How to Write a Compensation Plan

How to Write a Compensation Plan: Some Fundamentals During a Recession

Maybe as employers, we can get a little complacent about our compensation plans this year.

We’re all sitting in the catbird seat today. And maybe still will be next year.

Along the way, especially if the economy doesn’t improve, the only folks we’re really likely to lose are – who? Well, there’s a concern! It’s our outstanding employees who are the highest turnover risk – those who are keeping us successful during a recession.

So let’s discuss how to write a compensation plan, today, that will keep us in business for the long run. One that will encourage employee retention, maintain morale, limit employee turnover and keep us HR types on the CEO’s “nice” list. Here’s how:

Keys to Successful Employee Compensation Plans

Working on a comp plan? Get it done in 5 easy steps, with our white paper guide, 5 Easy Steps to a Smart Compensation Plan.

1. Retain our critical employees – when has retention been more critical?
2. Don’t overpay a dime, if possible – what company has profits to burn needlessly?
3. Pay everyone fairly (enough) so that they can focus fully on their work

I know what you’re thinking, “How do I develop a compensation plan that meets all of these objectives?” The most critical are the last two points: pay enough without overpaying. And to accomplish that we can be grateful for the solid pay data Payscale provides. But there’s still much more for us to do to develop a sound compensation plan.

Working Examples of Compensation Plans for Critical Employees

Top employee retention seems to be a frequent missing logic step in designing compensation plans. Here are two examples of how to recognize if you have a critical employee on your hands:

Compensation Plan Example #1: What do you pay your star retail salesperson?

Probably high, as in above market median, but you can’t open the vault for this employee. Even if they’re brilliant, a salesperson’s success is dependent on many other employees’ tasks being done well. The buyer has to buy the right goods at the right price. The inventory person has to ensure the appropriate stock is in the right store. The floor designer has to display the merchandise to its best advantage. Many, many tasks are required for success.

So in retail, ultimately, the entire system is more likely to be critical to company success than any one employee in the system, no matter how well they do their job. Overpaying a star salesperson isn’t likely to give you much of a return on that investment.

Compensation Plan Example #2: What do you pay Sid Meier?

Sid Meier is the video game designer responsible (well, I also played a role) for really irritating my family a few years back. That was after our son taught me how to play Sid’s computer game, Civilization II. The dog – I got addicted.

“Where’s Dad?”
“On the computer.”

Sid was the dog visionary who designed the game. It was a bestseller. The latest version still may be but I won’t allow myself to go near it.

The point is that rarely, in certain jobs and companies, one person really can have a big impact on the success of the entire company. The costs of employee turnover for one person might threaten a company’s future. Steve Jobs seems to have had this impact on Apple. You can think of your own examples. Here’s a case where you might want to open the vault! Like hiring the “hot” movie star, you could get a great ROI on off-the-charts pay for a top talent.

Sid, I hope it worked out for you; it’s really an entertaining game!

The Cost of Overpaying in Employee Compensation Plans

Rigor, such as the compensation data from Payscale.com makes possible, is more than a nicety. It may be a key to survival. Let’s do the math.

Say your company has 1,000 employees. Revenues are $100,000,000 a year, profits will be $1,000,000 next year, and the Board is pretty happy – after all, $1,000,000 in profits during a recession is a lot better than many companies are doing.

So you give all of your employees a raise on January 1 and, because you’re nice, you end up overpaying everyone by only $1,000. On an average salary of, say, $50,000, that’s nothing.

But then, we do the math. Uh-oh. $1,000 x 1,000 employees is (yikes) your entire profit. Get your compensation data from a reliable source, like Payscale.com, and make your profit target for the year instead of gobbling it up. It’s much nicer than layoffs in the long run.

The Cost of Underpaying in an Employee Compensation Plan

Older news here: Jac Fitz Enz showed the cost of employee turnover was 6-24 months of salary. For a key employee making $100,000 per year that cost might be $200,000 - or more, if his name is Sid. It’s worth keeping this cost in mind. Retention pays. It could pay a lot.

The Art of Designing Compensation Plans

We’ll talk more about this on another day, but here’s the simple core reality of employee compensation plans: to design a compensation system that pays someone competently – not too much, not too little – you only need to do three things:

How to Write a Compensation Plan - 3 Important Steps

1. Determine the market compensation rate
2. Compare an employee’s work to the market
3. Align employees’ compensation with their work, relative to the market.

It is simple, in concept. At raise time, it can be this simple:

    High pay +  poor results = no raise
    Low pay  + great results = big raise

The Goal: People Forget About Pay, So They Can Focus Fully on Work

Frederick Herzberg made this point, and I’m not sure it’s ever been improved upon: compensation does not act as a “satisfier”, or motivator. But it sure can act as a dissatisfier if someone believes they’re underpaid.

W. Edwards Deming fully agreed. And he was one consultant who got consistently brilliant results. Can you name anyone with half his record of turning organizations into profit machines? Deming’s “prescription”:  pay people well, so they forget about pay.

Any ideas triggered for you by what I’ve mentioned above? As always, I’m curious.

Regards,

Stuart Jennings, M.S.

Do you have a topic you would like Compensation Today to cover? Write us at comptoday@payscale.com.

Are you sure you’re paying your employees “well,” or at a rate where you can retain them? Where are you getting your compensation data? Try a free PayScale Compensation Report for the job title of your choice, and see how you compare with your competition.

• Why should you develop a Competitive Compensation Plan?
• Download 5 Easy Steps to a Smart Compensation Plan
• Read more articles on compensation plans.

Comments

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The research required to write a good employee compensation plan can be done by contacting the National Association of Colleges and Employers (NACE) through their website.

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Take employee benefits into consideration when planning your employee compensation. Most companies estimate spending the equivalent of 35-to-40 percent of an employee's salary for insurance premiums, paid time off and other employee benefits.

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Well-written salary compensation plan can be a very valuable tool. It clearly communicates to employees how they can get the most out of their efforts for the company. It also provides valuable inspiration as employees can see exactly how to get from where they are to where they want to be. In general, you want to avoid exact dollar amounts when writing a salary plan. Instead deal in percentages. For example: "Employees successfully completing these job metrics qualify for a three-percent raise in gross salary.

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To write a compensation plan, you will include everything that impacts the employee's pay and/or benefits. Some of the components are the salary scale, health benefits, 401K plan, paid time off ( PTO), incentives and bonuses, etc.

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If you are preparing to write a compensation plan to layout how you will compensate employees make sure you aren't over paying anyone (protect your profits) but that you are competitive enough to retain key players!

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Great article! I have also found another article which adds to your content. It covers some commonly overlooked areas which need considered when structuring a compensation plan.

See the article here-
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How do you set your payscale and benefits post investment from a venture capitalist, when you have been building the company by reinjection of all earnings for more than 20 years? As CEO should I be asking for a basic and benefit with a percentage of revenue from the new projects I am about to close? These are substantial. I have 51 staff in 4 countries, and we are growing at such a speed that I need a vc.