McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved The Benefits Determination Process Chapter 12

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved What Are Employee Benefits? That part of the total compensation package, other than pay for time worked, provided to employees in whole or in part by employer payments, e.g. life insurance, pension, workers’ compensation, vacation, holidays...

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.1: Changes in Benefit Costs Over Time Percentage of Payroll (total)

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Benefit Costs  U.S. Chamber of Commerce reports benefit costs averaged 39% of payroll in 2001  Typical payroll dollar:  61.0 cents in wages  11.0 cents in medical benefits ($5,415/Ee)  10.9 cents in time not worked  8.2 cents in legally required payments  8.0 cents in retirement and savings contributions  1.0 cent in other costs

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Benefit Costs  In 2001: Er size$/Ee on Benefits <10013, , ,991 1,000-2,49918,910 2,500+18,308

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Health Care Costs and Firm Competitiveness  In 2004, health-care spending amounted to over $1,500 for every vehicle GM produced in U.S. (Chrysler, $1,400; Ford, $1,100)  American workers on average pay ~32% of their health costs, GM salaried ees ~27%, UAW members ~7%  Current ees and families account for 1/3 of total health bill, retirees the remainder  Competition prevents passing on cost to customers  Japanese competitors have younger workforces with lower costs  As of 2003, Big Three had 524,000 hourly retirees, Toyota 49 (258 as of 2006)  Expense impacts bottom-line and investment in R&D  See also “As Benefits for Veterans Climb, Military Spending Feels Squeeze,” Wall Street Journal, 1/25/05  Adding prescription drug benefit to Medicare will save automakers millions  Companies lobbied for legislation that would cover all over 65, even those with retiree health coverage thru Er  GM spends $924 million annually on prescription drugs for retirees, including those under age 65, Ford spends $300 million Source: Fortune, 9/29/03; Wall Street Journal, 4/7/05, 4/15/05; New York Times, 5/19/06

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Wage and Price Controls Unions Employer Impetus Government Impetus Cost Effectiveness of Benefits Why the Growth in Employee Benefits?

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Strategic Reasons for Offering Benefits  Help attract employees  Help retain employees  Elevate the image of the organization with employees and other organizations  Increase job satisfaction

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Value of Employee Benefits  Employees...  Expect benefits as part of their total compensation  Do not understand true value of benefits  Often undervalue their benefits  Often take benefits for granted  Often cannot list all benefits received  Have preferences regarding types of benefits they want

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.2: Ranking of Employee Benefits

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved  How much total compensation, including benefits, should be provided?  What is the relative role of benefits in a total compensation package?  What is expected from benefits?  What is an appropriate mix of benefits?  Which employees should be given/offered which benefits?  How do benefits aid in minimizing turnover or maximizing recruitment and retention of employees?  What strategies can be used to ensure external competitiveness of benefits?  Can benefits be cost justified? Key Issues: Benefit Planning and Design

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Four Major Administrative Issues Key Issues: Benefit Administration 1 1 Who should be protected or benefited? Exhibit 12.3 Series of questions need to be addressed Who should be protected or benefited? Exhibit 12.3 Series of questions need to be addressed 2 2 How much choice should employees have among an array of benefits? Exhibit 12.4 & Exhibit 12.5 Issues associated with flexibility How much choice should employees have among an array of benefits? Exhibit 12.4 & Exhibit 12.5 Issues associated with flexibility 3 3 How should benefits be financed? Noncontributory Contributory Employee financed How should benefits be financed? Noncontributory Contributory Employee financed 4 4 Are benefits legally defensible?

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.3: Contingent Worker Benefits Compared to Full-Time Workers

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.4: Possible Options in a Flexible Benefit Package

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.5: Advantages of Flexible Benefits  Employees choose packages that best satisfy their unique needs.  Flexible benefits help firms meet the changing needs of a changing workforce.  Increased involvement of employees and families improves understanding of benefits.  Flexible plans make introduction of new benefits less costly.  Cost containment: Organization sets dollar maximum; employee chooses within the constraint.

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Exhibit 12.5: Disadvantages of Flexible Benefits  Employees make bad choices and find themselves not covered for predictable emergencies.  Administrative burdens and expenses increase.  Adverse selection: Employees pick only benefits they will use; the subsequent high benefit utilization increases its cost.  Subject to non-discrimination requirements in Section 125 of the Internal Revenue Code.

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Financing Benefits Plans: Alternatives  Non-contributory  Employer pays total costs  Contributory  Costs shared between employer and employee  Employee financed  Employee pays total costs for some benefits  By law the organization must bear the cost for some benefits

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Benefits Package Employer Factors 1. Relationship to total compensation costs 2. Costs relative to benefits 3. Competitor offerings 4. Role of benefits in: Attraction Retention Motivation 5. Legal Requirements Employee Factors 1. Equity: fairness historically and in relationship to what others receive 2. Personal needs as linked to: Age Sex Marital status Number of dependents Exhibit 12.6: Factors Influencing Choice of Benefit Package

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Communicating about the benefits program 2 2 Claims processing 3 3 Cost containment Three Administrative Issues Administering the Benefits Program

McGraw-Hill/Irwin © 2005 The McGraw-Hill Companies, Inc. All rights reserved Trends Related to Cost Containment  Probationary periods  Benefit limitations  Copay  Administrative cost containment  Retaining strategic function internally  Significant movement to outsourcing