Unlock document.
This document is partially blurred.
Unlock all pages and 1 million more documents.
Get Access
CHAPTER 7
Building Market-Competitive Compensation Systems
Learning Objectives
7-1. Explain the concept of market-competitive compensation systems and summarize the
four activities compensation professionals engage in to create these systems.
7-2. Discuss compensation survey practices.
7-3. Describe how compensation professionals integrate internal job structures with external
market pay rates.
7-4. Explain the basic concepts of compensation policies and strategic mandates: pay mix and
pay level.
Outline
I. Market-Competitive Pay Systems: The Basic Building Blocks
II. Compensation Surveys
III. Integrating Internal Job Structures with External Market Pay Rates
IV. Compensation Policies and Strategic Mandates
V. Key Terms
VI. Discussion Questions and Suggested Answers
VII. End of Chapter Case; Instructor Notes, and Questions and Suggested Student Responses
VIII. Crunch the Numbers! Questions and Suggested Student Responses
IX. Assisted-graded Questions
X. Additional Cases from the MyManagementLab Website; Instructor Notes, and Questions
and Suggested Student Responses
Lecture Outline
I. Market-Competitive Pay Systems: The Basic Building Blocks
A. Definition
1. Market-competitive pay systems represent companies’ compensation policies that
fit the imperatives of their competitive advantage
2. These systems play a significant role in attracting and retaining the most qualified
employees
3. Based on four activities
a. Conducting strategic analyses which entails an examination of a company’s
external market factors
b. Assessments of competitors’ pay practices with compensation surveys
c. Integrating the internal job structure with external market pay rates
d. Determining compensation policies
II. Compensation Surveys
A. Preliminary Considerations
1. Main considerations
a. What companies hope to gain from compensation surveys
b. Which type of survey to use
2. What companies hope to gain from compensation surveys
a. Competitors’ compensation practices
b. Employee’s preferences for alternative forms of compensation due to
economic changes
3. Custom development versus use of an existing compensation survey
a. Custom surveys preferable because the questions can be tailored specifically
for each company
b. Most companies choose not to develop own survey for three reasons:
i. Not always practical because of the specialized knowledge and skills
needed to develop effective ones
ii. Not always effective because businesses are reluctant to give information
directly to competitors
iii. The staffing and design costs can be prohibitive
B. Using Published Compensation Survey Data
1. Two important considerations
a. Survey focus: core or fringe compensation
b. Sources of published survey data
2. Survey focus: Core Compensation or Employee Benefits
a. Must decide on obtaining information about base pay, employee benefits, or
both
3. Sources of published surveys
a. Professional associations that survey members
b. Industry associations
c. Consulting firms who provide data from recently completed surveys or create
surveys from scratch for clients
d. Federal government through the Bureau of Labor Statistics
i. Employment cost trends: Program publishes quarterly statistics that
measure change in labor costs
ii. National compensation data: National Compensations Survey (NCS)
provides comprehensive measures of occupational earnings; compensation
cost trends, benefit incidence, and detailed plan provisions
iii. Wages by area and occupation: Available for the nation, regions, states,
and many metropolitan areas
iv. Earnings by demographics: Available for characteristics such as age, sex,
race, and Hispanic or Latino ethnicity
v. Earnings by industry: Current Employment Statistics survey is monthly
and provides estimates of average weekly hours and average hourly
earnings for the private sector for all employees and for production and
nonsupervisory employees
vi. County wages (quarterly census of employment and wages: Annual and
quarterly wage data are available
vii. Employee benefits national compensation survey: Provides information
on the share of workers who participate in specified benefits
viii.Compensation costs in other countries: International Labor Comparisons
Hourly Compensation Costs tables provide comparative hourly
compensation costs in national currencies and U.S. dollars for production
workers and all employees in manufacturing
C. Compensation Surveys: Strategic Considerations
1. Two essential strategic considerations
a. Defining the relevant labor market
b. Choosing benchmark jobs
2. Defining the relevant labor market
a. Relevant labor markets represent the fields of potentially qualified candidates
for particular jobs
b. Defined on the basis of occupational classification, geography, and product or
service market competitors
c. Occupational classification refers to a group of two or more jobs that are
based on similar work characteristics and responsibilities
d. Companies search a wider geographic area for candidates for jobs that require
specialized skills or skills that are low in supply
e. Companies use product or service market competitors to define the relevant
labor market when industry specific knowledge is key and competition for
market share is keen
3. Choosing benchmark jobs
a. Used as reference points for setting pay levels
b. Four characteristics
i. The contents are well-known, relatively stable over time, and agreed upon
by the employees involved
ii. The jobs are common across a number of different employers
iii. The jobs represent the entire range of jobs that are being evaluated within
a company
iv. The jobs are generally accepted in the labor market for the purposes of
setting pay levels
c. Necessary because matches between a company’s position to a position in a
survey is not always possible since:
i. Large companies may have hundreds of unique jobs
ii. Companies adapt job duties and scope to fit their specific needs
d. Companies use job leveling to make corrections for differences between their
jobs and external benchmark jobs
i. Point factor leveling is a job leveling approach where participants rate a
job based on a standard set of compensable factors that have point
values associated with each level of the factor
D. Compensation Survey Data
1. Three compensation survey data characteristics
a. Contains immense amounts of information
i. May be a wide variety of pay rates across companies, making it hard to
build market-competitive pay systems
ii. Statistics needed to describe large sets of data
b. The data is generally outdated because of the lag time between data collection
and use
c. Statistical analysis should be used to integrate internal job structures (based on
job evaluation points) with the external market (based on the survey data)
2. Data analysis
1. Begins with basic tabulation of survey data which helps organize data,
