What is compensation planning? A guide to retaining top talent

It’s a simple formula: If you’re not paying valued employees market wages, you will lose them. And the best way to ensure you’re paying competitive rates is to build a compensation plan that reflects the true value of your employees.

Savvy companies know a well-structured compensation plan can help attract and retain elite talent, especially in fast-paced industries such as technology, says Mykkah Herner, modern compensation evangelist for cloud compensation software solutions firm PayScale.

“In a lot of cities that are technology hubs, you aren’t safe once you get talent in the door,” Herner says. “Our developers here get calls all the time, asking, ‘What would it take to get you to leave and come over here, instead?’ And for any company, not just tech companies, you just cannot afford to lose that talent. So, a good compensation plan can help you evaluate the market, see the value of jobs, and continue to pay those fairly so you can keep your talent.”

Compensation mismatch

The IT demand landscape can change drastically, making it hard for companies to keep up with market wages, says Chris Bolte, CEO of Paysa, a provider of real-time salary, career and job insights.

“We see this all the time: A firm brings someone in at a competitive rate; say a software engineer is hired for $100,000, and they receive a 3 percent increase each year for three years,” Bolte says. “But here’s the problem: Over that time, the market has moved more quickly, and the skills and experience that are hot have changed. So, the market now is bearing software engineers that command $130,000 for the same role.”

Once this is known, resentment and disengagement can fester, sending talent in search of a larger paycheck. That’s very bad news in a tight IT talent market.

“You absolutely don’t want your valuable talent coming to you and saying, ‘I got this competing offer for $130,000, I know I’m worth that, I’m going to leave,’ because then you’re in a counteroffer situation. And they’re always going to feel that you’ve let them down — that they only got a raise because they had to threaten you. You need to be keeping up with market rates so you can proactively deliver something that will keep them happy, engaged and productive,” Bolte says.

That doesn’t have to mean shelling out $30,000 salary increases every year, Bolte says. It may be enough to initiate transparent conversations with valued employees about what they currently make, what the company can afford, and how you can meet in the middle.

“What about honesty? What about saying, ‘We realize that the market has moved past where you are. We really value you, and we can bring you up to $120,000,’ and see what happens,” Bolte says. “You might be surprised that it’s not so much about the exact dollar amount, but about your talent feeling that you care about them, you understand their concerns and what’s happening, and you want to do right by them. That’s huge,” he says.

According to PayScale’s 2017 Compensation Best Practices Report, 37 percent of 77,000 organizations surveyed have a compensation strategy in place and 34 percent are developing one. Of top-performing companies, 47 percent have a formal compensation strategy in place, according to the report.

PayScale’s 2018 Compensation Best Practices Report underscores the need for transparency in a market where retention is critical but wages are flattening, purchasing power is dropping and base salaries are barely keeping up with inflation, says Lydia Frank, vice president of content strategy at PayScale.

Of the 5,710 companies surveyed in the U.S. and Canada, 59 percent say retaining top talent is of critical importance in 2018, and 84 percent plan to give base pay increases this year. However, these increases will be slight, as 73 percent of organizations say they’ll increase base pay 3 percent or less.

“We’re in kind of scary time right now,” Frank says. “Especially in tech; we see unemployment rates staying low, but when we look at wage growth since 2006 and factor in inflation, it’s actually down about 6 percent. So, people are feeling this tension that the additional money in their paychecks just isn’t paying off,” she says.

This can lead many to the conclusion that they need to find a higher-paying role elsewhere, unless their managers can convince them otherwise — and this is where organizations are failing, Frank says.

“This report identified what we’re calling ‘The Great Divide,’ where managers aren’t doing a good job of explaining pay to their reports, and they don’t realize that they’re not doing a good job,” Frank says. While 85 percent of managers agree or strongly agree that they feel confident in their ability to explain pay decisions to their employees, only 37 percent of organizations feel the same. And while 67 percent of managers believe their reports are paid fairly, only 21 percent of employees feel the same, according to the report.

“Whoever’s managing compensation for these organizations isn’t doing a good job communicating the strategy and rationale to managers, and then managers aren’t effectively translating that ‘pay brand’ to their employees,” Frank says. “Most organizations want their employees to feel valued, they want to pay fairly and at-or-above market rates; they feel like they’ve put together the best compensation plan they can, but employees just aren’t buying it. … So, you have to build trust and communication all the way down the line if you’re going to address this. Because pay perception matters more than what is actually paid,” Frank says. 

Having a formal, structured compensation plan can help align compensation with business goals and strategy and help create transparency and fairness, as well as boost engagement, morale and retention, says Diane Schuman, CAPM, a customer training specialist at PayScale in a recent webcast on compensation strategy best practices.

Lay the groundwork

To build a modern compensation plan, start by laying the groundwork, says Schuman. This means getting executive buy-in and aligning organization resources with business goals.

