InfoWave Knowledgeware

COMPENSATION BASICS

Compensation is the value that an employee receives in the form of either money or benefits in return for the performance/efforts put by him.

An organization exists to accomplish specific goals and objectives.  Individuals are hired to achieve these goals.  At the same time these individuals have their own needs for joining the organization.  These needs could be in terms of money or goods and/or goods and/or services.  Working for an organization satisfies the security needs of an individual initially and gradually helps him climb the motivational ladder.  This thing which the employer provides to the employee is called the compensation system.

Compensation system should

·         Make the employee realize the major objectives of the organization.

·         Help in attracting and retaining talent that an organization needs.

·         Encourage employees to develop the skills and abilities that they need to perform the job.

·         Motivate employee to perform effectively.

·         Create the type of culture the organization seeks to engender

Compensation systems consist of many elements in addition to pay for work, these components must be coordinated to work together.  Employees’ compensation is a major cost of doing business.  A wide variety of federal and state regulations effect Compensation systems. Employees, either directly or through collective bargaining arrangements, may desire to participate in the determination of compensation.

The cost of living varies tremendously in different geographic areas, an important consideration for forms with multiple locations.

In most organizations the compensation systems involves a multifaceted package, not just pay for work and performance.  The components of compensation system can be roughly divided into direct (wages) and indirect (benefits).  This can be better understood from the model below.

As can be seen in the figure compensation system is divided into direct and indirect pay.

Direct pay:

All forms of direct (i.e. cash) compensation made to employees in exchange for their contribution to an organization is called direct pay.

The Direct Component Of Compensation system is:

Base pay – Base pay comprises of two parts salary and wage.  Salary is given to permanent employees while ages are given for menial works.

Merit pay – An incentive plan implemented on an institutional wide basis to give all employees an equal opportunity for consideration, regardless of funding source.

Incentive Pay – incentive pay comprise of:

·         Bonus – it is primarily one shot reward for excellent work with no commitment to future payout.

·         Commission-Generally given when an employee exceed the bench marked output.

·         Piece rate – it gives payment for each item produced.

·         Profit sharing – Profit sharing, when used as a special term, refers to various incentive plans introduced by businesses that provide direct or indirect payments to employees that depend on company’s profitability in addition to employees’ regular salary and bonuses.

·         Stock option – A stock option is a specific type of option that uses the stock itself as an underlying instrument to determine the option’s pay-off (and therefore its value). Thus it is a contract to buy (known as a “call option”) or sell (known as a “put option”) a certain number of shares of stock, at a predetermined or calculable (from a formula in the contract)price.

·         Shift differentials-Typically; shift differential pay is approved for positions in departments that require around-the-clock coverage or operations that consistently require late evening coverage.  At the discretion of the supervisor, shift differential can be approved for shifts in which 50 percent or more of the scheduled work hours are between 2 p.m. and 8.a.m.  Shift differential is paid on an hourly basis for all regularly scheduled hours worked on a shift that has been approved for shift differential.  Shift rate differentials are established for evening and night shifts.

Deferred Pay is also a component of direct pay.  It comprises of:

·         Saving Plan-A plan that allows employees to contribute to an investment pool managed by an employer.

·         Stock purchase-many large companies offer Employee stock purchase plans (ESPP) that let you buy your employer’s stock at discount.  These plans are offered as an employment incentive, giving you an opportunity to share in the growth potential of your company’s stock (and by implication, work hard to keep the stock price soaring)

·         Annuity-Refers to contract offered by insurance companies which allows you to save funds for retirement on a tax-favoured basis and then if you choose, receive a guaranteed income payable for life or for a certain period such as five or ten years.

Indirect pay

All forms of non direct 9i.e. non cash) compensation made to employees in exchange for their contribution to an organization is called indirect pay.

Indirect pay comprises of:

·         Medical benefits-In order to bring down the rapid increases in health insurance costs, organizations are increasingly establishing fitness programs and facilities to help the employees stay in good physical conditions.

·         Life Insurance – Insurance is an important way to provide a true sense of security to the employee.  He feels relieved knowing that even if he meets a mishap, his family will not be deprived of any benefits.

·         Pension – An employee feels valued when he gets pension.  It makes him feel that he’s an valuable employee for the organization even after he has retired.

·         Social security – It keeps an employee happy and a sense of security.

·         Vacation, holiday and sick leave – At lower levels employees are usually allowed a certain amount of paid sick days in addition to vacation and holiday.  At the higher levels salaried employees may have fewer sick days but for managers and executives the norm against work absence is so strong that the concept of sick days may be meaningless.

·         Recreational facilities, car, low cost or free meals – These are also some of the indirect benefits that an employee gets from the employer.

Theories affecting Compensation:

Organizations frequently make the mistake of thinking that the primary motive of working is money.  To an extent it may be true but not entirely because if it was entirely true then why several workers at various companies objected to working overtime.  Many factors influence an employee in his performance and his satisfaction with his work.  Some reward that successfully motivates certain workers does not work for others.  The equity and expectancy theories can explain employees’ reaction to compensation systems.