1. Human Resource Management Gaining a Competitive Advantage
Chapter 12
Recognizing Employee Contributions with Pay
McGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, All Rights Reserved.

2. How Does Pay Influence Individual Employees?
Reinforcement Theory - A response followed by a reward is more likely to recur in the future.
Expectancy Theory - Motivation is a function of valence, instrumentality, and expectancy.
Agency Theory -The interests of the principals (owners) and their agents (managers) may no longer converge.
Types of agency costs include:
perquisites
attitudes towards risk
decision-making horizons
The Reinforcement Theory—In Thorndike's Law of Effect, a response followed by a reward is more likely to recur in the future. The importance of a person's actual experience in receiving the reward is critical. If high performance is followed by a reward, high performance is likely to be repeated.
The Expectancy Theory—This theory says that motivation is a function of valence, instrumentality, and expectancy.
The Agency Theory—This theory focuses on divergent interests and goals of the organization's stakeholders and the ways that compensation can be used to align these interests and goals.

3. Programs for Recognizing Employee Contributions
Programs differ by payment method, frequency of payout, and ways of measuring performance.
Potential consequences of such programs are performance motivation of employees, attraction of employees, organization culture, and costs.
Contingencies that may influence whether a pay program fits the situation are management style, and type of work.
Table 12.1 in the text provides an overview of some programs and potential contributions. The programs differ by payment method, frequency of payout, and ways of measuring performance. Potential consequences of such programs are performance motivation of employees, attraction of employees, organization culture, and costs. Contingencies that may influ­ence whether a pay program fits the situation are management style, and type of work.
Merit Pay
Incentive Pay
Skill-based
Profit Sharing
Gain Sharing
Ownership

4. Merit Pay
Merit pay programs link performance-appraisal ratings to annual pay increases.
A merit increase grid combines an employee’s performance rating with the employee’s position in a pay range to determine the size and frequency of his or her pay increases.
Some organizations provide guidelines regarding the percentage of employees who should fall into each performance category.
Merit pay programs, annual pay increases are usually linked to performance appraisal ratings. The size and frequency of pay increases are most often deter­mined by performance rating (since better‑performing employees should be rewarded more than low performers) and position in range (compa‑ratio). Table 12.3 in your text indicates how compa‑ratio targets and performance ratings might be combined.

5. Merit Pay
Edward W. Deming, who is a critic of merit pay, argues that it is unfair to rate individual performance because "apparent differences between people arise almost entirely from the system that they work in, not the people themselves.”
Criticisms of merit pay include:
The focus on merit pay discourages teamwork.
The measurement of performance is done unfairly and inaccurately.
Merit pay may not really exist.
Deming, who is a critic of merit pay, argues that it is unfair to rate individual performance because "apparent differences between people arise almost entirely from the system that they work in, not the people themselves." Examples of system factors are co‑workers, the job, materials, equipment, customers, management, supervision, and environmental conditions. These factors are the responsibility of management.

6. Individual Incentives
Individual incentives reward individual performance, but payments are not rolled into base pay, and performance is usually measured as physical output rather than by subjective ratings.
They are relatively rare because:
Most jobs have no physical output measure.
There are many potential administrative problems.
Employees may do what they get paid for and nothing else.
They typically do not fit in with the team approach.
They may be inconsistent with organizational goals.
Some incentive plans reward output at the expense of quality or customer service.
Individual incentives reward individual performance, but payments are not rolled into base pay, and performance is usually measured as physical output rather than by subjective ratings. Monetary incentives increased production by 30 percent in a study by Locke. Individual incentives are relatively rare.

7. Where’s the Merit Pay Payoff?
Jeffrey Pfeffer (Stanford) argues that idea that individual pay for performance will enhance org performance rests on set of assumptions that do not hold in vast majority of orgs
“Merit pay is not based on merit”
Perf appraisals biased
Pay increases not enough to motivate ees, but are enough to irritate them
In effect, for vast majority of ees, merit increases are unevenly distributed cost-of-living and market-adjustment increases couched in language of performance rewards
But, high levels of differentiation destroy engagement, breed distrust, and undermine teamwork
Higher turnover, lower quality, serious ethical breaches
“Effective management is a system, not a pay plan. The mistake is that companies try to solve all their problems with pay.”
Evidence suggests group bonuses, profit sharing, and gain sharing are more effective forms of performance-based pay than merit pay or individual incentives
Source: Workforce Management, 11/3/08

8. Profit Sharing
Under profit sharing, payments are based on a measure of organization performance (profits), and payments do not become a part of base pay.
The advantage is that profit sharing may encourage employees to think more like owners.
The drawback is that workers may perceive their performance has little to do with profit but is more related to top management decisions over which they have little control.
Under profit sharing, payments are based on a measure of organization performance (profits) and do not become part of the employees’ base salary. An advantage is that profit sharing may encourage employees to think more like owners and take a broad view of what needs to be done, labor costs are reduced in difficult economic times, and organizations may not have to rely on layoffs. A second advantage is that because payments do not become part of base pay, labor costs are automatically reduced during difficult economic times, and wealth is shared during good times. The drawback is that workers may perceive their performance has little to do with profit but is more related to top management decisions over which they have little control. Another motivational problem is that most plans are deferred.

9. Ownership
Ownership encourages employees to focus on the success of the organization as a whole, but, like profit sharing, ownership may be less motivational the larger the organization.
One method to achieve employee ownership is through stock options, which give employees the opportunity to buy company stock at a previously fixed price.
Employee stock ownership plans (ESOPs) are employee ownership plans that give employers certain tax and financial advantages when stock is granted to employees.
ESOPs can carry significant risk for employees.

10. Gainsharing
Gainsharing programs offer a means of sharing productivity gains with employees, and are based on group or plant performance that does not become part of the employee’s base salary.
Conditions that should be in place for gainsharing to be effective include:
management commitment
a need to change or a strong commitment to continuous improvement
management's acceptance and encouragement of employee input

11. Balanced Scorecard
Some companies find it useful to design a mix of pay programs.
The four categories of a balanced scorecard include:
financial
customer
internal
learning and growth
Some companies find it useful to design a mix of pay programs. Relying exclusively on merit pay or individual incentives may result in high levels of work motivation but unacceptable levels of individualistic and competitive behavior and too little concern for broader plant or organization goals. Table 12.7 in your text shows how a mix of measures might be used be a manufacturing form to motivate improvements in a balanced set of key business drivers.

12. Gordon Bethune, CEO, Continental Airlines:
“Bottom-Up Pay”
Some companies (~20%) tie executive compensation to Ee satisfaction data
Similar to faculty merit pay???
Gordon Bethune, CEO, Continental Airlines:
“Being an effective leader and having a company where people enjoy coming to work is not a popularity contest. When you run popularity contests, you tend to do things that may get you more points. That may not be good for shareholders and may not be good for the company.”
Source: Wall Street Journal, 4/6/00

13. Matching Pay Strategy and Organization Strategy
Pay Strategy Dimensions
Risk sharing (variable pay)
Time orientation
Pay level (short-run)
Pay level (long-run potential)
Benefits level
Centralization of pay decisions
Pay unit of analysis
Concentration
Low
Short-term
Above market
Below market
Centralized
Job
Growth
High
Long-term
Below market
Above market
Decentralized
Skills
Organization Strategy and Compensation Strategy: A Question of Fit— In choosing a pay strategy, one must consider how effectively it will further the organization’s overall over all business strategy. Table shown on this slide and found in your text suggests some matches of strategies.