“If your goal is to double your revenue over the next five years, then you are, say, going to have to develop one or two new products annually. To do that, you’re going to have to attract, retain and develop top-notch talent,” Schuman says. “So, a comp strategy is going to help you do that,” by proving your organization believes its employees are its most valuable asset, and paying them consistently, transparently and fairly, she says.

Once you’ve laid the foundations of your overall compensation philosophy and gained organizational buy-in, it’s time to get your jobs in order, Schuman says. Aligning roles across your organization is important for compensating benchmarking purposes.

“The general rule of thumb here is the opposite of when you’re writing a job description — less is more; stick to one page,” Schuman says. “You’re not looking for legal compliance, but when you’re looking at benchmarking these roles, you’re doing an elevator pitch and emphasizing education, training, years of experience and the hard skills that a candidate needs to have.”

Define your compensation strategy

Drilling down to define your actual compensation strategy requires an understanding of where you compete for talent, against whom, and how you want to reward talent through pay and benefits, Schuman says.

“Most companies will say they aim to hire and retain the best talent through having competitive rewards,” Schuman says. “This is both a business and a cultural alignment” of your compensation strategy with your business goals. “Where are you comparing your employees; are you thinking you want to compare them to only one market that’s like yourself; your similar location, size, industry? Or are you creating multiple markets?” she says.

Many organizations know to look at talent comparisons within their own industry. But with mission-critical domains, you might have to widen your scope. For example, software developers might be a separate market — one that has you competing not just with companies like yours but with technology companies as well.

“You also should ask where you are seeing turnover and what factors are contributing to that. Also, ask your employees where they would compare themselves,” Schuman says. Their perception might differ from yours.

You’ll then need to decide how competitive you want to be relative to the market, she says. Are you going to be at-market (50th percentile)? Are there certain roles where you’ll want to lead or lag the market? Are there roles for which higher education or more experience will be essential?

“Everyone in the organization has to be on the same page in this regard, as far as where to be most competitive,” Schuman says. “And, remember, there are other rewards and benefits that can be added here, not just with compensation and salary, but with things like flexible schedules, increased PTO or time-off options,” she says.

Select market data sources

Market data is essential to figuring out the nitty-gritty of what to pay. For that, there are a number of resources to consider, compensation specialist Krystal Praast, CCP, says in the PayScale webcast.

“It’s not just a one-size-fits-all proposition; you may have multiple sources to go to and that depends on what works best and the type of data you need to collect,” Praast says. Here are the major forms of compensation and salary information you’re likely to encounter, as well as some of the pros and cons of each:

• Traditional surveysare very popular, Praast says. With traditional surveys, organizations match their employees with job descriptions, record what they’re paid, and send that data to the surveying body. The survey body then analyzes that information and provides empirical data and information back to the organizations. Administered by HR or compensation specialists on a predictable timetable, surveys offer a large sample size, making them quite accurate, Praast says. But the data can quickly become obsolete, especially at the end of its shelf life. This can lead to omissions for emerging job trends, she says.
• Industry/trade association surveysare similar to traditional surveys but are specific to individual industries or niches that service a specific lateral role or function (e.g., engineers, salespeople, security professionals). The process is the same as with traditional surveys; each trade or role-specific organization makes surveys available to its members who then report and return the surveys for analysis. The same pros and cons for traditional surveys apply.
• Data aggregatorsare a curated mix of market data from a variety of sources with modeling applied to fill in any gaps, Praast says. The downside is that it’s often not clear where the data comes from, and the fact that modeling has been applied means results may be slight issues with accuracy.
• HRIS or internal datais based on millions of records that customers upload to their HR systems, making the data very accurate, but these data sets aren’t helpful for benchmarking hot, emerging jobs that everyone is struggling to fill.
• Government dataincludes data from the Bureau of Labor Statistics, which offers comprehensive, in-depth compensation data across a broad sampling of jobs, industries and roles, which is a major pro. But the downside of using BLS or other government data is the freshness – or lack thereof – of the information; it’s often lacking many new, hot and emerging roles, and the data’s often far out-of-date, Praast says.
• Crowdsourced datais data submitted by individuals to organizations and sites such as PayScale, Glassdoor and InHerSight. The advantage of crowdsourced data is its immediacy, says Praast, as it is updated daily, so you can see changes in near-real-time. They do, however, rely on employees to self-report, and there’s also a tendency to underrepresent executives, as well as a bias toward white-collar jobs.
• “Scraped” datais aggregated by scouring publicly available information from job listings; this source is much less commonly used in the U.S. than abroad, Praast says, because U.S. employers do not often include compensation information in job listings.

Praast offers additional advice in choosing your data source mix:

“You want to consider breadth: How wide are you casting your talent net? Can your data source/survey get specific enough for your size, location, industry? Precision: How specific do you have to be? How to narrow it down by job, skill depth?  Age [of the data]: Do you hire in cycles? Constantly? How frequently do you need to update your data? Do you have any fast-moving, high-turnover, critical skills in your organization with high risk of attrition? Ease of use: Will this be used by a diverse set of stakeholders, or exclusively by compensation specialists? How integrated is your comp team with general managers and hiring managers?”

