Human Resource Management:
Gaining a Competitive Advantage
Chapter 12
Recognizing Employee Contributions
with Pay
McGraw-Hill/Irwin Copyright © 2013 by The McGraw-Hill Companies, Inc. All rights reserved.
Pay Influences Individual Employees
3 Theories Explain Compensation’s Effects:
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How Pay Influences 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- interests of principals
(owners) and their agents (managers) may no
longer converge.
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Agency Costs
➢Agency costs may be minimized by principal
choosing a contracting scheme that aligns agent’s
interests with principal's interests.
➢6 Factors that Influence Type ofContract:
1. risk aversion
2. outcome uncertainty
3. job programmability
4. measurable job outcomes
5. ability to pay
6. tradition
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Programs Recognizing Contributions
➢ Programs differ by payment method,payout frequency and
ways of measuring performance.
➢ Potential consequences include employees’ performance
motivation and attraction, culture and costs.
➢ Management style and type of work influence whether a pay
program fits the situation.
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Merit Pay
➢ Merit pay programs link performance-
appraisal ratings to annual pay increases.
➢ A merit increase grid combines an
employee’s performance rating with
employee’s position in a pay range to
determine size and frequency of his or her
pay increases.
➢ Some organizations provide guidelines
regarding percentage of employees who
should fall into each performance category.
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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.
➢Individual incentives are rare because:
▪ Most jobs have no physical output measure.
▪ Many potential administrative problems.
▪ Employees may do what they get paid for and nothing
else.
▪ Typically do not fit in with team approach.
▪ May be inconsistent with organizational goals.
▪ Some incentive plans reward output at the expense of
quality or customer service.
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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.
▪ Advantage- profit sharing may encourage employees to
think more like owners.
▪ Disadvantage-workers may perceive their performance
haslessto do with profitthan top management decisions
over which they have little control.
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Ownership
➢Ownership encourages employees to focus
onorganization’s success, butmay 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) give
employers certain tax and financial advantages when
stock is granted to employees.
ESOPs can carry significant risk for employees.
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8 Conditions for Effective Gainsharing
1. management commitment
2. need and commitment to change and continuous
improvement
3. management's acceptance and encouragement of
employee input
4. high cooperation and interaction
5. employment security
6. information sharing on productivity and costs
7. goal setting
8. agreement on a performance standard and
calculation that is undesirable, seen as fair and
closely related to managerial objectives
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Group Incentives and Team Awards
➢ Group incentivesmeasure performace in
terms of physical output.
➢ Team award plans may use a broader
range of performance measures.
➢ Individual competition may be replaced
by competition between groups or teams.
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Balanced Scorecard
➢Some companies design a mix of pay
programs.
➢4 Categories of a Balanced Scorecard:
1. financial
2. customer
3. internal
4. learning and growth
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Managerial and Executive Pay
➢Top managers and executives are a strategically
important group whose compensation warrants
special attention.
➢Some companies rewards for executives are high
regardless of profitability or stock market
performance.
➢Executive pay can be linked to organizational
performance (agency theory).
➢Increased pressure from regulators and
shareholders to better link pay and performance
Securities and Exchange Commission (SEC)
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Process and Context Issues
3 issues represent areas of significant company discretion
and pose opportunities to compete effectively:
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Summary
➢ There are potential advantages and disadvantages of different
types of incentive or pay for performance plans.
➢ Pay plans can have both intended and unintended
consequences.
➢ Designing a pay for performance strategy typically seeks to
balance the pros and cons of different plans and reduce the
chance of unintended consequences.
➢ Pay strategy will depend on the particular goals and strategy
of the organization and its units.
Many organizations are working to link pay to performance
and reduce fixed labor costs, although sometimes executives
appear slow to reduce what are supposed to be performance-
based bonuses when firm performance declines.
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