Compensation– Fairness & Transparency

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Manager: Here’s your revised salary. Keep it confidential. Employee: Don’t worry Sir. I am equally ashamed of it!!

This joke I read on the internet recently sums up the topic that I am attempting to discuss in this article.

To say that communication around compensation is a sensitive matter would be a gross understatement. And to claim to do justice to this topic in a 1000 word article would be extremely naïve. However, I will attempt to analyze this wearing a couple of different hats – one of the employees and the other of the employer.

When it comes to employee surveys, if there is one item that most organizations score low on – it is on questions related to Compensation. The actual verbiage does not matter. Be it a question on fairness – “I am paid fairly for the work I do” or one linked to meritocracy “My rewards are linked to my performance”, the general trend seen is that these questions score the lowest amongst all.

So does this mean that most organizations’ pay poorly – Or – is it that in most organizations, compensation does not correlate with performance? The answer, in my view, is No! It’s probably more because of perception. Most employees would naturally want to know how their compensation is vis-à-vis others. Maybe the new generations would want this even more so than their older counterparts.  In organizations where compensation is confidential, and there is an absence of appropriate communication or discussion, it would not be uncommon to find employees suspecting (rightly or wrongly) that they are paid less than others and/or less than what they deserve.

A 2017 study by PayScale in fact reported that about 90% of respondents who were actually paid at par or higher than the market, perceived that their pay was lower than peers. And does this perception of pay matter? Yes, it does, if you were to believe the same study that goes on to report that 75% of those who perceived they were paid at or higher than the market, also reported high satisfaction with their jobs

So is the answer more transparency in pay? If yes, how much transparency is too much?

Zoe B Cullen & Ricardo Perez-Truglia, in their study (“The Motivating and (Demotivating) Effects of Learning Others’ salaries, 2018) shed some insights on this. The study conducted two different kinds of experiments – one involving knowledge about the Manager’s pay & the other involving knowledge about Peer’s pay.

The study finds that employees are able to handle “Vertical inequality” – i.e knowledge about significantly higher pay at senior levels (manager in this case) – quite well. In fact, this seemed to result in more discretionary effort on the part of the employee – potentially because there is an aspirational element to it. The harder you work, the better the chance of getting promoted and becoming eligible for that higher raise.

However, the study also found that knowledge of “Horizontal inequality” – i.e. higher pay amongst peers than self – caused a reduction in productivity and effort. After all, who likes the knowledge that s/he is paid less than others?

While the fairness of pay may not be the primary driver in most organizations, it would be highly unlikely that any company would have a primary agenda of being “unfair”. For most organizations, the intent of the compensation program(s) would be to contribute to the organizations’ business objectives – both short & long term. Many organizations practice meritocracy where the priority is not to look for “Equality in the pay” but “Equity in the pay” – the concept of Equity here factors in different pay for different levels of contribution and performance.

That’s where Pay transparency starts becoming difficult to implement. The whole concept of differentiation of pay based on relative value is at loggerheads with transparency – the more transparent the pay, the greater the likelihood of a significant number of employees (who are paid lower) being disengaged and disappointed.

We could argue that such disappointment can be addressed through communication with employees explaining why the pay difference exists. Yes! That would be true, but only assuming that the employee is mature enough to understand the compensable factors and his/her positioning against other peers on those factors. However, as Todd Zenger (in his article “The Case against Pay Transparency”, HBR Sep 30th, 2016) states – employees tend to exaggerate their performance relative to peers. In his study, he reports that when asked to assess their own performance relative to peers, nearly 40% felt they were in the top 5%!!

Transparency in pay in such circumstances creates more harm than good because it could hamper the organization’s ability to differentiate for performance. So is there a middle path that organizations can tread to get the best of both worlds?

Some of the following could be practices that could be reviewed for implementation:

Structured Rewards Program:

If the organization has a structured rewards program where each reward plan has a specific objective &that takes into account key compensable factors (relevant to the organization), then more often than not, pay decisions at an individual level will be fair and equitable.

Communicate Philosophy on Pay:

Organizations could communicate their philosophy on pay at a broad level emphasizing the factors they consider key to compensation. This would establish a baseline understanding across all employees and help manage expectations around pay.

Educate Managers:

Managers are often the closest to the employees& the first line of defense for the organization. Hence, equipping them with key information about pay & even better – involving them in the pay decisions of their teams – would result in them being able to communicate about pay with much more confidence and credibility. This would also result in greater trust by the employees.

Swiss Army-Knife Approach:

I am borrowing this term from a conversation I had with my manager on pay comparison.  Her point was that if there are multiple tools in our “Swiss Army Knife” (e.g. Incentives, Education Support, Inclusions /Invites to special forums…etc.), and if we can use the tools differently for different individuals based on what motivates them, there would be far lesser chances (and need) of comparison than if there was just one.

Pay Potential:

Flipping the conversation around pay transparency from “what it is…” to “what it could be…” is another aspect organizations could consider. Imagine being able to articulate to the employee what s/he could make in the future 3-5 year horizon – provided s/he performs well, learns this new skill, gets promoted …etc. That’s a far more positive and constructive conversation than discussing why the pay is what it is today.

The technology could soon be a great enabler for organizations in this field as well. Compensation analytics could help provide a “Say-Do” analysis on matters of pay philosophy – e.g. Are we as equitable as we claim to be? Do we really differentiate performance and contribution the way we want to? …etc.

Access to such analytics & the ability to be able to provide the right view to the different stakeholders would, in turn, help ensure that we get the benefits of pay transparency without the pain it might otherwise bring!

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Gopi Krishna, Global Head, Compensation & Benefits, QuEST Global. An “accidental HR professional” is what he calls himself. Gopi began his career as an engineer & graduated to lead and manage large projects before an internal job rotation in his earlier organization led him to a role in HR. What was supposed to be a temporary assignment soon became a career. He now heads Total Rewards& International Mobility at QuEST Global. He’s passionate about talent matters and believes that educating and enabling people managers is the key to engaging talent.

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