Human Resources: The Next Great Pay Idea?

Next Great Thing?
How many times has that question come to mind? For some maybe never. But for others, perhaps it has passed your mind with all else you must do to keep your pay solution´s head above water.

If you were going to do just one thing to improve how pay is delivered in your organization, what would it be? Assume you are in the movie, On Borrowed Time, and to get down from the tree you need to come up with one single thing that will make or break the pay system in your company. What would this one last great thing be?

Why worry about this? Because the use of pay tools has traditionally been a "me too" business from top to bottom. Rather than worrying about the next great thing, pay design has focused on the most popular thing-sometimes whether it made any sense to your organization or not. Prevailing practice has been translated to mean best practice-but best for whom is the question? Copying what others do is seldom a learning process. Instead, organizations doing the mimicking seldom ask the company they are copying whether the practice of interest is adding value or not. They often don´t know why a company does it-just that they do it. Many organizations believe it´s always safe to follow the practices of the crowd. And many organizations using the practice may not really know whether it is a value-added ingredient or not.

Last Great Things?
And what has copying the prevailing practices of others brought us in the past? Let´s spend a few pages looking at the heritage of "me too" compensation planning. Let us list the great things organizations have been trying to live down now for ages-in order of damage done to great organizations as we see it. We´ll first start with the things that did the most damage to continuing excellent pay management. Then, we will focus on the things that were bad at the time but are being turned into something that is really good.

We have all seen some ideas that started out looking good end up providing more negatives than positives. And some practices that were creating problems initially have been turned around and now help organizations improve their pay solutions.

Worst Copycat Things that Add No Value.
What do we think were the worst things that ever happened to pay management? They are the actions organizations took intending to improve pay management that actually damaged pay management effectiveness. By damaging we mean:

Wrong Messages: Pay practices that don´t communicate accurately with employees. They promise guaranteed pay when this is not the case. And they create insecurity when this is not the case.

Waste Time: These pay solutions waste company and employee time with bureaucracy and excessive detail. Once they are advertised as the answer, it sometimes takes years to turn around the programs or replace them.

Miss Company Expectations: Organizations often count on pay solutions to align employees with key business goals and priorities. When this does not occur, leaders become disenfranchised and delay next generation pay innovations.
While the order of importance may differ, here are the three worst copycat things without doubt:

1. "Cost-of-living" base pay adjustments. We all know now that competitive pay realities aren´t perfectly aligned with changes in cost of living. Organizations with no better solution but pay practices directly tied pay adjustments to annual changes in the cost-of-living index. The heritage of this link between pay and economic indexes was missing the competitive market for talent. In many instances changes in the cost-of-living do not accurately reflect the value of skills. This results in either over or underpayment of talent. Organizations with this pay solution find themselves unable to jettison it in favor of a pay solution more reflective of the realities of the marketplace.

2. "Point factor" job evaluation plans. If cost-of-living caused organizations to miss the realities of the marketplace, point-factor job evaluation plans finished the job. These systems assigned points based on some internal valuing factors that determined the relative value of jobs in an organization. For example an accounting job may get 200 points and an engineering job may get 400 points. The result was that the engineering job may be placed in a higher salary range than was the accounting job. The result was paying the engineer more than the accountant. The problem is that in many instances the market value of jobs differs from their internal value. And this may cause an organization to pay less than market for jobs that are indeed more valuable in the market place than are jobs with more internal job evaluation points. Underpaying jobs with higher value in the market and overpaying jobs with a lower market value is commonly a consequence.

3. "Midpoint control". Midpoint control suggests employees with salaries below the middle of the salary range are destined to receive larger pay adjustments for a specific level of contribution than are employees paid above the middle of the range with comparable performance results. This makes it impossible for higher paid employees to get the same size pay adjustment for the same level of performance as a lower paid employee for the same level of performance. This pay solution tends to equalize the pay of employees by encouraging organizations to pay everyone as close to the center of the salary range as possible. It takes most pay judgement from managers and encourages mediocre pay management.

