REWARD AND COMPENSATION

MANAGEMENT
Subject Code: BA4019
III Semester
HR Elective
 UNIT I

INTRODUCTION
COURSE OUTCOMES
• The basics of Compensation Management and
Reward system, Theories and strategies
• Macro and micro economics of labour market
and employee compensation
• Managing employee benefits and rewards
• Performance related compensation
• Executive and sales compensation plans,
theories and design
Compensation Management
What is compensation management?

• Compensation management is the discipline for determining employees'

appropriate pay and benefits. A critical element in talent management
and employee retention, it uses financial and nonmonetary benefits to
attract recruits, reduce turnover, spur performance and boost employee
engagement.
• Compensation management is typically carried out by HR professionals,
who are responsible for ensuring that salaries and bonuses remain
competitive and benefits change with the needs of the workforce. The
HR leaders in this role must gather and analyze internal and external
salary figures, demographic and economic statistics and other relevant
information. They are also keen to understand the complexities
of benefits administration.
Definition of Compensation
• According to Cascio (1995) the “Compensation includes direct
cash payments and indirect payments in form of employees
benefits and incentives to motivate employees to strive for
higher levels of productivity”.
• According to Milkovitch and Newman (2005) the
“Compensation is all forms of financial returns, tangible
services and benefits employees receive as part of an
employment relationship.” The phrase “financial returns”
refers to an individual's base salary, as well as short- and long-
term incentives. “Tangible services and benefits” are such
things as insurance, paid vacation and sick days, pension
plans, and employee discounts.
Objectives of Compensation
Bhattacharay (2009) had provided the following
objectives of compensation or wages as given
below:
• Equity
• Efficiency
• Macro-economic Satiability
• Efficient Allocation of Labor
• Motivating the Employees
Objectives of Compensation
• Acquired Qualified Employees
• Retain Current Employees
• Reward Desired Behavior
• Control Cost
• Comply with Legal Regulations
• Facilitate Understanding
• Further Administrative Efficiency
Principles of Compensation Formulation
• The organization should have an unambiguous plan to determine differential pay levels in terms of
different job requirements involving varied skills, exertion, responsibility and working conditions.
• An attempt should be made to keep the common level of wages and salaries of the organization in
line with that obtained in the labor market.
• Adequate attention should be taken to distinguish people from the jobs. Although people are paid
in terms of rate embodied in specific jobs, some exceptions should be allowed in the cases of
professional and executive personnel by paying them in terms of their abilities and contributions.
• The care should be taken irrespective of individual considerations to ensure that equal pay for
equal work.
• There should be a plan to adapt an unbiased measure for identifying individual differences in
capacity and contribution in the form of rate ranges with in the grade increments, wages incentive
schemes and a system of job promotion.
• There should be proper procedure for handling the wage grievances in organization.
• Adequate care should be taken to inform the employees and the union, if any, about the
procedure followed in determining wage rates. There were no confidential wages and the
employees should have a clear understanding of their wage or salary structure. This will enhance
employee satisfaction with wages. There are certain guiding principles which provide the
foundation for effective reward management.
Compensation Design and
Strategy
What is compensation design?
Compensation design determines the value of
specific, properly executed accomplishments
toward the achievement of desired outcomes
Compensation design should foster a productive
and equitable, long-term relationship among
members, and between each member and the
organization.
Compensation Objectives
• External competitiveness to recruit and retail
• To reward performance through salary without grade
promotions
• Rewards for skill acquisition
• Internal equity among employees
• Pay for the person rather than just the job
• Built-in controls and cost constraints
• An understandable and equitable system
• Parallel career paths for managers and technical employees
• Flexibility to adapt quickly to market changes and
• Management flexibility to assign a range of duties
What is a Compensation
Strategy?
A compensation strategy is a company’s approach to
compensating employees in terms of pay and benefits.
Why Is A Compensation Strategy Important?
• An effective compensation strategy motivates current
employees and is used as a tool to attract new ones.
• People often think of compensation as merely a salary.
However, the total cost of employee compensation includes
every aspect of employee benefits.
• This includes the cost of health benefits, retirement
benefits, tuition reimbursement, bonuses, or any other non-
salary benefit that is considered part of a total compensation
package.
7 Keys To An Effective Compensation
Strategy
1. Budget Allocation
2. Develop Salary Ranges
3. Conduct Salary Audits
4. Determine Total Benefit Package
5. Manage Employee Performance
6. Maintain Legal Compliance
7. Create Structured Administration
How To Develop Your Compensation
Strategy
1. Determine Your Compensation Philosophy
2. Assess Your Current Compensation Strategy
3. Evaluate Jobs and Descriptions
4. Develop a Plan for Reviewing Market Data
5. Review Salary Surveys
6. Establish a Pay System
7. Match Existing Job Titles to Market Study Titles
8. Match Jobs to Salary Grades
9. Address Financial Implications of the New Compensation Strategy
10. Ensure Your Compensation Strategy Is Compliant
11. Get Approval From Executive Stakeholders
12. Communicate Your Plan to the Company
Theories of Wage Determination
The workers are paid wages or salaries for the work done
by them. Thus, the return to the workers should be
according to their efforts and the pay standards
prevailing in the industry. There are several theories of
wage determination propounded by different scientists
and are based on varied assumptions.
There are two key theories that explain why salaries are
the way they are in a particular field. These two theories
are:
1. Traditional Theory of Wage Determination
2. Theory of Negotiated Wages
Traditional Theory of Wage Determination:

