Study Shows Compensation Programs Becoming More Strategic
By Sandra O'Neal, CCP, Towers Perrin
Consider a work world of tomorrow where competency-based pay is the norm, where many organizations
have eliminated base pay increases in favor of managing to total compensation targets and multisource
performance assessment has replaced supervisory assessment as the method of choice. If the
predictions made by respondents in a recent Towers Perrin study are accurate, tomorrow is only a few
years away.
Almost 750 human resources and compensation managers at a broad cross-section of U.S.
organizations responded to questions on compensation strategy, base pay programs, broadbanding,
competency-based pay, variable pay, recognition programs, performance management and
communications for the Compensation Challenges and Changes study. They report a story of almost
startling change both in the workplace and in pay. (See Figures 1 and 2.)
Approaches to compensating employees are undergoing a transformation from traditional pay structures
that emphasize job duties, internal equity and tenure to more flexible systems that reward competencies,
performance and wider range of contributions to organizational success.
While organizational change has been dramatic, compensation change is reported to be evolutionary,
not revolutionary, at the typical company today. Traditional pay systems are still in place at the vast
majority of the organizations surveyed -- chiefly, it seems, because companies are still struggling with the
specifics of change. At the same time, a majority (58 percent) are currently reassessing their
compensation strategies with an eye toward modifying their rewards systems to more closely reflect
today's business realities and emerging needs.
Rethinking Compensation Strategies
These findings, along with others, suggest that compensation programs in many organizations may look
quite different a few years down the road. Among the most notable findings is that most of the
organizations surveyed are currently engaged in a comprehensive reappraisal of their compensation
strategies. Driving this strategic reassessment typically is the dramatic change that these organizations
have undergone -- and with which they continue to struggle.
More than four-fifths (81 percent) of respondents report some type of restructuring in their organization
during the past three years, and more than two-thirds (71 percent) foresee more of the same in the next
three years. Significantly, most also see gains from their restructuring efforts across a wide range of
areas, citing improvements in productivity, profitability, teamwork, customer satisfaction and leadership.
Despite all the change in organizational structures and business outlooks, traditional compensation
infrastructures are still the rule at most of the participating companies. Roughly three-fourths of the
survey group rely on standard merit budgets to deliver raises to nonexempt and exempt employees.
Nearly all look at a combination of traditional factors (e.g., individual performance, position in range,
internal equity, competitive market position) while calculating increases. While the respondents say their
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top strategic HR and compensation objectives involve elements such as paying for results, focusing
employees on customer needs, skill enhancement and increased productivity, their current approach to
compensation delivery remains largely job-based and control-oriented, and it is somewhat at odds with
these goals.
Viewed together, these findings highlight that there is an enormous amount of searching going on in
many organizations. In short, companies seem to have a very firm handle on what to change, but they
are less sure about how to get there.
Nevertheless, the survey results provide clear signs that many organizations will resolve at least some
key compensation issues over the next few years. Furthermore, the respondents' future plans suggest
considerable innovation in compensation and human resources management. Among the significant
trends revealed by the survey responses are

A growing reliance on comprehensive total compensation strategies to manage an
integrated array of cash and noncash reward elements, including training and
development. More than half (58 percent) of the respondent companies have begun
developing an appropriate total compensation strategy, most commonly within the last 12
months. In nearly all (91 percent) of these companies, the emerging strategy is based closely on,
and linked to, the organization's business strategy. Most of these strategies encompass a fairly
broad array of reward elements. More than half (57 percent) of the group factors in benefits
along with traditional cash compensation, and a surprisingly large number (23 percent) already
count work/life programs as well (e.g., telecommuting, flextime). In formulating their strategies,
the companies surveyed are focusing primarily on finding (and keeping) top performers and
rewarding those individuals for their contributions to desired results.

Increased use of broad-based incentives and other forms of variable pay. While traditional
merit pay programs still predominate, three-fourths of respondents are planning to build far
more of a results orientation into their base pay programs, either by increasing their use of
variable, performance-based pay or by generating a pool of salary increase dollars based on
organizational or work group performance. Even more significant, almost one-third of
respondents are seriously considering abolishing base pay increases and, instead, using
variable pay to meet pre-established total compensation targets for employees. Should this
trend take hold, it would represent a sea change for pay management.

A gradual shift in focus from what people do (their tasks) to how they do it (their
competencies, skills and behavior), with a tighter link between rewards and competency
development. In evaluating performance, the respondents currently
focus far more on ac-complishments ("what" people do) than on competencies and behavior
("how" they do it). Based on the survey responses, this relationship appears poised to flip in the
next few years, with the "how" far exceeding the "what." Seventy-eight percent of respondents
plan to shift to competency-based pay during the next two to three years.

A greater emphasis on teams and team performance in awarding pay increases. Seventyone percent of respondents are planning to incorporate team and individual results in their
performance management systems during the next three years. Sixty-nine percent are planning
to incorporate multirater feedback approaches that give an employee's peers and even
subordinates a direct role in evaluating the individual's performance.
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
Far more comprehensive and relevant communication and training, including business
education. While less than half the companies surveyed currently communicate the value of
the total pay package and educate employees about the connection between pay and business
strategy and goals, these are precisely the areas where the respondents expect to focus more
of their communication energies in the near future. Nine of 10 plan to communicate around
these issues in the years ahead.
High-Performing Companies
Perhaps most interestingly, it appears that the "high-performing" companies in the survey sample (those
with reported return on equity exceeding 16 percent in their most recent annual report) are somewhat
further along on the evolutionary path than lower-performing organizations. High-performing companies
use variable pay far more than low performing companies. Those programs have measures with greater
line of sight and are designed by employee design teams.
Furthermore, high-performing companies use formal recognition programs more than do low performers.
Those programs include formal celebration and broad employee selection teams. High-performing
companies also have fewer controls on pay administration.
The most consistent message that emerges from this analysis is the importance high-performing
companies seem to place on the broad notion of the work force as a "team" and the collective
accountability they believe all employees have in contributing to company results. This shows in several
ways:

their greater use of variable pay to encourage and reward individual and group contributions

the fact that they take team performance into account more often and recognize team
achievements more often

their focus on increased use of multisource assessment to involve more people in evaluating
performance

their willingness to give more control over pay delivery to line managers, suggesting greater
trust in them as members of "the team."
The world of pay appears to be poised to accelerate its own change in response to changes in the
economy, organizational structures, emerging skill needs and other objectives. Ultimately, each
organization needs to address this issue in its broader business, HR and total rewards strategies. What is
important is to avoid a decision by default and to think through all the issues early in the rewards
strategy/design process to decide the most appropriate course of action for the organization's unique
direction and needs.
About the Author -- Sandra O'Neal, CCP, is a Principal and Employee Pay Practice Leader for Towers
Perrin and a member of ACA's Content Advisory Panel. She was one of the primary researchers for
ACA's 1996 competencies study titled Raising the Bar: Using Competencies to Enhance Employee
Performance.
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