The Effects of a Well-Designed Compensation and
Benefits Plan on Employee Behavior

The Effects of a Well-Designed Compensation and Benefits
Plan on Employee Behavior

Compensation can be defined as “all forms of financial returns and tangible services and benefits employees receive as part of an employment relationship” whether directly (compensation) or indirectly (benefits) (Katz, 2012). A strong and competitive compensation and benefits package is a powerful instrument for attracting and retaining the best talent. The development of a flexible compensation and benefits plan has an impact on employee retention and recruiting activities. The goal is to design the compensation and benefits package to attract qualified and talented applicants, as well as retain the current employees that are important and bring value to the organization.
Reducing Turnover with a Compensation Strategy
HR Function. HR serves in a consultative capacity to the managers and leaders of the organization and is responsible for the implementation of activities or policies in staffing, recruitment, data analysis, reward and recognition, and advising with regard to federal law compliance (Pophal, 2010). The human resource function “serves to align the wants and needs of the employee with the wants and needs of the employer” (Rothwell, Prescott, and Taylor, 2008). Recruitment and retention should be the main focus of HR and if not effectively managed can prove to be a huge risk to the organization. Another function of human resources is creating the employee compensation and benefits package and making sure that the compensation and benefits strategy aligns with both the HR strategy and the firm’s organizational strategy. Reducing Turnover. The compensation package design “should be based on a company’s pay philosophy, competitive market norms and cost considerations” (Menefee and Murphy, 2004). An organization’s rewards package should reflect the value they place on their employees. “For an organization to receive its money’s worth and motivate and retain skilled employees, it needs to ensure that its compensation system is not an island by itself” (O’Halloran, 2012). Compensation and employee turnover are the highest costs of an organization. Employee retention can be defined as the “process in which the employees are encouraged to remain with the organization for the maximum period of time or until the completion of the project” (Laddha, Singh, Gabbad, and Gidwani, 2012). Employee retention is not important to organizations merely because of the related costs, but also because of the need to have highly qualified individuals that will aid in the growth and profitability of an organization which is hard to find.
A firm’s compensation and benefits strategy reflects its value on and treatment of its employees. “A well-designed plan linking pay to behavior of employees generally results in better individual and organization performance” (Katz, 2012). If the organization wants to reduce turnover, the HR consultant may want to devise a plan which focuses on improving employee satisfaction and morale, and outlines the strategy for recruitment and retention. This alone can be done through a variety of strategies such as such as improving communication, increasing training, enhancing the compensation and benefits package, etc. Reducing turnover can help the firm in cost reduction which can lead to improving, strengthening, and accomplishing other organizational goals (Pophal, 2010). Ways to boost employee morale, promote positive employee behavior and increase employee retention include, but are not limited to: 1) investing in the career and development training of employees; 2) creating programs that increase employee commitment and sense of community; and 3) a just, flexible and competitive compensation and benefits package. When designing a package, it is also important to think about the effects it will have on other areas of the business. Additionally, if changes need to be made, HR must take into account “the employee relations climate and strategies, the turnover rate, the complaint and grievance process, the promotion process, equal opportunity issues, diversity and affirmative action considerations, and legal and legislative issues” (Pophal, 2010).
Employee turnover does not always have a negative effect. Sometimes employees that leave are those that may not have fit into the organizational culture, lacked the necessary competencies to be in a particular position, or so far removed from the organization (i.e unsatisfied, unhappy, unmotivated) that it is not worth trying to retain them. It will cost less in the long run to just find someone better suited for the job. However, if someone leaves who is highly qualified and hard to come by, it may cost more and take longer to replace them.
Importance of a Well-Designed Compensation and Benefits Package
Research
There is a high need for highly qualified and top performing employees and their “retention and continued success is critical for sustaining and growing a company’s bottom line” (Menefee and Murphy, 2004). Employees want to be recognized and compensated for their performance with a package that mirrors their contribution to the achievements of the company. Based on a 2003 survey performed by Watson Wyatt Worldwide, 58% of employees considered leaving their jobs because they were not satisfied with their pay. 48% were not happy due to the lack of promotional opportunities and 37% were displeased with their benefits (Menefee and Murphy, 2004).
A survey of HR Professionals in 432 organizations across the country conducted by the Society for Human Resource Management reports that 50% of those surveyed stated that turnover was due to an offer of better compensation at another job (Katz, 2012). According to a 2007 WorldatWork survey of HR managers, paid time off and health benefits proved to be an effective method in reducing employee turnover (Katz, 2012).
Turnover is also one of the costs that organizations fail to think about or prepare for. Ernst and Young reports that it costs them approximately $120,000 to replace 10 talented employees, while Sibson and Company’s research results revealed that in order “to recoup the cost of losing just one employee, a fast food restaurant must sell 7,613 combo meals at $2.50 each” (Laddha et al., 2012). Laddha et al. (2012) goes on to report that employee turnover costs organizations 30 to 50% of the yearly salary of entry-level employees, 150% of middle-level employees, and up to 400% for upper level employees.