Heritage of the Bad Pay Practices
So what has been the impact of the three most negative pay program actions that were implemented in many organizations throughout the world? "Cost of living", "point-factor", and "midpoint-control" partnered to focus employees whose pay is determined by these practices internal to the organization rather than external and upon the business and the customer.

Adjustments to pay that are tied to indexes such as changes in living cost tend to deflate any attempt by organizations to distinguish between and among employees for reasons other than giving one size fits all adjustments. Also, employees become so accustomed to thinks like writing job descriptions to get more points or to get into another salary range so midpoint control works in their favor, that any other messages about how important they are to company success are strongly muted.

The heritage of truly negative pay management decisions such as this is significant. Organizational and workforce agility and flexibility are in the minds´ eye of company leaders these days. Being able to change and adapt as necessary is at a premium. And inflexible pay solutions hinder change efforts. None of the pay things we previewed above do anything that supports or encourages change. Instead employees are distracted by pay systems that encourage unchanging attitudes and an expectation of entitlement. And nobody would suggest that is what organizations need during increasingly competitive times.

Bad Copycat Things that Became Good Things.
Some practices are rooted in great intentions but fail short-term. However, they do plant some important seeds of effective pay management that can have lasting value. Here are some of these seeds:

Paying for results: The practices gave organizations an alternative to paying for attendance and service. They introduced concepts that questioned the issue of the entitled employee and suggested a link between pay and performance management.

Emphasize needed skill: Paying for skills rather than just jobs are important. A company learned that paying for jobs alone may not be the best long-term solution if a company wants to put meat on the bones of being a learning organization.

Introduce variable pay: Producing an alternative to having only fixed compensation in the form of base pay is the only business pay tool. Varying pay based on results an employee can influence is a possible alternative.

Here are the most promising of the great things that live on now in one form or another:

1. "Merit pay" salary programs. The objective of these pay systems is to give better performing employees larger pay adjustments than poorer performing employees. Too often, however, the reality was that poor performance was about as valuable in terms of a pay adjustment as was excellent performance. Indeed excellent performance was often not economically worthwhile. Managers commonly do only a moderately good job of managing performance pay solutions like this. They do not like to give bad news to any employee even when it means failing to recognize differences in performance through pay.

2. "Annual bonus plans" that don´t fold into base salary. The year-end or Christmas bonus gives employees a lump-sum cash payment that doesn´t become an annuity in terms of base pay. The award often has little to do with performance and only infrequently give a message to employees who receive the gift other than a thanks for a year completed with the organization. The communication to employees was one of variable pay, but provides little guidance about what they should do to receive a similar award the next year.

3. "Skill & competency pay" that avoids a singular focus on jobs. Paying for skills rather than jobs is potentially the greatest new thing in pay in decades. People, not jobs, are what make an organization a success. So paying for the acquisition and application of the skill and competency the company needs is potentially the major breakthrough in pay management possible. The problem is that these pay systems are often over designed, cumbersome, complex, and virtually unmanageable.

The Heritage of Bad-to-Good Pay Practices
What merit pay, retrospective bonus plans, and skill and competency pay started has had terrific potential positive implications for the future of pay management. They are Bad-to-Good pay practices. Even though in their original state they have had little positive impact on workforces that reaps positive benefits, in their re-birth they can become powerful and willing facilitators of adding to workforce value. In fact, merit, bonuses, and skill pay are the precursors of what we have called the new pay in our 1996 book, The New Pay. Here is what bad-turned-good have created for our changing world of pay and rewards.

Pay for Performance-Really!
"Merit pay" didn´t turn out to be true pay for performance. Indeed, what it did was set back the alignment of pay with performance considerably. Organizations developed elaborate pay for performance grids and forms with the intent to pay more to the top performing employees than to those that may be just scraping by. The early emphasis was placed on developing a systems approach to performance pay. Putting the administrative and computer or paper systems that provided guidelines and rules to making paying for performance a reality. Instructions on how to judge performance for pay purposes, information on how to relate pay adjustments to the results of the performance process, and how to apply measures and goals for performance to the pay determination process were given priority.

