It’s easy to overlook the strategic impact of compensation on your company’s business model and growth plan. But doing so can be costly.
Here’s why.
Compensation is expensive. Very expensive. In fact, it is likely the largest line item on your organization’s P&L. In occupying that position, it can either help or prevent revenue and profit growth, enable or hinder the recruitment of the kind of talent you need, and encourage or diminish employee performance and your people’s commitment to company growth.
Unfortunately, most businesses primarily experience the negative side of those outcomes. This is because too many company leaders view pay as a burgeoning expense that must be contained and managed instead of a strategic opportunity to drive a real return for the business.
Because so much is at stake, let’s talk about what a successful compensation strategy looks like and the positive outcomes it can produce.
The Purpose of Your Compensation Offering
If your pay offering is going to become an ally of your company’s business model and strategy, it must do the following:
- Paint a clear picture of the financial relationship you wish to have with your employees and offer clarity about the financial vision you have for the business.
- Help your employees understand how the company defines value creation and how their contributions will be measured and rewarded.
- Reinforce employee roles and the outcomes your people are expected to “own” in carrying them out.
- Empower you to attract, recruit, and keep high-performance talent.
- Reinforce short and long-term employee performance standards.
- Bring clarity to the company’s business model and strategy and each employee’s role in its fulfillment.
- Transform your employees into true growth partners in the business.
- Drive a measurable return on your compensation investment.
- Establish organizational continuity between vision, mission, purpose, strategy, roles, expectations and financial rewards in service of a high-trust culture.
- Build s unified financial vision for growing the business.
Building a Successful Pay Strategy
That probably sounds like a lot to expect. But if you don’t approach pay with an expectation of achieving those kinds of outcomes, you will miss the strategic opportunity a successful compensation offering affords. To ensure you don’t miss that opportunity, incorporate the following elements into your organization’s pay strategy.
- Define Value Creation. This is both distinct and the same for every company. It is distinct in that each organization will define its own financial thresholds and targets. It’s the same in that every company’s definition must articulate how the organization defines the value creation contribution expected of employees before any value will be shared with them. This means you must be able to measure the impact of your employees’ performance on such things as sales, revenue, and profit, independent of the value driven by the company’s brand equity, the shareholders’ capital investment, the business’s accrued good will and loyalty, and so forth. At VisionLink, we refer to this value as productivity profit. It’s profit after accounting for the need to protect the shareholders’ capital investment and allocating a certain level of profits towards company growth.
- Articulate Your Pay Philosophy. Every company should have a written compensation philosophy statement. This should naturally grow out of and be linked to its value creation definition. Your pay philosophy is your rationale for how you compensate your people. Think of it as a compensation constitution that you refer to before making any changes or additions to your pay offering. Among the things your pay philosophy statement should articulate are the following:
- How value creation is defined.
- How value is shared and with whom.
- How market pay standards are applied in determining compensation levels.
- How guaranteed pay and variable (“at-risk”) pay will be balanced.
- How short and long-term value-sharing will be balanced.
- How merit pay is defined and managed.
Because of events such as the economic shutdown attached to the recent pandemic, we recommend your philosophy statement also address these issues:
- Explore, refine, and define “emergency” principles.
- Determine priorities for cash and non-cash compensation as well as benefits,in the event of an economic downturn or financial reversal.
- Have a Balanced & Complete Compensation Offering. A balanced offering is one that gives appropriate emphasis to both guaranteed and at-risk compensation, and provides adequate rewards for both short and sustained performance. Balanced also means there is an equilibrium between such pay elements as cash compensation (salaries and incentives) and benefits and perks. Balance is only achievable in a pay offering if it is also complete. This simply means you are offering every compensation element needed to drive the outcomes listed above. (Clue: Your compensation plan is not “complete” if you’re simply offering a salary, an annual bonus plan, group benefits, and a 401k plan.)
- Replace Incentives with Value-Sharing. This probably sounds like a distinction without a difference. But there is a difference, and the distinction is critical. Incentives are metric-laden devices companies use to affect specific types of employee behavior. They are feeble attempts to create a “pay for performance” expectation within an organization. Because such plans try to impact employee activity, they often become tools of manipulation for both employers and employees. Employers manipulate by trying to pay their people into improved performance. And employees often “game the (incentive compensation) system” to maximize their earnings each year, often to the detriment of customers or at the expense of long-term company profitability. All research on this issue indicates that incentives do not produce higher performance, and often have the opposite effect. On the other hand, value-sharing reflects a wealth multiplier philosophy that says, “We want our people focused on making contributions to the organization’s short and long-term growth targets. We have a mechanism for measuring the value our people contribute and offer specific plans for sharing value with those who produce it. Because of our value-sharing philosophy and plans, there is no cap to the income employees can earn. The higher the value creation, the higher the earnings our people can achieve. So, owners and employees are all in this tougher. If the organization has financial success, everyone benefits.”
- Establish Growth Partner Relationships with Employees. The approach just outlined creates the framework for a different kind of relationship between employers and employees. The compensation strategy is intended to make employees feel like true growth partners in the development of the future company. When pay has a strategic purpose rooted in a well-defined philosophy, its participants are led to think more like owners. This happens naturally because accountability is built into the pay offering. Under a wealth multiplier philosophy, one must make significant, ongoing contributions to value creation to maximize earnings. This alignment between compensation and the company’s business strategy promotes a high-performance culture with a unified financial vision. At VisionLink, we recommend employers start referring to their employees as growth partners and use that term in describing the company’s value proposition to the people they are trying to recruit. Company leaders should seek to provide an experience for employees to brag about to their friends and family members. When that happens, your company becomes a magnet for top talent, and your growth expectations are routinely met.
Few organizations would make a capital allocation the size of their ongoing compensation commitment without having a clear strategy for how that money will be used or defining clear outcomes they expect that investment to produce. And yet, every year businesses large and small make enormous investments in compensation without any meaningful strategy or clear expectations of the results their pay offerings should produce. If this is true of your company, hopefully, the insights and steps outlined here will move you towards a more productive compensation future and outcome.
To dive deeper into this topic, read our FREE guide: How to Build a Complete & Compelling Employee Value Proposition.
