abhishreshthaa
Abhijeet S
Vectren Corporation NYSE: VVC is an energy holding company headquartered in Evansville, Indiana. The company provides gas and electricity to nearly one million customers in Indiana and Ohio. It is a Fortune 1000 company with $4.3 billion in assets.[1]
In an ever more competitive business environment, both locally and globally, many companies today are attempting to identify innovative compensation strategies that are directly linked to improving organizational performance. But this is not a new concept. For many years, incentive compensation in one form or another has been a common feature of employment contracts. The use of incentive systems is not only a defence mechanism on the part of failing firms, but more often is also a positive action in recognition of the strategic role of compensation in furthering corporate goals. The bottom line is that many companies are beginning to experiment with compensation alternatives, as the flexibility to try new forms of management is an important need of the time.
This issue is critical for organizational effectiveness. The basics of incentive pay and how it correlates with known organizational behaviour theories can be linked with the achievement of corporate goals through the use of reward system.
The Merit of Incentive Compensation
When an employee’s job performance exceeds the prescribed acceptable performance level for the organization, the related reward is called merit pay. It can be paid in the form of a bonus or as an addition to base pay. The latter is generally preferred by employees, as such an increment becomes part of the base pay and continues to be received for the duration of employment, regardless of future performance levels with often residual lifelong benefits. Alternatively, the bonus is a single, one-off, lump-sum payment, which can be in the form of cash or other creative monetary scheme, such as stock options. Unlike a base pay raise, a bonus is not automatically received in subsequent years unless justified by levels of performance in those years. In short, merit pay can be viewed as a reward for past performance, and incentive compensation as an inducement for future performance.
Incentive plans are cash payments made to employees when they exceed predetermined job or organizational goals, and serve as inducements to produce specific results desired by the organization. These metrics can be fiscal targets (sales and bookings), production output, or productivity gains (cost reduction, quality), etc. As many businesses of today embrace the concepts of total quality management and customer focus, goals are being linked directly to customer satisfaction in addition to business milestones. Tying incentives to individual or group performance must be analysed in the context of the applicable industry and what makes sense for the business. Along with performance measurement, timing is a feature of the reward system that is critical to both its acceptance and success.
Components of Compensation
Compensation serves different objectives, the main ones being to attract, retain and motivate high-potential employees. Meanwhile, the fulfillment of these goals are subject to constraints such as the maintenance of equity, cost control and legal requirements (e.g. wage and salary legislation). There are many factors that contribute to the determination of employee compensation levels, including the followings: -
Labour/product market conditions
In other words, the demographics of the employee force and the significance of their skills, the supply and demand situation in relation to critical skills, and the pay levels and practices of competitors.
Economic and sociopolitical environment
This includes the influence of the business cycle and the power of organized labour.
Employee characteristics
These include Education, Seniority, Qualifications, Experience, etc.
Industry characteristics
Such as cyclical nature, high turnover, innovators, entrepreneurial, and traditional. Industry standard wages vary considerably. Highly competitive industries, such as soft goods manufacturing, pay only the wage required in response to changing conditions in their labour market. Less competitive industries, such as hard-goods manufacturing, typically pay somewhat more than the minimum required by the labour market.
Enterprise characteristics
The list includes culture (management style), organizational structure, objectives, policies and strategies, technology, size, profitability (ability to pay), competitive labour strategy (lead or lag), salary compression (inequitable pay differentials when pay rates for new hires are too close to those of experienced employees and when subordinate pay rates are too close to those of supervisors).
Employee behaviour characteristics
Such as performance, absenteeism, and turnover.
Job characteristics
That take into account the mental requirements (problem solving), physical requirements, skill requirements, responsibility/accountability, working conditions, level of public contact, and the effort required to carry our the work. Factors such as responsibility and decision making would appear in evaluation systems for managerial jobs; physical demands and skill might appear in systems for factory jobs; and accuracy and amount of supervision received might appear as factors in clerical and technical evaluation systems.