The problem was that managers and supervisors were traditionally appointed to be the only judge and jury for the performance pay process. The problem was that managers and supervisors were seldom prepared, and even less often willing, to make accurate and definitive judgments about differences in performance that subsequently determine differences in the size of any pay adjustments allocated to performance. Also, very often many possible directions compete for the few dollars organizations had during low pay inflation times for pay adjustments. For example a 4% increase budget must often be allocated to changes in performance (of course), competitive pay pressures, adjustments for promotions, adjustments for transfers, and perhaps even adjustments for internal equity. So perhaps less than 1/4 of any funds available are available for differences in performance.

Incentives for Business Outcomes-Really!
Christmas and year-end bonuses have been around for years. The drill typically calls for top management to retrospectively decide on either across-the-board or individual bonuses. Many times these became lump-sum annuities to the workforce. The problem with this is that it was an entitlement and was not communicated or awarded as a reward for generating some results that helped the company and subsequently served as a message about what is necessary for employees to receive these rewards again. Management often hesitates to communicate what the company expects from the employee in order to receive the financial recognition.

The result was the company was to seldom attribute any change in performance or behavior to the bonus granted. Although end-of-year bonuses do make the employees who receive them satisfied for a short time period, there is no lasting message about performance expectations. And there´s no coaching opportunity to the workforce about job well done or do better next year. But the continuing critique in the business press of the effectiveness of retrospective plans did lead to the development and implementation of prospective, goal-focused, incentive and variable pay plans for senior management first and then the workforce in general. This resulted in better alignment of incentives with business goals and the realization that variable pay can help a company keep employee focus on goals, which they can influence.

Paying for What People do to Add Value-Really!
Here´s a case of moving from excessive complexity to simplification and better skill selection. It´s clear that paying the person rather than the job made incredibly good sense from the standpoint of organizations that realize people are paid, not jobs. Over-engineering and excessive complexity created major problems for the practicality of these pay solutions. They became so cumbersome that it was often impossible to manage and communicate these solutions in a viable and understandable fashion.

Now we see organizations becoming increasingly interested in including paying for skills in their pay formula. Solutions that emphasize a few key skills the company needs to encourage employees to obtain and apply. Solutions where the performance management and pay systems are joined around the skill elements. Where the acquisition and application of some key skills may be recognized in terms of lump-sum payments rather than in the form of base pay adjustments. Movement to a more agile concept of skill pay where the skills are paid for only when used and when the skills are no longer needed by the company they are not paid for on an ongoing basis. This means moving to a skill solution that may be focused on some form of lump sum or variable pay plan that links acquisition and applications of needed skills to the results the business enjoys from these critical skills.

Conclusions-Going Forward
We gained some critical new insights into pay design as a result of some pay solutions that got off to a rocky start but are now on course. And the lessons from these experiences are that we need to take some risks with new things if we are going to experience positive change in the proper direction. The real test leaders are facing is whether they are able to lead an active evolution of practices from the not adding value to the adding-value category. For example, can we actively improve upon the poorly performing merit pay themes? Can we get value from bonuses by moving to more constructive variable pay around business goals solution? And can we simplify but keep business-focused our need to pay the person rather than, or in addition to, the jobs we have in our organizations?

Times are changing rapidly. New pay tools are being placed in our kit. But we must realize that many of our most powerful tools started with great positive intentions that somehow when awry. We´ve spoken briefly here about three of the most important instances of bad-to-good and have also discussed some of the bad design tools we have used that were not moved from the negative to positive column in the consequences of effective pay designs.

Some of the most tragic consequences are the export of pay practices that were invented in the United States overseas. Brazil is presently struggling economically on many dimensions. The privatization of many organizations that were once 100% government controlled. Part of the intent is to encourage enterprise and gain better alignment and understanding of employee goals with company goals. And the pay actions that are being implemented include all of those that have proven to have negative value in the United States.

A Brazilian consultant friend said that most of the privatized organizations are busily implementing point factor plans as the basis for job evaluation. And many are implementing merit pay solutions that are more likely to create a sense of entitlement than true pay for performance. So while some reward professionals and company leaders are learning fast, some are still missing the target completely.