Compensation refers to all forms of financial returns and tangible services and benefits employees receive as part of employment relationship (Mickovich and Newman 2005). It is an integral part of human resource management. A strategic perspective on compensation focuses on the patterns of compensation decisions that are critical to the performance of the organization.
Compensation strategy seeks to assure that organizational practices are in consonance with overall business strategy and human resources management philosophy. There are two approaches with regard to compensation:
- “best fit”/contingent business /strategy/environmental context approach
- “best practices” approach
The best fit approach presumes that one size does not fit all. In direct contrast to this, the best practices approach assumes a universal best way exists. Compensation strategy provides a sense of purpose and direction and a framework for developing reward policies, practices and procedures.
Components and significance of compensation strategy: Compensation strategy includes current pay, benefits that a company might offer and career growth opportunity.
The importance of a strategic perspective on compensation is based on the following tenets:
- Compensation policies and practices may differ across organizational and across employee groups within the organization
- Managers and employees should take decisions which will shape these differences and that discretion exists to select among options and the processes used to implement them.
- If compensation strategy takes environmental and organizational conditions into account, it will positively impact behaviors and performance of an organization.
According to Armstrong(2006), main phases in the development of compensation strategies are:
Diagnosis phase where reward goals are agreed upon as are options for improvement and changes
Detailed design phase where improvement and changes are detailed and changes are tested
Final testing and preparation phase
Implementation phase followed by ongoing review and modification
Strategic pay has the following features:
- It is designed for attaining business objectives and strategic plans
- It focuses on employee contribution
- Pay structure changes with change in business priorities
- Compensation information is not a secret. Performance standards for getting incentives and pay hikes are communicated to employees.
Lawler has coined the term “New Pay” for rewards and compensations that aim to align organizational goals with the compensation system. There is a strong relationship between strategy and compensation.
If the growth strategy is adopted, this type of strategy encourages entrepreneurship and composition of compensation includes high rewards, stock options and number of benefits.
The maturity strategy recognizes and rewards accomplishments and management skills. Composition of compensation includes standardized cash pay and moderate benefits.
The retrenchment strategy is aimed at controlling costs and trying to retain the best employees. It involves low cash payments and negligible benefits.
In sum, strategic compensation is the type of compensation scheme implemented to improve the motivation of people to perform better.