Discrimination
Although unacceptable, there is still concern about the economic status of different groups in society. The most obvious example is the lower economic status of females compared with that of males. This seems to be a consequence of the fact that males and females are not equally represented in various occupations, and the male-dominated occupations are compensated at higher rates than are female-dominated occupations. These determinants need to be considered in the light of the contingencies required for compensation decisions.
Evaluating The Job
A large part of an individual’s direct compensation is often the base pay. To establish its level, there are principally two approaches: job-based evaluation and person-based (skill-based) evaluation. At times both appear to be in conflict. The first approach is based on the assumption that, for the organization, each “job” has a value that can be evaluated, and the person doing the job is only worth what the job itself is worth. The main advantage of this system is to facilitate a comparison of jobs and compensation levels between organizations. On the other hand, it encourages people to seek out management positions, even though they might lack the necessary managerial skills.
This problem is avoided by utilizing the second approach that rewards individuals for increasing their skills and abilities and for developing themselves, rather than for moving up the hierarchy. The pros and cons of this approach are that, initially, with frequent new skills and an accompanying pay rise, the system tends to be highly motivating; but as the workforce matures and reaches the top of the skill-based pay system, problems can arise as an individual’s compensation reaches a plateau. In general, skill-based pay seems to fit those organizations that want to have a flexible, relatively permanent workforce oriented towards growth, learning and development.
Group Incentive Plans
Incentive compensation can be based on the performance of the individual employee, a group or departmental unit, or the organization as a whole. Typically, sales incentive pay (bonuses and sales commissions) is viewed as a traditional way to compensate sales staff on an individual basis. Other methods, that for the most part are directed at the blue-collar worker, include piece-work or piece-rate incentives and standard hour plans. Critical success criteria for individual incentive plans are that the employee is capable of performing the desired behaviour, and the employee perceives that the reward is valued and is contingent on performance.
There are three major categories of group incentive plans:
1. Small-group or work units where rewards are allocated on group performance for exceeding predefined standards;
2. Productivity improvement plans;
3. Profit sharing or share-ownership plans.
Group-incentive plans are usually the most appropriate under conditions where direct supervision is not readily feasible, exact measurement of individual work performance is difficult, and where teamwork and cooperation are essential to success.
In an ever more competitive business environment, both locally and globally, many companies today are attempting to identify innovative compensation strategies that are directly linked to improving organizational performance. But this is not a new concept. For many years, incentive compensation in one form or another has been a common feature of employment contracts. The use of incentive systems is not only a defence mechanism on the part of failing firms, but more often is also a positive action in recognition of the strategic role of compensation in furthering corporate goals. The bottom line is that many companies are beginning to experiment with compensation alternatives, as the flexibility to try new forms of management is an important need of the time.
This issue is critical for organizational effectiveness. The basics of incentive pay and how it correlates with known organizational behaviour theories can be linked with the achievement of corporate goals through the use of reward system.
The Merit of Incentive Compensation
When an employee’s job performance exceeds the prescribed acceptable performance level for the organization, the related reward is called merit pay. It can be paid in the form of a bonus or as an addition to base pay. The latter is generally preferred by employees, as such an increment becomes part of the base pay and continues to be received for the duration of employment, regardless of future performance levels with often residual lifelong benefits. Alternatively, the bonus is a single, one-off, lump-sum payment, which can be in the form of cash or other creative monetary scheme, such as stock options. Unlike a base pay raise, a bonus is not automatically received in subsequent years unless justified by levels of performance in those years. In short, merit pay can be viewed as a reward for past performance, and incentive compensation as an inducement for future performance.
Incentive plans are cash payments made to employees when they exceed predetermined job or organizational goals, and serve as inducements to produce specific results desired by the organization. These metrics can be fiscal targets (sales and bookings), production output, or productivity gains (cost reduction, quality), etc. As many businesses of today embrace the concepts of total quality management and customer focus, goals are being linked directly to customer satisfaction in addition to business milestones. Tying incentives to individual or group performance must be analysed in the context of the applicable industry and what makes sense for the business. Along with performance measurement, timing is a feature of the reward system that is critical to both its acceptance and success.
