Thought leaders: Academic insights: Is your pay system working against you?

Strategic pay systems can do more harm than good, says Dr Jonathan Trevor

Securing employee performance through pay is now standard practice for most employers, large or small, domestic or multinational. Performance-based pay, incentives, lifestyle benefits and opportunities for equity ownership are important tools to secure desirable talent, driving staff motivation and behaviours that support strategic priorities.

But do strategic pay systems work? My own research reveals that even prestigious firms struggle to ensure their strategic pay systems work for them and not against them. The media often carry negative stories about pay going wrong, such as pay-for-failure executive compensation or reckless bankers’ bonuses. Clearly, it is far from easy to get pay right strategically by selecting the appropriate mix of practices in support of strategic priorities.

To compensate, pay decision-makers often reference external practice – in short, they emulate other organisations they consider successful. The high degree of conformity in pay practices across industries is the result of competitive pressures, but also institutional pressure to conform to industry norms to secure legitimacy for pay decisions.

For example, a multinational consumer goods company pursued, for many years, a policy of not paying individual bonuses, relying instead on a company-wide profit share scheme to engender a sense of team and collective responsibility. But then, worse-than-expected results led management to lose confidence and abandon their policies in favour of what seemed to work for its competitors.

But the risk of emulating others is the adoption of pay strategies and practices that are a poor fit strategically and organisationally. If pay strategies are misaligned to business priorities, or the rationale for choosing them is unclear, the line managers tasked with implementation may reject them in favour of more workable, locally determined alternatives. Pay policy rejection, subversion and adaptation is often discreet and unbeknown to an organisation’s headquarters. The implication is that what is intended as pay policy is not what is implemented operationally.

Poorly-aligned pay practices can produce unintended and negative consequences, some of which are known to decision-makers, but many are not. More than merely ineffective, strategic pay systems may be destructive, achieving the opposite of what was intended by demotivating and disengaging employees and producing conflict among them. Again, conflict may be discreet and therefore difficult to remedy, manifest in elevated employee turnover, the withholding of discretionary effort and low levels of commitment.

It is far from clear that strategic pay systems add more value than they cost (in administration and managerial time if nothing else) or destroy, but a July 2010 global survey of reward practice by the Hay Group reveals a trend toward using highly leveraged variable pay schemes to drive employee performance. Far from limiting the risks of pay system dysfunctions, organisations are exposing themselves further and the implications for value creation and value protection are profound. While the use of pay systems as strategic levers to secure enhanced staff performance is appealing, concerns must be raised about these systems’ manageability. Difficult to get right and easy to get wrong: are attempts to use pay strategically worth the risk?

Securing staff motivation, commitment, loyalty and desirable behaviours is the traditional role of management, and the quality of relationship between managers and the managed is still a far more powerful predictor of high performance than pay. Sophistication of pay system is no substitute for quality of leadership, and we should trust managers to manage and HR professionals should try to ensure pay does not get in the way.

Dr Jonathan Trevor is a lecturer in human resources and organisations at Cambridge Judge Business School and a fellow of Downing College, University of Cambridge

References

Can pay be strategic? A critical exploration of strategic pay in practice, Trevor J (Palgrave Macmillan, 2011)

Variable pay: what’s the winning strategy? Hay Group (July 2010)

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