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3. Performance contingency. Rewards should be closely linked with particular perfor- mances. If the goal is met, the reward is given; if the target is missed, the reward is reduced or not given. The clearer the linkage between performance and rewards, the better able rewards are to motivate desired behavior. Unfortunately, this criterion often is neglected in practice. Many, if not most, employees nationwide believe that there is no linkage between pay and performance.50 If salary increases are concen- trated at certain levels, almost everyone, regardless of performance level, is getting about the same raise.

4. Durability. Some rewards last longer than others. Intrinsic rewards, such as increased autonomy and pride in workmanship, tend to last longer than extrinsic rewards. Most people who have received a salary increase realize that it gets spent rather quickly.

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5. Visibility. To leverage a reward system, it must be visible. Organization members must be able to see who is getting the rewards. Visible rewards, such as placement on a high-status project, promotion to a new job, and increased authority, send sig- nals to employees that rewards are available, timely, and performance contingent.

Reward systems interventions are used to elicit and maintain desired levels of per- formance. To the extent that rewards are available, durable, timely, visible, and perfor- mance contingent, they can support and reinforce organizational goals, work designs, and employee involvement. The next sections describe four types of rewards. Skill- based pay, pay for performance, gain sharing, and promotions can be used to reward individual, team, or organization performance. Each system represents a flexible inter- vention that is effective in improving employee performance and satisfaction.

15-4c Skill- and Knowledge-Based Pay Systems The most traditional reward system is individual and job based. The characteristics of a particular job are determined, and pay is made comparable to what other organizations pay for jobs with similar characteristics. Pay increases are primarily a function of cost- of-living adjustments (COLA) or small merit pools that are awarded with little relation- ship to performance. This job evaluation and reward method tends to result in pay sys- tems with high external and internal equity. However, it fails to reward employees for all of the skills that they have, discourages people from learning new skills, and results in a view of pay as an entitlement.51

Some organizations, such as General Mills, United Technologies, Frito-Lay, Procter and Gamble, and General Foods, have worked to resolve these problems by designing pay systems according to people’s skills and abilities. A 2006 survey found that almost 24% of the Fortune 1000 use skill or knowledge-based pay to at least some extent.52 By focusing on the individual, rather than the job, skill-based pay systems reward learning and growth.

Skill-based pay systems must first establish the skills needed for effective operations, identify the optimal skill profile and number of employees needed with each skill, price each skill and skill set, develop rules to sequence and acquire skills, and develop methods to measure member skill acquisition.53 Typically, employees are paid according to the number of different jobs that they can perform. For example, in the classic case of General Mill’s Squeeze-It plant new employees were paid a starting wage at the low end of the skilled worker wage rate for premium employers in the community. They were

458 PART 5 HUMAN RESOURCE INTERVENTIONS

 

 

then assigned to one of four skill blocks corresponding to a particular set of activities in the production process. For each skill block, there were three levels of skill. Pay was based on the level of skill in each of the skill blocks; the more proficient the skill in each block and the more blocks one was proficient at, the higher the pay. After all skill blocks were learned at the highest level, the top rate was given.54 This progression in skills typically took two years to complete, and employees were given support and train- ing to learn the new jobs.

Skill-based pay systems have a number of benefits. They contribute to organizational effectiveness by providing a more flexible workforce and by giving employees a broad perspective on how the entire plant operates. This flexibility can result in leaner staffing and fewer problems with absenteeism, turnover, and work disruptions. Skill-based pay can lead to durable employee satisfaction by reinforcing individual development and by producing an equitable wage rate.55

The three major drawbacks of skill-based pay schemes are the tendency to “top out,” the expense, and the lack of performance contingency. Top-out occurs when employees learn all the skills there are to learn and then run up against the top end of the pay scale, with no higher levels to attain. Some organizations have resolved this topping-out effect by installing a gain-sharing plan after most employees have learned all relevant jobs. Gain sharing, discussed later in this section, ties pay to organizational effectiveness, allowing employees to push beyond previous pay ceilings. Other organizations have resolved this effect by making base skills obsolete and adding new ones, thus raising the standards of employee competence. Skill-based pay systems also require a heavy investment in training, as well as a measurement system capable of telling when employ- ees have learned the new jobs. These systems typically increase direct labor costs, as employees are paid highly for learning multiple tasks. In addition, because pay is based on skill and not performance, the workforce could be highly paid and flexible but not productive.

Unfortunately, and despite their wide use, limited evaluative research exists on the effectiveness of these interventions. Long-term assessment of the Gaines Pet Food plant revealed that the skill-based pay plan contributed to both organizational effectiveness and employee satisfaction. Several years after the plant opened, workers’ attitudes toward pay were significantly more positive than those of people working in other similar plants that did not have skill-based pay. Gaines workers reported much higher levels of pay satisfaction, as well as feelings that their pay system was fairly administered.56 Similarly, a longitudinal study of skill-based pay focused on the design characteristics, supervisor and employee support, and facility characteristics to determine overall success as mea- sured by workforce productivity and flexibility, cost-effectiveness, and survival. They found that skill-based pay plans were more successful and sustainable in manufacturing facilities than in service organizations, and that support among supervisors and employ- ees for the innovative plans consistently predicted productivity and cost-effectiveness.57

