Strategic Reward Systems
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Transcript of Strategic Reward Systems
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Strategic Reward Systems
HR Management
Mahesh
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Mahesh
Strategic Reward Systems :
Pay for Performance
Financial Rewards Compensation
1. Base Salary
2. Pay Incentives
3. Employee Benefits
Reward Systems consist of the following
elements:
Reward Systems consist of the following
elements:
Non-financial Rewards1. Intrinsic Rewards centers on the work itself
2. Praise, recognition, time off and other rewards given
to the employee by peers or superiors.
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Strategic Reward Systems :
Pay for Performance
Reward Systems in most cases should be
consistent with other HR systems.
The Reward System is a key driver of:
HR Strategy
Business Strategy
Organization Culture
Mahesh
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Mahesh
Strategic Reward Systems :
Need for Consistency with Other HR Systems
Culture
Performance
Management
Employment
Training
Labor
Relation
s
Rewards
Overtime
pay rules incontract
Sign-on Bonus
Merit Pay
Merit pay reinforces
performance culture
Skill-based pay
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Mahesh
Strategic Reward Systems
Critical Thinking Question:
1. Should pay policies lead or lag the
development of other HR systems?
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Theoretical Models of Pay and Performance:
Equity theory (Adams, 1963)
Assumptions:
People develop beliefs about what is a fair
reward for ones job contribution - an exchange
People compare their exchanges with their
employer to exchanges with others-insiders and
outsiders called referents
If an employee believes his treatment isinequitable, compared to others, he or she will
be motivated to do something about it -- that is,
seek justice.
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Theoretical Models of Pay and Performance:
Equity theory (Adams, 1963)
Is/Os versus Ir/Or
O = Outcomes: the type and amount of
rewards received I = Inputs: employees contribution to
employer
R = Referent: comparison person S = Subject: the employee who is judging
the fairness of the exchange
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Equity Theory Exchange Scenarios
Case 1: Equity -- pay allocation is perceived to
be to be fair - motivation is sustained
Case 2: Inequity (Underpayment) -- Employee
is motivated to seek justice. Work motivation isdisrupted.
Case 3: Inequity (Overpayment) -- Could be
problem. Inefficient. In other culturesemployees lose face.
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Consequences of Inequity
The employee is motivated to have an equitable
exchange with the employer.
To reduce inequity, employee may Reduce inputs (reduce effort)
Try to influence manager to increase outcomes
(complain, file grievance, etc.)
Try to influence co-workers inputs (criticize others
outcomes or inputs)
Withdraw emotionally - or physically (engage in
absenteeism, tardiness, or quit)
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Equity Theory Implications
There is tension between internal and external
pay equity: Decide where to place the
emphasis. Example: In and out versus
lifelong employment system Let employees know who their pay referents are
in the pay system: identify pay competitors and
internal pay comparators.
Strive for consistent pay allocations
Monitor internal pay structure and position in the
labor market for consistency.
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Agency Theory
Agency theory is a theory of governance in the
workplace.
It tries to solve the problem of separation of
ownership (atomistic shareholders) and control(professional executives and non-owners)
It also tries to solve conflicts of interest between
managers and employees with delegatedresponsibilities.
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Agency Theory
1. Principals = owners or managers who delegate
responsibilities
2. Agents = managers or employees who manage
firm assets for owners or other principals.
3. Information asymmetry = managers or other
agents have greater access to strategic
information than principals, who are not willingto bear the cost of directly monitoring the
agents due to steep agency costs.
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Agency Theory
4. Risk Preferences principals are risk neutral
and willing to bear greater risks than agents
because their asset wealth is more likely to be
diversified between corporate assets and otherequities/investments. Agents are more risk
averse than principals, because most of their
wealth is concentrated in the firm and received
in the form of pay and opportunities forpromotion.
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Agency Theory
5. Moral Hazard agent is tempted (and some
cases succeeds) in taking advantage of
information asymmetry with principal and act
opportunistically (defined as making decisionsnot aligned with principals interests) and use
the firm resources to maximize wealth of the
agent (often at the expense of the principal).
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Agency Theory
6. Agency Contract provides solution to moral
hazard/agency problem, by establishing rules
of the game to control agent opportunism
agents performance will be judged byoutcomes (often financial benchmarks) not
behaviors (which require direct supervision of
agents actions). These outcomes will reflect
principals goals and risk preferences.
