The Salary Sage

Developing a Consistent Approach to Salary Administration

Since the HR function serves many independent departments, and sometimes even distinct offices or  subsidiaries in disparate locations, it’s critical to standardize systems and processes. This is the only   way to ensure a consistent approach to administering base salary for all employees. The best place to  start this process is by posing key questions that will help bring appropriate issues front and center for your consideration. In this blog entry, you’ll find high-level questions to ask relating to:

• Market considerations
• Salary range structure
• On-going administration
• Cost implications

Market Considerations

• How will we define our competition in the various markets in which we operate?
• How will we reflect pay differences for the geographic markets in which we operate?
• How will we reflect pay differences based on size and complexity of our locations?
• What is our desired competitive position relative to the markets we compete in?

Salary Range Structure

• Will jobs be grouped into salary grades or will each job have its own unique range?
• If we use salary grades, will different offices have the same grade structures?
• How wide will the ranges be (from minimum to maximum)?
• Will all ranges have the same width or will they vary by job size or other factors?
• If we have salary grades, how will we assign jobs to grades?
• If we have unique ranges for each position, who will be involved in creating and approving those ranges?

Salary Administration

• What factors will drive salary range adjustments?
• How often will ranges increase?
• What factors will determine salary increases? (i.e., competencies, experience, tenure, licensure, accreditation, etc.)
• What factors will determine where employees fall in their range? (i.e., knowledge, skills, abilities, performance, tenure, qualifications, etc.)
• How will we ensure employees are moving to the appropriate location in the range?
• How long should it take employees to move locations in the range?
• How will we handle employees who are paid over the range maximum? (i.e., freeze pay, lump sum increases, other?)
• How will we handle employees whose pay is in the range but higher than it should be based on their performance or other pertinent factors?
• Are we willing to give zero increases? Under what circumstances?
• What differentials (i.e., overtime, call-in, on-call, etc.) will we offer? who will be eligible to receive these differentials? How much is each one worth?
• Where should new hires come into the range?
• What is considered a promotion and how much additional is a promotion worth?
• Should we reserve a minimal amount of “headroom” between managers and their highest paid subordinates?

Cost Implications

• Will salary ranges increase every year?
• Will each location receive the same or different salary increase budgets? If different, based on what factors?
• What level of assurances will we give employees with regard to future increases?
• Will managers have discretion when it comes to determining an employee’s salary increase or will the increase be determined automatically based on predefined factors (i.e., performance versus position in range)?
• What happens if one or more locations runs into financial difficulties? Can that location  suspend salary increases while the others continue to grant increases?

Creating a consistent compensation philosophy that addresses issues will promote effective compensation practices. Stay tuned for future blog entries where these questions are answered.

Conversation with Susan Donker

Three years ago, we introduced a new management compensation program for hospitals that we now call MAP (Management Accountability and Performance). It began in partnership with Memorial Medical Center (MMC) in Modesto, California, a Sutter Health Affiliate. MMC and its visionary CEO (David Benn) and Vice President of Human Resources (Susan Donker) were looking for a better way to motivate and reward their managers. They came to Romanoff Consulting for help. Now that three years have passed, we decided to circle back and ask Susan how things have been going. Here’s what she said.

Q: Why did you decide to develop incentive plans for your organization?

SD: We were frustrated by how managers were being rewarded. In our old system, compensation was not tied to organizational results. By using incentives, we shifted to a program that makes leaders feel more connected and accountable to the organization. They recognize their direct ability to impact the organization’s goals. If they do their job right, they will be rewarded. We eliminated the accepted idea that if you just wait for time to pass and keep breathing, you’ll make more money.

Q: What benefits have these incentive plans brought to your organization?

SD: We have seen a definite improvement in the key measures that are required for all leaders: quality and patient satisfaction. People are paying a whole lot more attention in these areas. These results didn’t change overnight, but over the past three years we’ve seen a significant boost in the two measures that we deem most important to our organization’s success.

Q: What do you appreciate most about the process and logic behind the MAP (Management Accountability and Performance) program?

SD: It drives home the message that salary programs are designed to pay for a person’s worth in the market and incentive plans are designed to pay for their results. An employee’s ability to move through their salary range should be a direct reflection on what kind of a leader they are. Our old program allowed people to move through the range for market adjustments and for performance, even if they failed to meet specific goals.

Q: How has MAP helped you improve your organization’s success?

SD: Having two distinct measurement systems, one focusing on leadership effectiveness and the other on results, allows us to track each critical component separately. We’ve discovered that certain managers who rank very high in leadership don’t produce very good results. We’ve also learned that some of our best results are coming from out least effective leaders. This knowledge enabled us to pinpoint which are managers need to improve and where.

Q: Do you like the plan documents created using the Incentive Plan Builder software?

SD: Yes, the presentation of data is very clear. At the end of the year, we enter the data and verify the results. In addition to generating each manager’s incentive plan, IPB gives us the ability to collect all kinds of data from which we can develop meaningful reports that pinpoint trends.