Components of Compensation
Compensation serves different objectives, the main ones being to attract, retain and motivate high-potential employees. Meanwhile, the fulfillment of these goals are subject to constraints such as the maintenance of equity, cost control and legal requirements (e.g. wage and salary legislation). There are many factors that contribute to the determination of employee compensation levels, including the followings: -
Labour/product market conditions
In other words, the demographics of the employee force and the significance of their skills, the supply and demand situation in relation to critical skills, and the pay levels and practices of competitors.
Economic and sociopolitical environment
This includes the influence of the business cycle and the power of organized labour.
Employee characteristics
These include Education, Seniority, Qualifications, Experience, etc.
Industry characteristics
Such as cyclical nature, high turnover, innovators, entrepreneurial, and traditional. Industry standard wages vary considerably. Highly competitive industries, such as soft goods manufacturing, pay only the wage required in response to changing conditions in their labour market. Less competitive industries, such as hard-goods manufacturing, typically pay somewhat more than the minimum required by the labour market.
Enterprise characteristics
The list includes culture (management style), organizational structure, objectives, policies and strategies, technology, size, profitability (ability to pay), competitive labour strategy (lead or lag), salary compression (inequitable pay differentials when pay rates for new hires are too close to those of experienced employees and when subordinate pay rates are too close to those of supervisors).
Employee behaviour characteristics
Such as performance, absenteeism, and turnover.
Job characteristics
That take into account the mental requirements (problem solving), physical requirements, skill requirements, responsibility/accountability, working conditions, level of public contact, and the effort required to carry our the work. Factors such as responsibility and decision making would appear in evaluation systems for managerial jobs; physical demands and skill might appear in systems for factory jobs; and accuracy and amount of supervision received might appear as factors in clerical and technical evaluation systems.
Discrimination
Although unacceptable, there is still concern about the economic status of different groups in society. The most obvious example is the lower economic status of females compared with that of males. This seems to be a consequence of the fact that males and females are not equally represented in various occupations, and the male-dominated occupations are compensated at higher rates than are female-dominated occupations. These determinants need to be considered in the light of the contingencies required for compensation decisions.
Evaluating The Job
A large part of an individual’s direct compensation is often the base pay. To establish its level, there are principally two approaches: job-based evaluation and person-based (skill-based) evaluation. At times both appear to be in conflict. The first approach is based on the assumption that, for the organization, each “job” has a value that can be evaluated, and the person doing the job is only worth what the job itself is worth. The main advantage of this system is to facilitate a comparison of jobs and compensation levels between organizations. On the other hand, it encourages people to seek out management positions, even though they might lack the necessary managerial skills.
This problem is avoided by utilizing the second approach that rewards individuals for increasing their skills and abilities and for developing themselves, rather than for moving up the hierarchy. The pros and cons of this approach are that, initially, with frequent new skills and an accompanying pay rise, the system tends to be highly motivating; but as the workforce matures and reaches the top of the skill-based pay system, problems can arise as an individual’s compensation reaches a plateau. In general, skill-based pay seems to fit those organizations that want to have a flexible, relatively permanent workforce oriented towards growth, learning and development.
Group Incentive Plans
Incentive compensation can be based on the performance of the individual employee, a group or departmental unit, or the organization as a whole. Typically, sales incentive pay (bonuses and sales commissions) is viewed as a traditional way to compensate sales staff on an individual basis. Other methods, that for the most part are directed at the blue-collar worker, include piece-work or piece-rate incentives and standard hour plans. Critical success criteria for individual incentive plans are that the employee is capable of performing the desired behaviour, and the employee perceives that the reward is valued and is contingent on performance.
There are three major categories of group incentive plans:
1. Small-group or work units where rewards are allocated on group performance for exceeding predefined standards;
2. Productivity improvement plans;
3. Profit sharing or share-ownership plans.
Group-incentive plans are usually the most appropriate under conditions where direct supervision is not readily feasible, exact measurement of individual work performance is difficult, and where teamwork and cooperation are essential to success.
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