What is a "Fair" Compensation Plan?

Who doesn't want to be called fair, right? A desire to be considered fair is in our bones and to be called unfair is one of life's ultimate insults. (Unless of course it's your teenager claiming something is unfair; in which case you know you're on the right track. But I digress.) Likewise, we instinctively sense unfairness when we experience it.

Fairness in compensation, however, is a topic almost no one seems to want to think about. How can we objectively determine if a pay plan is fair and do we even want to "go there?" Well, I think we can (determine it) and should (go there). Here's a list of questions I think a company should consider to determine if their compensation package is "fair."

  • Compensation Philosophy Statement. Has your company put in writing it's philosophy about compensation and what it is willing "pay for"? Does your company communicate that philosophy to its employees?
  • Market Pay. Do your current salary levels comport with market pay standards? Are they consistent with where your compensation philosophy statement says you want to be in this regard? (E.g. 50th percentile of market pay.)
  • Value Sharing. Does your company define value creation for its employees and have a mechanism for sharing value that is created--both short-term and long-term (particularly for key producers)? Is it consistent with your compensation philosophy statement about sharing value?
  • Benefits. Does your benefit's package offer employees an "adequate" if not superior opportunity to insure against risks that could impact their financial future and allow them a mechanism for retirement planning? Does it recognize the potential "reverse discrimination" impact of qualified retirement plan restrictions for high income earners and allow the latter opportunities to offset those limitations (i.e. 401(k) mirror plans or other supplemental executive retirement plans)? Is there adequate choice and flexibility in your benefit plan?
  • Line of Sight. Do your compensation philosophy and its associated plans create a clear link between the vision of the company, it's business model and strategy, roles inherent in that strategy and expectations associated with those roles, and how individuals will be rewarded for fulfilling those expectations?

I suppose other questions and categories could be added to that list, but that's a pretty good start. I believe most companies have more control over the sense of fairness employees feel about compensation than they sometimes allow. For example, many are confronted by employees who have looked at market pay data online and concluded they are under paid for their positions. Never mind that there is a range of variables in evaluating such data, and that employees who are overpaid will never make that known to their employer. The overriding issue is that most companies don't have a philosophy driving their pay strategies. They are not armed with a cohesive approach, so they are left sensing that such employees feel the company is "unfair" when it comes to pay--regardless of the logical explanations that are offered in response to their challenges. Such business leaders need an approach to rewards that will allow them to respond in such situations with something like the following:

"Our company's philosophy about compensation is that we will pay salaries at the 45 percentile of what market pay data indicates for the positions in our organization. (By the way, our last check of that data indicates you are at the 47% for your position, based on an average of four surveys we evaluated.) However, we also believe in providing significant upside potential through the two value-sharing plans you are eligible for. Our annual bonus plan allows you to earn an additional 25% plus of salary if you and the company meet the performance standards we have set and communicated. Likewise, you participate in a phantom stock plan that allows you to earn an additional 30% of your salary in phantom shares of stock which, if we continue to meet our targets, will grow in value and be paid out to you in five years. You also are part of our company's deferred compensation plan which has a performance match of up to 25% of your contributions. That is not counting the match we give all employees on their 401(k) program contributions. All told, your pay package has a value of $1.7 million over the next five years."

I think most people would not only would consider such an approach "fair" but would likely find it a compelling reason to join and or stay with such an organization. And by the way, the "self-financing" approach to the value sharing described here makes CEOs and shareholders happy to write incentive payout checks. Value is being paid out of superior value created--and nothing is paid if certain performance thresholds aren't met. So it is not only a fair approach for employees but for the business as well.

Companies that give this much thought to their approach to pay communicate the value they place in the relationship with their people and a respect for the unique contributions individual members of the workforce make. That sense of partnership makes fairness self evident.

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