In this theory the law of supply and demand

dictates salary. These days programmers are in
short supply and are in great demand thus
they will command a higher salary. Likewise
doctors and lawyers whose specialized skills
people need command a high wage. If you
looked at the bill my electrician gave me you
would know he is in demand
Theory of Negotiated Wages
Those employees who work in unions where the union negotiates salary on
behalf of all workers fit into this theory.
Wages are fixed mainly as a result of individual bargaining, collective bargaining
or by public or State regulation. How wages are determined has been the
subject of several theories of wages. The main elements in these theories may
be summed up as follows:
Below is mentioned the theory of Wages:
• Wages fund theory
• Subsistence theory
• The surplus value theory of wages
• Residual claimant theory
• Marginal productivity theory
• The bargaining theory of wages
• Behavioural theories
Wages Fund Theory
• This theory was developed by Adam Smith (1723-1790). His theory was
based on the basic assumption that workers are paid wages out of a pre-
determined fund of wealth.

• This fund, he called, wages fund created as a result of savings. According

to Adam Smith, the demand for labor and rate of wages depend on the
size of the wages fund.
• According to this theory, therefore, trade unions cannot raise wages for
the labor class as a whole.

• The efforts of trade unions to raise wages are futile. If they succeeded in
raising wages in one trade, it can only be at the expense of another, since
the wage fund is fixed and the trade unions have no control over
population
Subsistence Theory
• This theory was propounded by David Ricardo (1772-1823). According to this theory,
“The laborers are paid to enable them to subsist and perpetuate the race without
increase or diminution”. This payment is also called as „subsistence wages‟.

• If workers are paid less than subsistence wages, the number of workers will
decrease as a result of starvation death; malnutrition, disease etc. and many would
not marry.

• Then, wage rates would again go up to subsistence level. Since wage rate tends to be
at, subsistence level at all cases, that is why this theory is also known as „Iron Law of
Wages‟.

• It assumes that when they were paid more than the subsistence level, they might
indulge in enjoyment and consequently their numbers would increase, and this
would result in a low rate of wages.
The surplus value theory of wages
• This theory was developed by Karl Marx (1849-1883). This theory is based on
the basic assumption that like other article, labor is also an article which could
be purchased on payment of its price i.e. wages.

• This payment, according to Karl Marx, is at subsistence level which is less than in
proportion to time labor takes to produce items. The surplus, according to him,
goes to the owner. Karl Marx is well known for his avocation in the favor of labor.

• According to Marx, labor is an article or commodity which can be purchased on

payment of a price. The price of any product is determined by the time and
effort needed to produce it.

• The laborer is not paid in proportion to the time spent and the surplus goes to
the management to meet other expenses.
Residual Claimant Theory
• This theory owes its development to Francis A. Walker (1840-1897).
According to Walker, there are four factors of production or business
activity, viz., land, labor, capital, and entrepreneurship.

• He views that once all other three factors are rewarded what remains left is
paid as wages to workers. Thus, according to this theory, worker is the
residual claimant.

• This theory admits the possibility of increase in wages through greater

efficiency of employees. In this sense, it is an optimistic theory; the
subsistence theory and wages fund theory were pessimistic theories.

• According to Walker, wages are the residue left over, after the other factors
of production have been paid.
Marginal Productivity Theory
• This theory was propounded by Phillips Henry Wick-steed (England) and
John Bates Clark of U.S.A. According to this theory, wages is determined
based on the production contributed by the last worker, i.e. marginal
worker. His/her production is called „marginal production‟.

• This theory state that, under the condition of perfect competition,

every worker of same skill and efficiency in a given category will receive
a wage equal to the value of the marginal product of that type of labor.