promotes decision makers’ familiarization with the data and reveals outliers
3. Using the appropriate statistics to summarize survey data
a. Central tendency represents the fact that a set of data cluster (or center)
around a central point
c. Two central tendency measures
i. Arithmetic mean which is calculated by adding all the salaries together
and dividing by the sum of number of salaries added
ii. Median is the meddle value in an ordered sequence of numerical data
4. Variation
a. Represents the amount of spread or dispersion in a set of data
b. Standard deviation refers to the mean distance of each salary from the mean
i. Used as a reference point to judge whether employees’ compensation is
below or above the market
ii. Indicates the range for the majority of salaries, so it can be used to judge
how a company’s salary range compares to the market
c. Quartile
i. Describe dispersion by indicating the percentage of figures that fall below
certain points
ii. Allows compensation professionals to describe the distribution of data
based on four points
Quartile 1 at 25%
Quartile 2 at 50%
Quartile 3 at 75%
Quartile 4 at 100%
d. Percentiles
ii. Describe dispersion by indicating the percentage of figures that fall below
certain points
ii. Based on 100 points
5. Updating the survey data
a. Necessary because of the lag-time between data collection and data use
b. Failure to adjust could lead to real compensation (purchasing power of dollar)
falls below nominal compensation (face value of dollar)
c. Consumer Price Index (CPI) which is the most commonly used method to
track cost changes can be used to update salary survey data
III. Integrating Internal Job Structures with External Market Pay Rates
A. Overview
1. Differences in the internal value of jobs should correspond to pay differences
based on compensation survey data
2. Regression analysis
a. Uses market pay rates as reference points for determining internal pay
structures
b. Enables decision makers to predict the values of one variable from another
c. Finds the best fitting line (market pay line) between two variables
i. Job evaluation points of benchmark jobs
ii. Salary survey data for the benchmark jobs
d. Equation
i. Y = a + bX
ii. Y = predicted salary
iii. X = job evaluation points
iv. a = the Y intercept: the Y value at which X = 0
v. b = the slope
Represents the change in Y for every change in the job evaluation
points
Represents the dollar value of each job evaluation point
e. R2
i. Tells how well the variation of jobs based on job evaluation points
explains the variation in market pay rates from the survey
ii. Ranges from 0 to 1
iii. Represents the percentage variation in Y values that can be explained by
the X values
Y = market pay rates
X = job evaluation points
iv. Values
R2 = 0 means that none of the variation in market pay rates can be
explained by the company’s job structure
R2 -= 1 means that all the variation in market pay rates can be
explained by the company’s job structure
R2 between 0 and .30 represents a small amount of variation
R2 between .31 and .70 represents a medium amount of variation
R2 above .71 represents a large amount of variation
IV. Compensation Policies and Strategic Mandates
A. Pay level policies
1. Companies can choose from three pay level policies
a. Market lead
b. Market lag
c. Market match
2. Market lead policy distinguishes companies from the competition by
compensating employees more highly than most competitors
3. Market lag policy distinguishes from competition by compensating less than most
competitors
4. Market match policy most closely follows the typical market pay rates because
companies pay according to the market pay line
B. Pay mix policies
1. Pay mix policies refer to the combination of core compensation and employee
benefits components that make up an employee’s total compensation package
2. Pay mix may policies may be expressed in dollars (or other currency as relevant)
or as a percentage of total dollars allocated for an employee’s total compensation
3. What is an appropriate pay mix?
a. For policy purposes, it makes sense to consider guidelines for jobs within a
particular structure (for example, managerial, administrative, or sales) because
of the common job content and worker requirements of jobs within a
particular structure
End of Chapter
V. Key Terms
Market-competitive pay systems: Represent companies’ compensation policies that fit the
imperatives of competitive advantage
Strategic analysis: Entails an examination of a company’s external market context and internal
factors
Compensation surveys: Involve the collection and subsequent analysis of competitors’
compensation data
Compensation plans: Represent the selection and implementation of pay level and pay mix
policies over a specified time period, usually on year
Relevant labor markets: Represent the fields of potentially qualified candidates for particular
jobs
Job leveling: Process of making corrections for differences between their jobs and external
benchmark jobs
Point factor leveling: Job leveling approach where participants rate a job based on a standard
set of compensable factors that have point values associated with each level of the factor
Central tendency: Represents the fact that a set of data clusters or centers around a central
point
Mean: Average of salaries used as a reference point to judge whether employees’ compensation
is below or above the market
Median: Is the middle value in an ordered sequence of numerical data. If there is an odd
number of data points
Variation: Represents the amount of spread or dispersion in a set of data
Standard deviation: Refers to the mean distance of each salary figure from the mean
Quartiles: Allow compensation professionals to describe the distribution of data based on four
groupings
Percentiles: There are one hundred percentiles ranging from the first percentile to the 100th
percentile
Real compensation: Measures the purchasing power of a dollar
Nominal compensation: Is the face value of a dollar
Consumer Price Index (CPI): The most commonly used method for tracking cost changes, or
consumer inflation, throughout the United States
Regression analysis: A statistical analysis technique that enables compensation professionals to
establish pay rates for a set of jobs that are consistent with typical pay rates for jobs in the
external market
Market pay line: Representative of typical market pay rates, expressed as a mean or median,
relative to a company’s job structure
Market lead policy: Distinguishes a company from the competition by compensating
employees more highly than most competitors
Market lag policy: Appears to fit well with lowest-cost strategies because companies realize
cost savings by paying lower than the market pay line
Market match policy: Represents a safe approach for companies because they generally are
spending no more or less on compensation (per employee) than competitors
