Compensation Strategy & Philosophy Best Practices

Compensation Strategy & Philosophy | vcfo

Best Practices for Establishing a Compensation Strategy & Philosophy

How a business approaches employee compensation plays a very important role in shaping the success of the business itself. For some, the approach to compensation can be rather organic or undefined, stemming from roots established in the company’s earliest days or from leaders following individual viewpoints of doing what seems right at the time. Over time, these inconsistent and misaligned approaches to employee compensation introduce and multiply risk, cause inequities, and put companies in precarious positions.

For a business to be scalable and sustainable, its compensation strategy must be carefully considered, and once established, carried out consistently across the organization. Below, we talk about how to make that happen.

Develop a Compensation Philosophy and Strategy

Every business is different. And given that individuality, there is no single right way for an organization to approach compensation. However, there are several universal aims of compensation strategies, including attracting and retaining the talent needed to run the business, ensuring equity and fairness to all employees, and supporting organizational culture and compliance.

In most cases, developing a compensation philosophy and strategy is a collaborative effort across one’s executive team with key guidance provided by the organization’s compensation or HR leadership. Foundational to this effort is to first confirm a shared understanding and alignment throughout this group on the company’s mission and values. These elements serve as a guidepost for developing a compensation philosophy and strategy that fits what the organization is or seeks to be. Several related questions must be answered as well, including (but not limited to):

  • What position does the business wish to occupy in the market? (g., a low-cost option spanning a wide space, a premium-priced offering targeting a niche subset of the market, etc.)
  • What can we afford to pay given our financial objectives and commitments?
  • What unique characteristics of the business need to be factored in? (g., work models, location, skill requirements, etc.)
  • What compensation components are most important to those we wish to attract and retain?
  • How are key competitors in our industry and key competitors for the type of talent we need approaching compensation?

Answers to these and similar questions help to determine whether an organization’s compensation philosophy and strategy need to move in the direction of being a market leader that compensates employees above the market rate, an organization that chooses to lag, or pay below market rates but attempts to close the gap with other compensation levers, or a market-average organization that aims to occupy the middle ground.

Establishing formal pay structures also entails examining one’s employee population and determining an appropriate number of job classifications, levels or grades, pay ranges, and related components. Company size is a key driver here, as is market survey data that informs where individual employees and groups should fall.

Consider Components Beyond Base Pay

While base pay is undoubtedly an important consideration in forming one’s compensation strategy, it is by no means the only ingredient that needs to be considered. Compensation strategy must encompass a total compensation view that includes base pay, variable pay (such as bonuses and commissions), long-term incentives, traditional benefits, and other employee perks and resources.

The number and types of roles within the organization are key factors. Typically, compensation for entry-level, non-exempt, or lower-level professional roles is primarily base pay. As employees progress into higher positions, variable pay in the form of retention or merit-based bonuses, tier-based rewards, or even equity in the company often come into play. Generally speaking, employees that have a greater individual impact on the company have more variable pay elements that comprise their overall compensation.

Answers to questions like those described in the previous section also help to inform the right mix of benefits, perks, and other incentives for the organization. This mix can include a wide range of health-related benefits (e.g., medical, dental, vision, mental), wellness programs (e.g., fitness club membership, yoga classes), career development resources, time off, investment programs (401K, education savings), tuition reimbursement, and more.

Evaluate the Current State & Adjust Where Warranted

Once a compensation strategy and plan are formed, determine how well existing roles, processes, and structures line up with that strategy and plan. This includes reviewing job descriptions to ensure that they are descriptive, comprehensive, clear, and understandable by all employees. Solid job descriptions are especially important when compensation and salary benchmarking are carried out.

For effective benchmarking, employers must be able to match their positions to the market based on job descriptions and the criteria that comprise them. Strive for apples-to-apples comparisons and rely on objective and unbiased third-party data from benchmarking services whenever possible. Data from these sources is far more reliable than data that is self-reported.

Additionally, as more states and local governments are enacting pay transparency legislation, employers are increasingly required to share compensation-related information with current and/or potential employees. This is generally happening by denoting pay ranges when posting jobs or sharing established pay ranges with existing employees. These growing requirements have the potential to push employers to re-evaluate their pay structures or establish formal structures where none currently exist.

Communicate and Monitor Compensation Strategy Regularly

A compensation strategy is only effective to the degree that it is understood and accepted by all employees. Leaders should actively share their organization’s compensation philosophy and strategy with employees and include details such as review processes, how to advance in the organization, and where to go for more information and answers to questions.

Leaders should also regularly solicit feedback to gauge how well their approach is meeting employee needs. This can take place during employee reviews, as part of employee satisfaction surveys, or via other interactions. Additionally, regular equity reviews, engagement with recruiting teams, and periodic re-checks of benchmarking data are all crucial in assessing whether one’s compensation strategy is where it needs to be.

Casual approaches to compensation do not set the stage for successful businesses. Building a business that will be healthy for the long term requires developing a well-considered compensation philosophy and strategy that aligns with one’s broader strategy and objectives as well as the needs and aspirations of those that will fuel the company’s success.


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