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Compensation: What's the Big Secret?

Compensation: What's the Big Secret?*

By Tom Krattenmaker who can be contacted at http://hbswk.hbs.edu

1. Introduction

No, you shouldn't be broadcasting your employees' salaries. But a new survey suggests that companies need to articulate how pay systems work and how individual compensation packages are determined. The payoff for you? More employees satisfied with their compensation.


Over and over, we're told of the value in today's workplace of open communication, of transparency. Yet there's something critical that, in most organizations, remains top-secret. And that's compensation—specifically, what salaries are and how they are determined.

It's in everybody's thoughts, yet rarely on their lips.

"It's perceived to be the unmentionable. We're the most open society in the world except for this one topic," says Peter LeBlanc, senior vice president of Sibson Consulting/The Segal Company (New York City). "Companies aren't bringing up the topic of pay, and people aren't seeking answers, because it's verboten."

But a new study coauthored by LeBlanc shows that more and better communication about compensation can boost employees' satisfaction with their pay, leading to stronger commitment to the organization, enhanced trust in management, and other benefits. And it doesn't cost much to get these payoffs.

The Knowledge of Pay study, sponsored by the human resources professional association WorldatWork, in Scottsdale, Arizona, surveyed more than 6,000 managers and employees from twenty-six organizations in the United States and Canada. The study does not suggest that companies reveal individuals' salaries. But it is telling people to talk about how pay systems work and how individual compensation packages are determined.

Companies aren't bringing up the topic of pay and people aren't seeking answers, because it's verboten.

# Peter LeBlanc, Sibson Consulting/The Segal Company: "We found at all income levels that the more knowledge our study participants have about their pay system, the more likely they are to be satisfied with their pay and engaged at work," LeBlanc says. "That's pretty powerful."

Knowing more about compensation not only made more employees satisfied with their pay, it also fostered work engagement—for instance, it improved retention, employees' commitment to the company, and their willingness to refer friends and family to the organization. This could prove to be a bright note in today's economic climate: It is usually less expensive to improve and communicate a compensation structure than to increase actual pay.

2. It's base pay that matters

The study finds that base pay matters the most when it comes to communicating pay information. In a time of increasingly complex pay packages, this might disappoint the many companies that are committing time and dollars to bonus plans, short-term incentives, stock option programs, and the like. Nevertheless, the survey finds that satisfaction with base pay translates more strongly into work engagement than satisfaction with variable pay programs.

Thus, organizations intent on doing a better job of communicating about compensation would do well to give the most attention to base pay.

Why do organizations guard pay information so jealously, and why—as the Knowledge of Pay study finds—do employees so seldom ask for more information? Largely for the same reason people don't reveal their salaries to one another at cocktail parties. Several human resources and compensation experts interviewed believe the salary opaqueness that tends to prevail in workplaces is due to a long-standing cultural norm that has made pay a taboo subject. Other factors include the old notion that employee pay is the prerogative of top management; a worry that the more workers know about pay systems, the more they'll find to complain about; and management's desire to retain as much flexibility and subjectivity as possible in determining pay.

Susan Zelinski-Davis, CCP, manager of employee performance and rewards at the insurance and financial services company Nationwide (Columbus, Ohio) believes companies with sound compensation programs have nothing to gain by hiding them. "Organizations should examine their pay systems and ensure they are well designed, which allows them to be open in communicating about them," she says. "As long as you have sound systems and guidelines, even if there remains some management discretion—and I don't think you can completely remove that—then you should be able to openly discuss pay."

Perhaps surprisingly, managers surveyed for the Knowledge of Pay study report that employees ask about pay relatively infrequently. For example, just 17 percent of managers said they are frequently approached by employees with questions about their job grades, and only 15 percent are frequently asked about the consistency of pay practices. By contrast, 40 percent are asked frequently about performance issues.

But the study authors are quick to discount a lack of interest as the reason for the relative dearth of questions about pay. More likely, they say, is the perception that such questions are unlikely to yield honest answers and, worse yet, could bring retribution.

3. The cost of silence

With pay, as with any other subject, when there is an information vacuum, misinformation usually seeps in to fill it—and this misinformation is often more damaging than the truth. Martin Cormican, manager of compensation and benefits at Swarthmore College, notes that employees, even in highly secretive organizations, are bound to hear rumors about how management sets pay and how compensation compares with that in other (presumably more generous) organizations—even how much so-and-so in the office next door got in her last raise. "People take this information and internalize it, whether it's valid or not," he says. "That makes it more critical than ever for organizations to communicate their pay philosophy and strategy."

Human resources professionals believe—and the new survey confirms—that employees are particularly keen on knowing they're being paid fairly relative to their peers inside the organization. Given the potential for the spread of misinformation and the damage to morale that can follow, tight-lipped leaders should ask themselves whether they are truly well served by maintaining silence on pay structures and how various jobs fit into them.

Even if employees aren't asking managers for pay information, the study demonstrates that organizations are wise to give it. "You can have a great compensation program, but if you don't tell employees how it works, you're not getting the biggest bang for your buck," says Kay Sandvik-Schmitke, manager of surveys and research for WorldatWork.