• The value of marginal net product of labor may be defined as being the
value of the amount by which output would be increased by employing
one more worker with the appropriate addition of other factors of
production.
The bargaining theory of wages
• John Davidson was the propounder of this theory. According to this theory, the
fixation of wages depends on the bargaining power of workers/trade unions and
of employers.

• If workers are stronger in bargaining process, then wages tends to be high.

• In case, employer plays a stronger role, then wages tends to be low.

• According to this theory, there is an upper limit and a lower limit of wage rates
and the actual rates between these limits are determined by the bargaining
power of the employers and the workers.

• John Davidson, the earliest exponent of the bargaining theory of wages, argued
that the wages and hours of work were ultimately determined by the relative
bargaining strength of the employers and the workers
Behavioural Theories
• Based on research studies and action programmes conducted,
some behavioural scientists have also developed theories of
wages.

• Their theories are based on elements like employee’s acceptance

to a wage level, the prevalent internal wage structure, employee’s
consideration on money or‟ wages and salaries as motivators.

• Many behavioral scientists —notably industrial psychologists and

sociologists —like Marsh and Simon, Robert Dubin, Eliot Jacques
have presented their views of wages and salaries, on the basis of
research studies and action programmes conducted by them.
Wage Structure
Wage structure is the hierarchy within a
company that sets the amount each level of
employment is paid and what benefits each
level is due.
Wage structure may be defined as the internal
pattern of varying job ranking and basic wage
rates and differentials of different categories
of employees in a company according to skill,
qualifications and experience.
Types of Wages
1. Minimum Wage -Minimum wage is the most widely recognized term in
the realm of employee compensation. It is the lowest hourly wage an
employer can pay an employee for work.
2. Living Wage-Living wage is the lowest wage at which the wage earner
and his/her family can afford the most basic costs of living.
3. Prevailing Wage-Prevailing wage typically refers to the rate of
pay contractors and vendors must offer their employees when doing
business with a government agency.
4. Tipped Wage-Tipped wage is a base wage paid to an employee who
receives a substantial portion of his/her compensation from tips.
5. Fair Wage-A fair wage is a mean between the living wage and the
minimum wage. A fair wage is related to fair work-load and the earning
capacity. It can say that it is more than minimum wage but less than the
living wage.
Three Types of Wages in India
Living Wages
Minimum Wages
Fair wage
Living Wages
Living wages are defined as that wages which are consistent to
provide certain facilities as well as some basic necessities to the
employee.
The living wage should enable the male earner to provide himself
and his family not merely the basic essentials of food, clothing
and shelter but a measure of frugal comfort including education
for the children, protection against ill-health, requirement of
essential social needs and measures of insurance against old age.
It also include for some comforts, leisure and amenities estimated
by current human standards such as health, education of
children, travelling, old age, recreation and social needs etc.
Minimum Wages
As per the Indian Constitution, 'Minimum Wage' has been
defined as the level of income for skilled and unskilled
workers which ensures a sustaining standard of living
while also providing for some measure of comfort.
The minimum wage is the lowest wage in the scale below
which the efficiency of a worker is likely to be inspired.
The minimum wage includes not only the bare physical
necessities but also a modicum of comfort otherwise
known as conventional necessities.
Any employer who is unable to pay this minimum wage to
workers has no right to exist
Fair wage
Fair wage means which is something more than the
minimum wages. It is a mean between the
minimum wage and the living wage.
The lower limit of the fair wage must surely be the
minimum wage whereas the upper limit is the fair
wage which is capacity of the industry to pay
further the comparisons definitely with the
average payment of same work in other
occupations or trades which requires the same
amount of ability.
Wage Boards
A wage board is a statutory body established by the government
to tackle the disputes relating to the employers or the
employees. A Wage Board is a tripartite body with
representatives of management, and workmen, presided over by
an independent person nominated by the Government.
The concept of Wage Boards for determining and or fixing the
wages of the workers in different industries was developed
during the First Five Year plan.
The Wage Boards help to resolve the disputes in a democratic
manner by bringing the parties together, without compulsion on
either side.
The first wage board was set up in 1957 in the Cotton Textile
Industry
Criticism on Wage Boards
• The recommendations of the Boards have no legal sanction so that the parties
are not bound to accept them.
• Very often the recommendations of the Boards are results of compromise
decisions and cannot therefore become consistent long range wage policy.
• When the Government has to legislate for giving effect to the recommendations
of a Board, as it happened in the case of the Textile Board award, the element of
compulsion is brought back, and that militates against the very spirit of such
boards.