Forms of Compensation
It has been found that employee benefits help decrease turnover because most are developed with longer term employees in mind. For example, in most companies, employees are locked out of contributing to 401(k) plans until they have been employed with the organization for a certain period of time. Moreover, employers offer service awards when employees reach certain service years (i.e. every 5 years). Also, employees’ vacation/personal days increase with their service years. In doing this, employers are making the assumption that employees will stick around to earn these benefits.
One of the most commonly used strategies for increasing employee satisfaction and retention is by changing compensation packages to be more appealing to current employees (i.e. raises, bonuses, matching 401(k) contributions, flexible spending accounts). If a company is unable or cannot afford to improve compensation packages, it can look to see what benefits are not as expensive to create and will still bring value to the company, as well as for the employees. Forms of compensation include base pay, merit pay or cost of living adjustments, seniority pay, incentives, income protection, work-life balance, allowances, etc.
Rewards and Recognition. Compensation can be given through rewards and recognition. An example would be a promotion which shows employees that the firm values their contributions. This can boost employee loyalty and commitment.
Monetary compensation. Human resource management practices can “influence levels of motivation through the use of performance appraisals, pay-for-performance incentives and internal promotions systems based on merit” (Burke and Cooper, 2006). Merit pay, a form of monetary compensation is based on past performance. It is a pay raise (usually 1-2%) given annually and is based on an appraisal or evaluation system. This can work in an organization’s favor because employees will be initially motivated to continue to perform well. Performance based compensation shifts the emphasis from experience toward goal achievement and provides the employer with an opportunity to “view compensation as an investment that provides a return” rather than as an expense (Kirkland, 2009). However, employees will begin to expect this raise on a consistent basis. To provide enough motivation to employees, the raise must be of a significant value and although merit based pay may initially serve as motivation, it does not keep up with the cost of living index and therefore may diminish incentive to perform or decrease retention ability. It does the organization more harm than good by putting the organization’s profitability and productivity at risk.
Another form is seniority based pay which pays employees based on the years of service with the organization. The longer an employee has been employed with the company, the higher his/her salary will be. The drawback is that seniority-based pay can also decrease inventiveness with lower grade employees.
Benefits. Let’s face it, many organizations (especially smaller ones) do not have the dollars to pay the high salaries that many of the other larger companies may have; however, there are other ways to attract talent or retain employees. Benefits can include something as small as offering free lunch to employees each day. Other packages to boost morale, attract or retain staff may include a progressive package that has health, dental and disability insurance, paid time off and a variety of other services to make up a very competitive package. According to Paula Andruss (2012), a 2011 survey of human resource leaders conducted by Harvard Business Review Analytic Services, “60 percent said an attractive benefits package is ‘very important’ in recruiting and retaining quality employees, versus only 38 percent who said a high base salary is very important.” Additionally, the survey revealed that about 49 percent of employees stated that the benefits are what attracted them to the company, while 60 percent said the benefits played an important part in their decision to stay (Andruss, 2012). Benefits play a vital role in employee satisfaction and motivation. “Employers typically start looking to round out a basic compensation package with benefits when they have six to 10 employees they wish to retain, as well as when they want to attract new ones” (Andruss, 2012). Benefits can also include retirement plans, flexible spending accounts, perks (i.e. employee discounts with various vendors), vision insurance, life insurance, flexible work schedules, etc. Allowing flexibility can be beneficial to the firm and is of no cost. It is a good strategy to involve the employees when searching for a benefits package suitable for the organization. This can be done by surveying the employees to determine what they are really looking for in a package. In other words, what do they value the most? Once a package is designed, it is important to effectively communicate details of the plan to employees. Ways to do this include an office posting, mailing information to employees’ homes or schedule a firmwide meeting before rolling out the plan. Work-Life Balance Programs. Many employers offer work-life programs as part of their benefits package. These are often developed to increase participation of female personnel, keep employees motivated, boost performance and make organizations more attractive. Work-life policies are intended to “help employees better manage their work and non-work times (Burke and Cooper, 2006). These policies can create additional benefits for the organization because the policies generate performance by decreasing absenteeism, increasing productivity and increasing retention. Employees who are satisfied with their jobs will be more engaged and more committed to their employers.