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Agency Theory
7. Incentive alignment the agency contract will
specify a compensation plan that aligns the
interests of the principal and agent. This
agency contract will be a type of pay forperformance plan. Meeting or exceeding pre-
agreed upon financial or non-financial outcomes
triggers various forms of compensation
(individual or group-based) for the agent. Someagency costs are borne by the principal in the
form of financial incentives for the agent.
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Tournament Theory
1. Tournaments are competitions between peers to
achieve a promotion to a higher rank along with
the pay and perks that go with it.
2. Tournaments are likely to result in a winnertake all outcome.
3. Managers who enter the tournament must
forego other alternatives (such as jobs withother firms, start own business, receive more
pay with an alternative opportunity) to compete
in the tournament.
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Tournament Theory
4. A high pay differential (such as the CEO
receiving much greater pay than any
subordinates) attracts more players to the
tournament.5. Players must invest (work long hours, accept
less pay, show loyalty to their boss) to enter the
tournament firm captures value from these
players, more than what it gives up to the
winner for the prize.
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Controversies that Surround Pay for
Performance Plans
1. Single Mindedness you get what you pay
for no more, no less. The activities that are
rewarded get done, to the exclusion of other
activities that are not rewarded. Example: Thedysfunctional behaviors that are observed when
a sales representative is put on straight
commission.
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Controversies that Surround Pay for
Performance Plans
2. Control externalities can control the
outcomes, positive or negative. There can be
windfall affects (the bull market improving the
stock value of all stock options) or negativeexternalities (a bear market or recession that
lowers the value of all stocks). Employee
performance results may be magnified or
diluted by these effects.
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Controversies that Surround Pay for
Performance Plans
3. Measurement error some measures can be
gamed or manipulated and may not reflect
true performance. Sales reps can withhold
sales and report it in a different period so theyare not penalized by a cap on sales
commissions. Managers can use creative
accounting measures to report greater profits
than were actually experienced by the firm.
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Controversies that Surround Pay for
Performance Plans
4. Inflexibility managers or employees may
resist change of the basis of compensation
because they are comfortable with current basis
for pay and want to avoid risk of takingreduction in earnings in new system.
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Controversies that Surround Pay for
Performance Plans
5. Misalignment of incentives if pay emphasis is
on a goal that is no longer relevant, that goal will
continue to be emphasized until the pay system
places emphasis on a different objective.For example, managers may emphasize short-term
goals, even if long-term goals are more relevant,
until the pay system recognizes long-term goals
to a greater extent than short-term goals. The
reward mix for complex jobs with several goals
must reflect the relative value of attaining the mix
of goals.
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Controversies that Surround Pay for
Performance Plans
6. Line of Sight problem - division performance
and corporate performance should be reflected
in the pay system. If division performance and
corporate performance are closely linked thanboth division and corporate performance should
contribute incentives to the managers pay for
performance plan. If division performance is
independent of corporate performance, then theemphasis should be on rewards for meeting
division goals.
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Some Suggestions for More Effective Pay For
Performance Plans
Pay and Performance should be Loosely
Coupled this gives managers more flexibility
to make changes when new situations arise.
Example: a formula with a bonus based on amoving average of a 3-year historical
performance period. A 3-year period smoothes
out performance over a longer cycle.
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Some Suggestions for More Effective Pay For
Performance Plans
It is Necessary to Nurture the Belief that
Performance Makes a Difference there are
important cultural values that are supported with
pay for performance even if the accuracy of theperformance metrics and the fairness of the pay
allocations fall short of an ideal situation.
Abandoning pay for performance may be more
problematic than having an imperfect paysystem.
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Some Suggestions for More Effective Pay For
Performance Plans
Pay for Performance systems should be
designed to fit each firms unique situation
imitation of other firms plans should be avoided
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Six Myths about Pay (Pfeffer, 1998)
1. Labor rates and labor costs are the same thing.
2. Labor costs can be reduced by lowering labor
rates.
3. Labor costs are a significant portion of total costs.
4. Low labor costs are a potent source of competitive
advantage.
5. The most effective way to work productively isthrough individual incentive compensation.
6. People work primarily for money.