Set pay guidelines

When formalizing pay guidelines, there are several concerns to consider.

First is the question of whether you should implement pay ranges or pay grades. Pay grades are often a better option for smaller organizations with fewer locations, Praast says, because grades have similar market value and internal value to the company. If your organizations offers more than 30 job types or if you operate at multiple locations, then a grade-based structure is probably best; otherwise, you are probably just fine with a pay range.

As an example, Praast uses a role with an annual pay range between $20,000 and $32,000. Newer or less-experienced employees should start near the minimum. The midpoint should align with what the market is bearing for that role, and the maximum is for high-performing employees or those on the cusp of being promoted into a higher-level role; at which point the cycle starts again with a new range, Praast says.

To fit existing jobs into your determined ranges, you’ll need to reference your market data to find the closest midpoint to your target percentile and then adjust for internal alignment, location and market conditions. Establishing multiple levels, like junior and senior software engineer, can help maintain your salaries within a market-competitive range while still allowing for career growth and progression, Praast says.

To establish the width of your pay ranges, first reference your lowest paid jobs in the market. This should be the starting point for your range structure, she says. Compare that value to the highest-paid value in the organization to find the range of pay across your entire company. Now you can segregate the ranges within that larger framework, she says. The tricky part is figuring out the appropriate number of steps or grades that fall between your minimum and maximum without introducing too many grades, but still creating enough grades to allow for career progression, Praast says.

You can do this by creating midpoint differentials, which determine how far apart the ranges are. A typical midpoint differential spans between 10 percent and 20 percent, she says.

This is where the science and art collide, Praast says. Each organization will have unique needs, so there’s no boilerplate number of grades to create. It’s about knowing what feels right for your company.

The ranges toward your minimum value — your entry-level jobs — will be more narrow, whereas the ranges at the top of your organization — your executives — will be much wider, Praast says.

“Entry-level positions will have less variation in the market as to how those jobs are paid, and employees tend to move around in those jobs. They’ll move up, or over, or into new roles altogether. So, there aren’t a lot of reasons to create varying ranges,” Praast explains. “But when you think about executives, higher-ups, they tend to stay longer and have a lot more variation in the market as to how those jobs will pay. So, by making these ranges wider, you’re helping to control some of these variables.”

Implement the plan

When implementing your plan, the first, and arguably most important decision, is how transparent will your compensation plan be when it comes to looping in your employees, Schuman says.

“Ultimately, your choice is based on your company, culture and your talent strategy as far as what you want to achieve with your comp plan,” Schuman says. But you’ll want to establish the level of transparency that will foster greater trust and engagement among your employees and quell any “watercooler talk” that could engender resentment and frustration.

“You don’t want people whispering about, ‘Well, why did Bob get that raise but not Joe?’ or ‘How come I’m getting paid less and I do more than such-and-such?’ You want to provide clarity around how pay is determined so your employees trust that they know where they are, where they’re going and how they can get there,” Schuman says.

Transparency doesn’t have to stop at pay. You can also provide transparency around the market data sources you use, your pay structures, grades and ranges, and so on, Schuman says.

“Any move you make in this direction moves the needle on engagement and trust, because you are sharing information,” she says. “You can share information about benefits — what are the costs of medical? How much are you spending on transportation benefits? So, if you’re giving insight into what you’re paying for and what you’re spending on these [additional benefits], that helps, too, because these are things that tend to get overlooked” when employees think about compensation, Schuman says.

When sharing information, consistency is key. Managers should be in step about what they are sharing, when and how; the best-laid comp plans can be derailed if managers aren’t consistent when sharing, Schuman says.

“You want everyone to see and hear the same information, at the same time, so you aren’t having one team or department feeling like they’re getting information before others,” she says.

You should also develop policies and processes around compensation increases, new hires, promotions, performance outliers, raise and promotion eligibility, and job vacancies. And you should determine how often you evaluate pay, and whether managers have input on pay.

“This is something you want to be really clear about. You don’t want this to be a back-office, secret set of policies that require wizardry,” Schuman says. “What are your promotion policies; does employee pay increase within the range? By how much? If new jobs are promoted, are they starting at the bottom of their new range? Or will they start at 7 percent to 15 percent of their new range? Once you decide these things, write them down so they are clear for everyone.”

Building a comprehensive compensation strategy isn’t easy, but it can reap rewards both in cost and in employee engagement and retention. More importantly, you don’t have to turn on a dime when it comes to compensation strategy, says Praast.

“It’s okay to take baby steps. It’s very hard to walk back things if you’ve already shared them, so figure out where you are, where you want to be, and what things you can do and what you can share to get you to that point.”

Some immediate actions you can take, according to Schuman and Praast:

• Clarify your business goals and align them with your compensation priorities.
• Track where you recruit from and where attrition occurs.
• Ascertain whether there’s a specific reason people are leaving and where they’re going.
• Familiarize yourself with market data sources.
• Build sample ranges for your top 10 mission-critical jobs.