Why is a well designed compensation and benefits package important to organizations? It gives organizations an advantage over its competitors. Employees are one of an organization’s most valuable assets, so finding ways to manage and keep them satisfied can prove to be challenging for most organization. Employees who are not satisfied or unhappy can also lead to them being unmotivated, unproductive, or searching for another job. These things affect the firm’s ability to achieve its objectives. Compensation has an impact on employees’ attitudes and behavior, which also has an overall impact on the organization’s achievement of its goals. Financial compensation can have either a positive or negative effect on employee perceptions, decisions and behaviors. The bottom line, in some cases, is that money is a key incentive. “To fully evaluate the impact of pay on motivation, one must look not only at (enduring) effort level, but also the degree to which effort is directed toward desired objectives” (Wilkinson, Bacon, Redman, & Snell, 2010). Providing additional or new rewards to staff is not a solid retention plan, but rather the types of rewards which are chosen and “how they are delivered to employees will determine how effective they are in improving job satisfaction (Katz, 2012). “Inadequate compensation and benefits are extremely powerful drivers of employee turnover decision” (Katz, 2012).
“During the economic downturn, employers must balance their short-term cost-reduction goals against long-term concerns about employee morale, attraction and retention, and design compensation strategies that reflect those realities” (Beal, 2002). Companies have oftentimes taken the view that employees nowadays should be happy to even have a job and have ignored the importance of having total compensation packages which are designed with employee attraction and retention in mind. The reality is that appealing to individuals and decreasing employee turnover will continue to challenge organizations and compensation plans will need to reflect this. Another fact that organizations must keep in mind is that different forms of compensation appeal to different groups of individuals. An employee who is a mother may not be as concerned with a merit increase or any other cash incentive. Rather, she may be more concerned with having a good family benefits plan and a flexible working schedule. Younger individuals may be more concerned with career growth opportunities. Yet, there are others who may be more satisfied with paid time off. Employers must keep all of these things on the table when designing a compensation and benefits package for their employees if they wish to keep them motivated and happy with their jobs. What is good for some may not be good for all which goes against the “one-size fits all’ strategy that some organizations still implement. Compensation strategies must align with the company strategies and should be adjusted when there are changes in the company goals. In other words, “organizations that designate revenue growth, profit margins and cost control as their top goals must review their reward programs to ensure that they are…rewarding the kinds of performance that advance these specific goals” (Beal, 2002). Organizations must think about and prepare for the long term in order to be effective. As companies change their compensation practices to align them with new objectives and reality, they must focus on the effects that these changes may have on their staff. Individuals are motivated to perform “if they believe that they have the necessary ability, that they will receive a valued reward that is contingent on performance, and that the reward will be equitable relative to their actual performance” (Kanungo and Mendonca, 1998). Top employees are the foundation of any organization and they not only have the competencies and talent required to take on the challenges of their roles, but they also play a large part in achieving company objectives and should be rewarded for their accomplishments.
Conclusion
In conclusion, compensating and retaining top performing employees requires knowing and focusing on their preferred compensation, whether monetary or nonmonetary. Roger Herman once stated that “employee retention to build a stable, productive workforce will be the competitive advantage in this decade” (Patiala, 2010). It is not just about managing employee retention, but also effectively managing the employees. Compensation strategies must be linked to the company’s overall goals and also align with the HR strategy. It is not wise to ignore compensation when trying to motivate and retain employees. Doing so may result in unhappy and unmotivated employees, as well as high turnover. Additionally, it takes more energy, time and money to renew trust in, retain and find replacements for current employees. The goals of a well-designed total compensation system should be to attract talent, motivate current employees, boost performance, and increase employee retention. Advantages of a well-designed system include: 1) job satisfaction; 2) motivated employees; 3) low absenteeism; and 4) high employee retention rate. In earlier years, employees were once satisfied with a standard merit package which included basic health insurance and vacation. Times have definitely changed. They now want packages that are catered to their individual needs and wants (Murakami, 1999). “Appropriate allocation of rewards may help enhance employee motivation and performance as well as contribute to the successful realization of the organization’s goals and objectives” (Zhu, 2007). Appropriate allocation refers to rewarding based on individuals’ work performance, their individual needs and equality (i.e. rewards are equally distributed). Retaining employees is reemerging as a main concern for firms. “As the economy shows signs of improvement, dissatisfied staff members may begin exploring other job opportunities, making it increasingly important to take steps to encourage top performers to stay over the long term” (Messmer, 2004). Organizations may be reluctant to create compensation packages to keep employees due to budget constraints, but they are failing to keep in mind that it will cost more to hire more staff versus keeping current staff. Searching for employees to replace old ones can result in a decrease in productivity, revenue, and talent, while increasing costs in finding, employing and developing new employees. Compensation may not necessarily be the main factor when employees decide to leave; however, it does play a part in the decision. For an organization to be successful, it must effectively manage what it spends on compensation, as well as watch what it gets in return. “Compensation can be a major factor in successfully executing an organization’s strategy” (Wilkinson et al, 2010). Employers’ understanding of their employees and their mission, and aligning their benefits strategy to both is what is critical to a high-performing compensation and benefits package.

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