• Since the members of the Boards are not always the true representatives of the
employers and workers, individual units are led to doubt the bona fides of the
members.
• The Boards often make recommendations on all-India basis, with the result that
at times the special problems relating to any particular region may be ignored.
• The time lag between the making of the recommendations and their
implementation is generally very great.
Wage Policy
The term “Wage Policy” refers to legislation of
government action undertaken to regulate the
level or structure of wages or both for the
purpose of achieving specific objectives of
social and economic policy.
Principles which act as guidelines to determine a
wage structure are called as wage policies.
Factors that affect the wage
policy
• Internal equity
• External equity
• Productivity
• Cost of living
• Motivation level of workers
• Pay vis-a-vis performance
• National wage policy
• Statutory obligations
• Labour market conditions
• Present rate of attrition of employees.
Compensation Decision
Compensation decision making is a complicated
process that includes making decisions on
both fixed and variable pay/benefit offered to
individual employees
Compensation Benchmarking
Compensation benchmarking, also known as
Salary benchmarking, is the process of
matching internal job descriptions with those
of competitors in order to identify the market
rate for each position.
Why Is Compensation Benchmarking
Important?
Conducting regular Compensation benchmarking exercises
can benefit your business in a number of ways. Let’s
take a look at some of the biggest advantages.
First and foremost, compensation benchmarking helps you
stay competitive in your market.
Secondly, compensation benchmarking can give you an
impartial understanding of pay expectations for
different roles so that you can make better strategic
decisions that result in sustainable growth for your
company.
Compensation Benchmarking
Process
• Build a Salary Benchmarking Database
• Analyze Employee Compensation
• Set Pay Ranges
Compensation trends and reward system
in India
EMPLOYEE COMPENSATION TRENDS IN INDIA TODAY
• Substantial differentials in gross compensation of the managerial level to the next lower level
are practiced.
• Differentials in gross compensation and sometimes compensation structure are being
practiced between the project and support functions.
• Personalized salaries out of a basket of options for individuals at senior levels.
• Significant increase in basic salary and hence in deferred benefits.
• Restriction of non-tax perks in the form of reimbursement under various heads to only
certain top levels of management.
• Higher annual increments, the average increments varying from 50 to 100% for different
levels of management.
• Shift in incentives to group / team incentives rather than individual based. Different kinds of
incentive like Performance Incentive, Commission, Performance Payment, and Performance
Bonus etc. are not always individual specific. They are usually team or level based. Individual
based cash incentives are on the downslide except at very senior levels.
• Soft furnishing allowance is being provided towards purchase of curtains, carpets, cutlery and
crockery etc., and this is usually paid as an annual, non-taxable allowance.
EMPLOYEE COMPENSATION
TRENDS IN INDIA TODAY
• Conveyance is an area, which provides a lot of scope for variations.
Practices with regard to provision of car, driver and reimbursement of
expenses on car, parking, cleaning, petrol, and maintenance are covered
under this category.
• Companies encourages the employees to buy cars through hire purchase
schemes and the installments are paid by the company. This also helps
combat the problem of accumulation of used cars by the company cars
with the high employee turnover.
• Two and Four wheeler loans are common practice. Interest rates may vary
from 0% to 5% with the repayment period varying from 3 to 5 years.
• Medical benefits are liberally available with tie-ups with insurance
companies and hospitals in many cases.
• Some companies assist employees in their higher education by sponsoring
evening classes or providing sabbatical leave at company cost.
EMPLOYEE COMPENSATION
TRENDS IN INDIA TODAY
• Reimbursement of books, periodicals, newspapers, journals etc against a pre-determined limit is common.
Membership subscription to professional bodies is also reimbursed.
• Club membership in form of reimbursement of one-time joining fee for one club plus the monthly/ annual
subscription to one more clubs is an attractive perk for senior management. Companies also go for bulk
corporate club memberships.
• Soft loans for purchase of furniture, appliances and computers are also extended.
• Housing loans or interest subsidy is also provided
• Reimbursement for travel for a holiday including accommodation in guesthouses, transit flats etc, is
practiced. In most cases, this is used as a discretionary reward for exemplary performance rather than as a
perk.
• Pre-employment benefits for attracting good people include the company picking up of all relocation
expenses for the family, transport of personal goods, assistance in locating housing, schooling etc.
• Some trendy components like long-term paternity or maternity leave, part and flexi-time employment
options are also available.
• The trend has shifted to make components direct and taxable. There is a distinct shift towards schemes for
asset creation.
• The senior executives share introduction of profit sharing schemes whereby when the company earns
profits beyond a certain fixed level, the profit accrued, the average norm being 20 to 25% of the excess
profit.
• Stock options are also a rage in the market.