Resources
& Events

01 Jul 2016

Remuneration Design

By John Day

An appropriately designed, and strategically based, employee remuneration system is capable of serving many purposes for an organisation. These purposes are often summarised as fulfilling the need to “attract, retain and motivate” employees.

 

But it is also broader than this. 

 

How employees are remunerated will affect how they think, work and behave. If behaviour and actions of all employees are to be aligned to achieve the corporate objectives of the Shareholders/ Directors, it follows that the remuneration structures, particularly the short term and long term reward strategies need to be also aligned to those corporate objectives. 

 

Total Reward

The total reward structure comprises base pay, performance-based pay, compulsory employer provided benefits (such as superannuation and various paid time off such as sick leave, annual holidays and long service leave), as well as those benefits provided at the discretion of the employer (eg employee share plans, cars, health care, study leave and the like).

 

These are factors that will have a direct impact on employee productivity and morale. For this reason, the design of a total reward structure must be consistent with the management philosophy and values of the enterprise, and deliberately support its achievement of its business objectives.

 

Performance Based Pay 

Another important aspect of reward is to link it with the performance of the employee and the organisation. Performance based pay systems are attracting the attention of many organisations in the Australian public and private sectors, and across all industries.

 

There is evidence to suggest that a well-designed incentive plan, combined with effective job design, can impact performance positively for both the employee and the organisation. Incentive plans vary from individual plans to sales incentive, managerial and group plans. 

 

Similarly the rewards may be paid annually or more frequently, and may be in cash or, as often applies to senior executives, in Shares.

 

Employees – Stakeholders 

The transformation of employees to stakeholders, and to becoming a major business asset requires the establishment of a set of organisational values which reflect the value the organisation places on itself and its workforce and then the effective communication of these values to all employees. Remuneration planning is one of the most efficient means of communicating these business values to employees and a most effective way of obtaining their acceptance of these values. The aim of this communication is to encourage the employee to maximise his or her value to the organisation, and correspondingly, enables the employee to be remunerated according to this increased value of the organisation.

 

It can be achieved as follows:

 

  1. Agree on realistic performance targets with an employee which provides a real incentive to achieve those targets;
  2. Enable the employee to share directly in the benefits generated for the organisation in achieving those targets; and
  3. Allow remuneration to be taken in a form which enables the employee to more easily meet their financial needs, and achieve their financial and lifestyle objectives earlier.
 

Remuneration planning

Remuneration planning communicates organisational values to employees in strong and often unintentional ways. They can reinforce existing sets of behaviour or stimulate the development of different ones.

 

A well-planned remuneration program can successfully link organisational values with employee values, thereby bonding the employee to the organisation. The highly competitive environment into the 21st century will demand more than ever the use of remuneration as a strategic organisational tool, central to the achievement of organisational goals, such as improving productivity, increasing profitability, improving shareholder value and building employee commitment.

 

The emphasis of the next decade will be on customised, organisation-specific, remuneration programs that build support for changing and evolving business strategies on the one hand, and on the other, strategies which are sensitive to each employee’s unique needs and objectives. 

 

Remuneration planning is really concerned with retaining valued employees and deriving income by remunerating employees in such a way that motivates and encourages them to achieve their personal goals as well as those of the organisation to recognise their role as stakeholders in that organisation. At the same time, they can be provided with an environment that provides the security of protection from many of the financial risks and hardships inherent in one’s lifestyle.

 

Effective remuneration planning is, therefore, not just about paying employees, but is also concerned about rewarding employees. Those rewards can be classified into three distinct types; base remuneration as well as short-term and long-term incentives.

 

Market practice

A recent study shows that 85% of Companies are Targeting the Market Median when, setting employees’ Base Remuneration levels. A recent study observed that: "85% of the respondents indicated they target employee base salary at the 50th percentile. Employers tend to largely assess the market value of jobs on an annual basis and address current market conditions on an as-needed basis. Currently, the market isn't compelling employers to accelerate wage growth in any significant way."  These are the findings of a survey, titled "Compensation Programs and Practices," published by WorldatWork, which is a leading USA based human resource association. The survey of the association's membership, conducted in 2014, focuses on the prevalence of base and variable pay programs, as well as common practices used to administer and communicate these programs. Similar surveys were conducted in 2012, 2010 and 2003. 

 

As Kerry Chou, CCP, WorldatWork Senior Practice Leader observed, "the percentage of organisations providing minimal pay-related information to their employees is increasing, up to 39% in 2014. The report also shows that pay for performance continues to thrive, with 72% of respondents indicating they have a rating system with a performance score tied to pay increases”. 

 

Furthermore, the results indicate that each employee's understanding of the organisation's remuneration philosophy tends to be higher when there is greater differentiation in increases between average and top performers.

 

Delivering performance-based pay

 

Additional highlights:

 

  • 82% of organisations use bonuses to deliver performance based pay, which is the most frequently used variable pay plan for some or all employees. 
  • A majority (59%) of base salary structures for employees are still adjusted once a year, with 14% of companies adjusting their structures once every two years. This is a five-percentage point increase from the previous two surveys. 
  • In 2014, as in 2012 and 2010, individual performance based pay levels only resulted in moderate variations, with top performers receiving 1.5 times the average increase being the most typical variation in salary increases between average and top performers. 
 

Short-term variable remuneration is over and above base remuneration 

 

Its purpose is to provide specific incentives to influence behaviour to achieve certain specific organisational requirements. For example, the short-term valuable remuneration is often based on Divisional profit improvement, increased sales or other specific empirical or judgmental objectives.

 

Long-term bonus provides an employee with a vested interest in increasing the value of an organization and is often achieved by rewarding performance with a stake or share in the organisation. This is often achieved by using an employee equity plan.

 

The key objective of the equity based reward is to focus an employee’s attention on the organisation’s owners (ie the shareholders) objectives, which are maximising the long term value of the organisation, rather than focusing attention on the short-term or annual returns of the organisation.

 

Conclusion

With the trend to “fix” base remuneration to the market median, there are a lot of opportunities in designing remuneration, by having increased emphasis (% of Total Remuneration) on well-designed Short Term and Long Term Incentive arrangements. In so doing, the organisation will achieve the Optimal Remuneration Mix, in order to achieve the objectives of Employee Attraction, Retention and Motivation, while at the same time achieving and maximising the Directors’ and the Shareholders’ corporate objectives.

Feedback