sits in the range and tenure, which factor into the analysis.


Merit Cycles for Different Employee Populations:  Merit cycles can differ based on the employment status and job roles of employees.  Here are some examples:

  1. Hourly Employees: Merit cycles for hourly employees may focus on factors like attendance, punctuality, and productivity.  Increases in their base pay rates are typically based on performance evaluations and market benchmarks.
  2. Exempt Employees: Exempt employees, such as salaried professionals or Managers, often participate in merit cycles based on their job responsibilities and performance evaluations.  Their salary adjustments may also consider market competitiveness and internal equity.
  3. Non-Exempt Employees: Non-exempt employees, typically paid on an hourly basis, may participate in merit cycles that determine increases in their hourly rates.  Performance evaluations may consider factors like job proficiency, teamwork, and adherence to company policies.
  4. Executives: Merit cycles for executives often involve more complex considerations.  Apart from individual performance, they may be assessed based on their leadership capabilities, strategic impact, and achievements tied to organizational goals.  Executives typically have Long-term Incentives (LTIs) which are considered as part of their Total Compensation package.


Objectives and Value of Merit Cycles:  The primary objectives of merit cycles and their associated processes are as follows:

  1. Performance Recognition: Merit cycles provide a structured mechanism to recognize and reward high-performing employees.  This acknowledgment boosts employee morale, motivation, and job satisfaction.
  2. Retention and Engagement: Merit cycles serve as a tool to retain top talent within the organization.  By linking salary increases to performance, employees are incentivized to continue contributing to the company’s success.
  3. Fairness and Equity: Merit cycles promote fairness and equity within the organization. Employees are evaluated based on their individual performance, ensuring that rewards are distributed objectively.
  4. Alignment with Business Objectives: Merit cycles align employee performance and compensation with the organization’s strategic goals.  By linking rewards to the achievement of objectives, employees are motivated to contribute towards the company’s success.
  5. Attracting Talent: Companies with robust merit cycles and a reputation for fair compensation can attract top talent seeking recognition for their performance.


Merit cycles are integral to compensation management, providing a structured approach to recognizing and rewarding employee performance.  Whether it’s a large corporation or a small business, merit cycles allow organizations to differentiate rewards based on individual contributions, promote fairness and equity, and align compensation with business objectives.  By implementing effective merit cycles, businesses can enhance employee engagement, retention, and overall organizational success.