Q: How do your employees react to these incentive plans?

SD: The majority of employees get it and like the reward system. Good leaders love it. Poor performers tend not to like it because it exposes their weaknesses and withholds dollars they used to get automatically.

Why Salary Ranges Don't Work

A while back, I addressed the issue of salary range width, commenting on when and why to go narrow or broad. Today, I am going to talk about a fundamental flaw in all salary ranges and what you can do about it.

COMMON PROBLEMS WITH SALARY RANGES

Here is a list of some of the more common problems with base salaries:

• Employees have difficulty making progress through the range (employees paid at the bottom of the range tend to remain there).
• Employees at the top of the range are demotivated because they can't make more money.
• Many companies don't honor range maximums and minimums and pay employees outside the range.
• There is little or no correlation between an employee's position in range (i.e., pay) a their sustained performance.

I have conducted numerous studies over the years attempting to correlate an employee's position in their salary range with numerous factors including tenure, experience, performance, gender, age, and education level. Of these factors, the only one that even remotely correlates is tenure (and only VERY loosely). What this indicates is that an employee's position in their range is essentially random. A top performer is just as likely to be paid at the bottom of the range as at the top. Same for highly experienced and highly educated employees. This is true both for companies that use merit pay systems and those that don't.

This raises an obvious question -- if an employee's position in their range is random, why have salary ranges at all? My answer is simple -- you should not have ranges if you cannot say beyond any doubt that your top performers are paid at the top of the range (assuming this is what you want). You might as well scrap the ranges and replace them with a single rate of pay (or an "provisional" rate for new hires and a "job" rate for everyone else and be done with it).

If you decide to keep your ranges, it is essential to establish how you want them to work, then set up systems and processes to make certain this happens.

HOW SALARY RANGES ARE SUPPOSED TO WORK

For the moment, I am going to assume that the vast majority of salary ranges are established for the purpose of paying strong performers more than weak performers. I realize that there are many valid reasons why this may not be so, and I have addressed several of them in earlier entries: Why is My Salary Higher Than The Market? and Why Is My Salary Lower Than The Market? But if you ask most CEOs how they want their ranges to work, they usually answer "I want my best people to be paid at the top of the range."

WHY SALARY RANGES DON'T WORK THE WAY THEY ARE SUPPOSED TO WORK

There are two main reasons why salary ranges don't work the way they are supposed to work:

Reason 1 -- Because salary increases are too small.

Reason 2 -- Because salary increases are too large.

Seems contradictory? It's not.  Let me explain.

Most companies increase their salary ranges every year. Some increase all ranges by the same amount (this is a bad idea that I will address some other time). Some vary how much each range increases based on market data (a much better idea). In most years, companies increase salaries by the same amount that they raise the ranges. In other words, if they raise the ranges 4%, they also budget 4% for salary increases. This, in and of itself is not a problem. The problem arises when you consider the spread between the largest and the smallest increases granted. In practice, most companies give almost every employee some increase. They reserve 0% increases for a very small population of incredibly poor performers. In addition, since increases smaller than 3% are likely to be viewed as insulting, they rarely pay less than that. This leaves VERY little money to offer substantial increases to top performers.

Let's take a look at an example where a top performers get 7% (which admittedly is large, but I am using it to prove a point). In a year when ranges have increased 4%, a 7% increase results on only 3% progress toward the top of the range (7% increase minus 4% range adjustment = 3% progress). Now let's assume that our top performer is currently paid in the middle of a range that is 50% wide (+/- 20% above and below the midpoint). With progress of 3% per year, this person won't be paid at the top of the range for 7 years. Guess what, they will be working for someone else long before that.

Now let's look at Reason 2. Why would it be a problem if increases are too large? We have already touched on it. If the smallest increase given is 3% when the ranges themselves are increasing 4%, then poor performers are only dropping 1% per year back toward the bottom of the range (4% range adjustment minus 3% increases = 1% drop). If a poor performer is currently paid at the middle of the range, it will take them 20 years to regress to the minimum.

WHAT CAN BE DONE?

Clearly, the only way out of this pickle is to give a whole lot of people zero increases in order to be move top performers rapidly through the range. Most executives are VERY reluctant to do this because they recognize they will have a riot on their hands. As a result, the spread their salary increase dollars like peanut butter; wide and thin. And they are surprised when employees roll their eyes when they mention pay -or-performance.

THE PERFECT PAY PLAN

You can get around all of this by doing two things.

1) Create incentive plans for all employees so base salary isn't the only way for them to earn more money. As I have emphasized frequently, incentives are self-funding if you set them up right, and you only pay them to people who deserve them.

2) Divide your salary ranges into zones, and specify BOTH the performance level AND the timeframe associated with each zone.

