Are your compensation policies contributing to employee engagement? Perhaps, but it is probably more likely that your compensation policies are actually acting as a drag on engagement, even if your compensation plan is competitive in the marketplace. To understand the role that compensation plays in employee engagement, we need to understand that there are many different things going on within the compensation discussion, and that whether your compensation policies are contributing to engagement depends on how compensation “deconstructs” in your organization.
To begin, we need to understand to what degree compensation “drives” engagement; that is, do employees’ perceptions of compensation contribute to a higher degree of employee engagement, and vice versa? The answer in most organization is: partially.
Compensation is the Engagement Survey “Whipping Boy”.
In the large majority of the employee engagement surveys conducted by TalentMap, compensation receives one of the least favourable ratings among all of the dimensions of employee engagement. As a 30 year veteran of the survey business, I’ll be the first to admit that a lot of this can be simply attributed to “survey psychology”, i.e. employees (falsely) reason that rating compensation favourably will preclude the organization from increasing compensation in the future. Of course, we know this is false, but in survey debrief after debriefing with employees, they continue to answer in this way. Therefore, bottom line: employees aren’t as dissatisfied with compensation as survey results suggest.
If compensation rates poorly in most organizations, and we can’t build on other drivers until compensation is perceived to be “in line”, then doesn’t that mean we need to use compensation to drive engagement?
No. When we understand how compensation breaks down into its component parts, we see that while money still matters, it is often not the heart of the matter and that perceptions around compensation are actually gaps in social and emotional employee needs that can be addressed without money. Let me repeat that: you can address compensation as a driver of engagement without money.
But first, we need to “deconstruct” compensation into its different component parts and look at what each contributes. Compensation meets three very different types of employee needs:
Compensation is a Hygiene Driver: Poor perceptions drive engagement down, but good perceptions don’t drive engagement up.
In other words, if our employees aren’t happy with their compensation, that can, and will have a drag effect on engagement; however the reverse is not true: engagement does not increase when employees have favourable attitudes towards compensation. This is because when employees are dissatisfied with compensation, it takes on over-riding importance, and nothing else matters. Once compensation is “in line”, then you can build the more emotive engagement drivers on top, like a foundation.
- Functional needs. This is the basic “money” part. We need compensation to pay for the necessities of life, the cost of living, bills, etc.
- Social needs. In addition to compensation’s functional value, how much we are compensated also makes a statement about our social standing, our peer group, lifestyle, and class. In other words, our compensation level is used as a metric to measure success. Of course, how important this metric is compared to others will vary by individual.
- Emotional needs. Compensation is also interpreted as a message about how the organization views me and my personality. In many, many organizations we work in, functional and social needs are met by competitive compensation, but there are gaps in meeting the emotional needs, which in turn leads to poor perceptions around compensation as a whole.
So how do we meet these emotional needs? Can we meet these needs without money?
Absolutely. But for now, let’s begin with the assumption that your organization’s compensation policy is truly fair and competitive in the marketplace, so an employee would not get compensated more or less for taking an equivalent position in a similar organization.
Compensation addresses three types of emotional needs, each of which can be addressed in ways other than money:
- Compensation as Fairness and Equity. This is, by far and away, the most important emotional need that needs to be addressed, and is also most often the largest gap. Why? Because most organizations and their HR departments make an implicit assumption that employees make rational judgments about compensation. It’s about money and because money is quantitative it is objective.
However, recent research in behavioural economics(1) proves that human beings are not rational, they are social, which means:
- For employees, the value of anything is relative (e.g. “it doesn’t matter how much you pay me, if I believe you pay my peer more, it’s not fair, and I’m therefore unhappy with compensation).
- Fairness trumps opportunities in social structure (I don’t care what my “potential” for growth is, if my peer is getting paid more now, it’s not fair)
- Employees, i.e. peers, define what is “normal” and what is “possible” within your organization. (“You say the organization needs to cut costs, but it’s a multi-billion dollar organization, therefore it is not normal, and a raise is possible – as determined by me).
Just to illustrate the importance of fairness, the same research indicates that employees who believe they are paid “fairly” compared with people in either their company or other companies are 4.5 times as likely to be highly engaged as people who do not believe they are being paid fairly. In other words, it’s not really about the money – which is functional – it’s about being (and feeling) treated fairly.
- Compensation Serves as Recognition. Another key emotional cue filled by compensation answers an employee’s fundamental need to be valued in their organization. In the absence of other cues, messages or signals, it is compensation (the act) that serves as the answer. For example, if Joanne Employee feels she did an outstanding job during the past year (or week or month), and she doesn’t receive recognition through other means, then her compensation (raise, bonus, performance pay) provides that cue. In many examples, employees say they leave organizations for better compensation, but exit interviews revealed they felt they were not recognized or valued. Therefore, communicating one’s value to the organization through other vehicles takes compensation off the table (unless and until fairness becomes the issue – see item 1).
Compensation as Motivation. Does compensation, in and of itself, motivate? Can it be used to motivate? Most importantly, should you use it to motivate? It is already well-documented that base pay does little to motivate long-term, so we will concentrate the discussion on variable or performance pay. Variable compensation is a double-edged sword. It can be a very effective tool to motivate performance under some circumstances. But other times, it actually works as a demotivator and barrier to engagement. Why? Because it violates the fairness test discussed earlier. Simply put, there are many situations where employees don’t feel variable compensation is distributed fairly and equitably; in these instances, variable compensation motivates a few, but have the opposite effect on many more. Yet variable compensation and pay for performance schemes continue to be used because management believes that they work.
When does variable compensation work to motivate (and engage)?
There are a number of clear conditions which need to be met:
- When pay for performance is directly linked to a transparent, data-driven/quantitative, objective metric such as:
- Individual productivity metrics (e.g. call/hours, etc.)
- Profitability (for senior management who have span of control)
- When the individual has direct accountability, control, or at least substantial influence over achievement of the metric.
Conversely, research shows that pay for performance/variable compensation actually serves to disengage when it’s:
- Based on subjective performance appraisals or assessments;
- Team-based (rarely do individual team members contribute equally to outcomes)
The Bottom Line: How do we Engage through Compensation?
- Deliver the Basics. Money still matters. Make sure your compensation is competitive in the marketplace.
- Tell Employees Where They Stand. If your compensation is competitive, let employees know that and be transparent. Communicate. Communicate! Publish compensation surveys. Encourage employees to check out the market. Make sure that your performance appraisal process is clear and transparent. Above all, make sure that employees believe it is fair. It is their perception which determines fairness, not management’s or HR’s.
- Segment your Workforce. One size does not fit all. Employees in different sectors and with different skill sets do not value compensation in the same way. Assess their balance of functional, social and emotional needs. Treat them equitably, but do not treat them the same.
- Provide Intrinsic Value: Take money off the table. Ensure fairness through communication and transparency. Provide recognition through means other than compensation. Use intrinsic motivators such as increased autonomy, leadership and learning instead of compensation.
Remember, compensation is multi-layered and you need to deconstruct it in your organization to understand how it can be a help (or hindrance) to employee engagement. Then, you can use compensation to engage your employees, without money.