The new study finds that managers feel significantly less confident communicating compensation information than they do discussing and assessing performance. Whereas more than 80 percent of managers surveyed are either "very confident" or "completely confident" in their ability to give performance feedback and explain performance objectives, only about 40 percent report the same confidence in answering employee questions about job grades, how to move toward the maximum pay in a range, and consistency of pay practices in the company.

The conversation can be particularly difficult when managers must explain a below-par raise to a report. To avoid such a conversation, Zelinski-Davis notes, managers are tempted to give proportionally equal raises to everyone. "Many managers tend to spread the dollars like peanut butter rather than allocating more dollars to higher-performing individuals and having to face the challenges of communicatingproportionally smaller raises to average or below-average performers," she says. While this approach avoids a sensitive conversation, it robs management of one of its most powerful motivational tools, and it makes less than optimal use of the company's finite compensation dollars.

4. Communicating about compensation

Once they make the commitment to openness about pay, companies can communicate effectively by following several key steps, according to the study authors and several human resources experts interviewed.

Organizations typically rely on mass communications—manuals, handbooks, large staff meetings, etc.—to inform employees about pay. But the Knowledge of Pay study suggests that most people find such vehicles ineffective. More useful are personal and interactive approaches, often best performed by an employee's manager one-on-one.

The study also suggests that companies can communicate pay information effectively through interactive, individualized e-learning courses conducted on intranets. That doesn't mean it's enough to send one-size-fits-all memos out via e-mail. "In our electronic environment, everything is easily pushed to everyone," says Bruce Lawson, partner and president of the human resources consulting firm Fox Lawson and Associates (Roseville, Minnesota). But with pay information, it really doesn't work. "When it comes to communicating pay information," he says, "people really like personal contact."

Answering questions isn't enough, experts say. Managers should initiate the conversation, both in formal meetings and through informal contacts.

Of course, for managers to serve well as the principal vehicles for communicating around compensation, they need to be better trained for the assignment than they are now. First, they themselves must learn how the pay system works. Then, managers need to learn to translate the information for their staffs—to use language appropriate to the lay audience and to apply the concepts to an individual's situation "on the ground."

5. Make it relevant

Managers can make pay communications most effective by focusing on aspects of the compensation plan relevant to the particular employee. For example, "a company can have different types of bonuses," Sandvik-Schmitke says. "If the bonus program pertains to the employee a manager is meeting with, the manager has got to put that person's line of sight on how the bonus program impacts them." Similarly, a lower-paid line worker ineligible for stock options certainly doesn't need details on that component of the pay plan. The pay conversation with this worker is best devoted to how his raise was determined and tangible ways he can improve his performance to move up in the grade system.

Employees obviously will not always like their raises, Lawson says. "But if people understand how you got there, there's a greater likelihood they'll accept the outcome. If I tell you your salary is being cut by 10 percent you're going to be upset. On the other hand, if we started out by educating the work force—maybe the company is having problems, and the alternative to salary cuts is layoffs—then at least you'll understand why the decision had to be made."

Key to earning that acceptance is giving employees information about the company's fortunes, which requires treating them more like trusted insiders than an external audience to impress or mollify. It's easy to be open when the news is good. Less common, but just as necessary, is informing employees about problems and unresolved challenges and issues.

5. No more mystery

Honeywell Electronic Materials, Sunnyvale, California, a participant in the Knowledge of Pay study, took quick action based on the study findings. Ina Marie Johnson, director of human resources at the 1,200-employee unit, organized a symposium in early August to review the results and how they applied to the company. Typical of organizations participating in the study, employees at HEM were generally satisfied with their actual pay but not with the poorly understood processes by which it was determined. After devoting the first day of the symposium to reviewing the research results and external best practices, HEM spent the second and third days educating managers about the company's compensation system, with the aim of preparing them to communicate more effectively with their reports. "The whole idea," Johnson says, "was to take the mystery out of our pay processes."

As a second step, HEM launched in late August a customized, online "Total Rewards Tool." Honeywell employees can now punch in a password to access a Web page that documents their complete compensation package—base pay, bonuses, benefits, etc.—and its cash value.

The thought of communicating more openly about pay might cause squirming in the executive quarters of organizations that are used to keeping compensation information close to the chest. But in LeBlanc's view, open and direct communication about compensation is vital to strong employer-employee relations. Employees increasingly expect and desire to be treated less like hired hands and more like integral members of the team; the very act of letting them in on the long-held compensation "secret" can create good will, LeBlanc says. Coupled with that is an economic climate in which management is less able to buy employee happiness through raises.

"I can't think of a better time in the last twenty years to reveal more about how pay systems work and compensation decisions are made," LeBlanc says. "There's a lot of retrenchment in pay right now. Maybe you can't distribute more pay right now, but you certainly can distribute more knowledge."

* By permission of HBS Working Knowledge: http://hbswk.hbs.edu

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