A national survey of skill-based pay plans sponsored by the U.S. Department of Labor concluded that such systems increase workforce flexibility, employee growth and develop- ment, and product quality and quantity while reducing staffing needs, absenteeism, and turnover.58 These results appear contingent on management commitment to the plan and having the right kind of people, particularly those with interpersonal skills, motivation, and a desire for growth and development. This study also showed that skill-based pay is applicable across a variety of situations, including both manufacturing and service indus- tries, production and staff employees, new and old sites, and unionized and nonunionized settings. Finally, in a 1996 survey of Fortune 1000 companies, 42% indicated that skill- based pay systems were successful or very successful, down from 52% in 1993.59

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15-4d Performance-Based Pay Systems In addition to person- or job-based reward systems, organizations have devised many ways of linking pay to performance,60 making it the fastest-growing and most popular segment of pay-based reward systems. Studies suggest that 60% to 70% of businesses have some form of performance-based or variable pay system.61 They are used in such organizations as American Express, DaVita, Frito-Lay, and DOW. Pay-for-performance plans tend to vary along three dimensions: (1) the organizational unit by which perfor- mance is measured for reward purposes—an individual, group, or organization basis; (2) the way performance is measured—the subjective measures used in supervisors’ ratings or objective measures of productivity, costs, or profits; and (3) what rewards are given for good performance—salary increases, stock, or cash bonuses. Table 15.3 lists different types of performance-based pay systems varying along these dimensions and rates them in terms of other relevant criteria.

In terms of linking pay to performance, individual pay plans are rated highest, followed by group plans and then organization plans. The last two plans score lower on this factor because pay is not a direct function of individual behavior. At the group and organization levels, an individual’s pay is influenced by the behavior of others and by external market conditions. Generally, stock and bonus plans tie pay to performance better than do salary plans. The amount of awarded stock may vary sharply from year to year, whereas salary increases tend to be more stable because organizations seldom cut employees’ salaries. Finally, objective measures of performance score higher than subjective measures. Objective measures, such as profit or costs, are more credible, and people are more likely to see the link between pay and objective measures.

Most of the pay plans in Table 15.3 do not produce negative side effects, such as workers falsifying data and restricting performance. The major exceptions are individual bonus plans. These plans, such as piece-rate systems, tend to result in negative effects, particularly when trust in the plan is low. For example, if people feel that piece-rate quotas are unfair, they may hide work improvements for fear that quotas may be adjusted higher.

As might be expected, group- and organization-based pay plans encourage coopera- tion among workers more than do individual plans. Under the former, it is generally to everyone’s advantage to work well together because all share in the financial rewards of higher performance. The organization plans also tend to promote cooperation among functional departments. Because members from different departments feel that they can benefit from each others’ performance, they encourage and help each other make posi- tive contributions.

From an employee’s perspective, Table 15.3 suggests that the least acceptable pay plans are individual bonus programs. Employees tend to dislike such plans because they encourage competition among individuals and because they are difficult to administer fairly. Such plans may be inappropriate in some technical contexts. For example, techni- cal innovations typically lead engineers to adjust piece-rate quotas upward because employees should be able to produce more with the same effort. Workers, on the other hand, often feel that the performance worth of such innovations does not equal the incremental change in quotas, thus resulting in feelings of pay inequity. Table 15.3 sug- gests that employees tend to favor salary increases to bonuses. This follows from the sim- ple fact that a salary increase becomes a permanent part of a person’s pay, but a bonus does not.

The overall ratings in Table 15.3 suggest that no one pay-for-performance plan scores highest on all criteria. Rather, each plan has certain strengths and weaknesses

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that depend on a variety of contingencies. As business strategies, organization perfor- mance, and other contingencies change, the pay-for-performance system also must change. At Lincoln Electric, a longtime proponent and model for incentive pay, growth into international markets, poor managerial decisions, and other factors have put pres- sure on the bonus plan. In one instance, a poor acquisition decision hurt earnings and left the organization short of cash for the bonus payout. The organization borrowed money rather than risk losing employees’ trust. Financially weakened by the acquisition, and in combination with the other changes, Lincoln Electric has initiated a planned change effort to examine its pay-for-performance process and recommend a new approach.62

When all criteria are taken into account, however, the best performance-based pay systems seem to be group and organization bonus plans that are based on objective measures of performance and individual salary-increase plans. These plans are

TABLE 15.3

Ratings of Various Pay-for-Performance Plans*

Tie Pay to Performance

Produce Negative

Side Effects Encourage

Cooperation Employee

Acceptance

Salary Reward

Individual plan Productivity Cost-effectiveness Superiors’ rating

4 3 3

1 1 1

1 1 1

4 4 3

Group Productivity Cost-effectiveness Superiors’ rating

3 3 2

1 3 1

2 2 2

4 4 3

Organization-wide Productivity Cost-effectiveness

2 2

1 1

3 2

4 4

Stock/Bonus Reward

Individual plan Productivity Cost-effectiveness Superiors’ rating

5 4 4

3 2 2

1 1 1

2 2 2

Group Productivity Cost-effectiveness Superiors’ rating

4 3 3

1 1 1

3 3 3

3 3 3

Organization-wide Productivity Cost-effectiveness Profit

3 3 2

1 1 1

3 3 3

4 4 3

*Ratings: 1 lowest rating, 5 highest rating.

SOURCE: Reproduced by permission of the publisher from E. Lawler III, “Reward Systems,” in Improving Life at Work, eds. J. Hackman and J. Suttle (Santa Monica, Calif.: Goodyear, 1977), p. 195.

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