Below is a diagram showing a salary range that has been divided into 5 zones:

Below is another diagram showing how each zone correlates to a specific performance rating from the pay-for-performance system (on a 0 to 5 scale):

The trick to using this system is to specify in advance the MAXIMUM amount of time it should take employees whose SUSTAINED performance is in one zone for their pay to fall into that same zone. Here is an example:

NUMBER OF ZONES	EAXMPLE	NOT MORE THAN. . .
One Zone Jump	Zone 2 to Zone 3	TWO years
Two Zone Jump	Zone 2 to Zone 4	FOUR years
Three Zone Jump	Zone 2 to Zone 5	SIX years
Four Zone Jump	Zone 1 to Zone 5	EIGHT years

In this system, there are no specific rules governing the size of annual increases. It is up to each manager to ensure that their employees reach the appropriate zone within the specified amount of time based on sustained performance. In addition, any employee whose current pay is in a higher zone than their corresponding performance RECEIVES NO INCREASE. This may seem harsh, but there is no justification for paying such a person more salary since they are already overpaid for their level of performance.

This approach works exceptionally well for both managers and employees. Managers like it because it gives them both clear guidelines and discretion when it comes to managing employee pay. And employees like it because they have a firm commitment on how long it will take them to reach specific pay levels based on their sustained performance.

Salary ranges, like so many other aspects of compensation, seem simple on the surface, but are highly complex in practice. Managers need to learn not to take anything for granted. Every part of every pay program exists for a reason. If this reason is not thoroughly understood and properly handled, one of the company's most important management tools is squandered.

Musings on Salary Range Width

One of my clients called me yesterday with a question that I thought might be relevant to you. She asked me how wide companies were making salary ranges for their lower-level employees. As a general rule, the smaller the job, the narrower the range. The rationale for this is that there is less variability of performance in lower-level jobs (how many different ways are their to answer the phone or file documents?). And since the purpose of most ranges (with the exception of those used to reward tenure) is to reward performance, you don't need wide ranges for small jobs.

HOW NARROW IS NARROW?

Following this logic, the widest ranges normally go with the largest jobs which are executives. Executive ranges can be as wide as 85% (+/- 30% around the midpoint which is 85% when measured from min to max). I normally consider this a bit wide and prefer 67% wide executive ranges (+/- 25 around the midpoint).

The standard range width for non-executive exempt employees is 50% (+/- 20). This would cover directors, managers supervisors, and professional or technical individual contributors.

Standard ranges for nonexempt employees are usually 35% wide (+/- 15%).

WHAT ABOUT BROAD-BANDS?

Several years ago, a phenomenon known as Broad-Banding caught hold. It held sway for a few years and has now died out. Broad-banding was the practice of creating unusually wide base salary ranges. It was not uncommon for a Broad-Banded range to be 150% to 200% wide.

The rationale for this was that wider ranges could better accomodate all the variables for a particular job or person including, tenure, performance, job content, industry, and geography. In practice, it became a way for managers to pay anything they wanted with impunity since they never had to worry about an employee falling below the minumum or over the maximum. It was tantamount to compensation chaos. In fact, a pay program using Broad-Bands is really no pay program at all.

Conscientious managers, realizing the need to lend some order to this chaos, started dividing the Broad-Bands into zones. For eample, they might use the lower-third of the band for new hires, people with minimal experience, and low performers. In effect, they were creating ranges within ranges which effectively negated the whole idea of a Broad-Band.

SYMMETRICAL OR ASYMMETRICAL?

Perhaps the bigger question is whether or not the ranges should be symmetrical around the midpoint. Symmetrical ranges have the same distance from the midpoint down to the minimum as they do from the midpoint up to the maximum.

More than ten years ago, prior to the rise in popularity and availability of market data, there was considerably more variability in the pay of for a particular job from one company to the next. This was because it was difficult to get good data on how much a job should be paid. This was great for the consulting companies that owned a monopoly on the pay data, but it was bad for companies. It was not uncommon at that time to find two companies in the same industry and in the same city paying the same job 20% or 30% different. This is much less common now.

When placed in a slightly more technical context, the interquartile distances, that is the distances between the P25 and the P50, and between the P50 and the P75, have been consistently narrowing for the several years as companies become more aware of what other companies are doing.

I practice, this means that the actual salary difference between a new and experienced employee and a high-performing, long-tenured employee (in the same position) has diminished. It also has resulted in a situation where hiring managers have realized that the bottom portion of the range is no longer useful. As companies start to pay more and more alike, more an more salaries start to converge around the midpoint (especially if that midpoint is set at the median of the market).

This has led many compensation managers to chop off the bottom 5% or 10% of the ranges as they find they can't hire candidates in those zones. This produces an asymmetrical range with perhaps 5% or 10% below the midpoint and 15% to 20% above the midpoint. There is no need to shorten the top half of the range since you will still want to pay your top performers well.

PERFECT PAY PLAN RECOMMENDS

From a Perfect Pay Plan perspective, I would always steer clear of Broad-Bands. They are a failed experiment I have never seen them work. I would definitely recommend asymmetrical ranges in situations where the lower half of the range is not productive for hiring. However, since I am not a big fan of varying range widths from one job to another, I would pick an approach that works best for the majority of positions and apply it to all jobs.