Employee Compensation (Pay Structure)

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What is Employee Compensation and what is a Pay Structure? Meaning.

A pay structure, also referred to as "compensation system" or "salary structure", is a system that defines what each individual and job role is paid based upon their value to the business and effectiveness in their role.

Importance of a Good Compensation Structure

Designing such structure is important for any company, as it helps to achieve at least 3 major objectives:

1. Internal Equity (a situation of fair pay in which employees who do similar jobs within a company receive similar salaries, and the amount they are paid is related in a fair way to the type of job that they do)
   • Employee Motivation
   • Employee Satisfaction
   • Organizational Commitment
   • Attrition
   • Employee Productivity
2. External Competitiveness
   • Attracting Talent
3. Cost Effectiveness
   • Attrition
   • Employee Productivity

How to Design a Pay Structure. Steps

A common, straightforward 5-step process that is applicable in most business contexts is given below. The typical process steps to designing a pay structure are:

1. JOB ANALYSIS: Job analysis is the process of describing jobs in an organization. The result of Job Analysis is a number of Job Descriptions which typically comprise a job title, job summary, tasks and responsibilities, required skills, knowledge, and abilities, work context etc.
2. JOB EVALUATION: Based on the description of the jobs, in the second step, job evaluation will be conducted. Job Evaluation is the process of determining the relative worth of jobs in an organization. This can be done in several ways: using the point method, using ranking and using classification. Job Evaluation begins with identifying universal compensable factors. Job Evaluation helps to achieve the 1st objective of pay structure mentioned earlier  Internal Equity i.e. to ensure that pay is internally aligned. Here you find more on changing an existing job evaluation system.
3. DETERMINE THE PAY POLICY: Job evaluation gives an internal hierarchy of jobs. With this in hand, it is time to think about pay policy for your organization. Based on respective organization's strategy, pay policies can be of three main types:
   
   • Market Lead Policy  Paying better than market average
   • Market Match Policy  Paying in line with the market average
   • Market Lag Policy  Paying less than market average
   Note that in large organizations there are often various pay policies, because they vary across job families (groups of similar jobs) and job levels. Executive compensation is dealing with the pay or remuneration of directors, officers, and executives of a firm in return for fulfilling their often complex, strenuous and important duties.
4. PAY SURVEY ANALYSIS: To achieve the 2nd objective of pay structure (external competitiveness), companies externally align their pay structure by doing a pay survey analysis (collecting compensation data from competitors).
5. CREATION OF PAY STRUCTURE: Finally the internal job structure (resulting from 2. job evaluation) is combined and synced with the external pay rates (resulting from 4. pay survey). By using the 3. pay policy as input, the market pay line can be adjusted upward or downward. Finally pay grades and ranges are developed to complete the pay structure. An overall cost effectiveness can be achieved (3rd objective) when a well thought-out pay structure is deployed.

Source: Lisa A. Burke (2008), "Designing a Pay Structure: A Case Study and Integrated Exercises", SHRM

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