Pay for Performance

Running head: PAY FOR PERFORMANCE

Pay For Performance

Tais Dominguez

08 June 2014

HRMD 640

Turnitin: 30%

The purpose of this paper is to prove that higher compensation yields higher performance and profitability. It’s important to begin this paper by stating that compensation is a very significant human resources tool that is used by organizations around the globe to manage their employees. For an organization to receive its money’s worth, and motivate and retain skilled employees, it must ensure that it’s compensation system is functioning properly and well. Not only I it important for a firm to link compensation to its goals, values and strategies, it is also important that its compensation system aligns with the firm’s HR strategy (Minnick, et al., 2011).
On the final research paper it will discuss the advantages of pay for performance, the productivity implication, and performance objectives of paying for performance. The following are some findings from preliminary research.

The best way of driving people to work harder and more efficiently is by offering more money for hitting specific companies’ targets. There are two main advantages of paying for performance; one: the motivation of earning a higher income brings forth the employees’ best qualities and inspires them to put forth their best effort. Two: when the pay is higher, it attracts more qualified and higher quality employees.

According to Moriones, et al., (2013), Incentive pay is usually used to obtain specific performance results and companies that have made the transition from “Salary” to “Individual incentives”, have proven to have increased productivity as much as 44 percent. This increase has shown that by directly linking pay for performance motivates and aids the recruiting and the retention of the most talented and qualified employees.
As our workforce are becoming more specialized, new graduates are seeking to join companies that are now implementing performance related rewards. The use of “paying for performance” has increased in popularity and has shown that when pay is based on performance, employees work harder. As much as 67 percent of companies are now offering some type of performance pay to employees that are hired below the executive level (Landsberg, 2009).
Similarly, other forms of paying employees for performance such as the compensation of employees through options such as stocks and other types of incentives have also become very popular in today’s business world.
Enploying a pay for performance structure has proven to solve organizational difficulties by aligning the preferences of firms and it’s employees. Furthermore, establising a pay for performance system aids as a sorting mechanism to identify and attract the most qualified employees. (Gordon, Kaswin)

How do we design a Compensation Program that will in fact yield a higher profit and motivate employees?

Financial compensation is a fast and ever-changing business environment that could weaken a firm’s ability to build trust. This is because there is an implied negotiation between what management wants and expects and what executives wants and demands. To create synergy in pay for performance requires more than a concept or strategy and will yield little results unless all corporate enterprise unit levels are making conscious decisions and are aware of the strategies and motivations that will guide their units to achieve success. Therefore, corporate enterprises should have active policies to communicate, educate, motivate, and align their ongoing management process (Landsberg, 2009).

Any compensation program that will improve the quality of products and customer service and sustain the essential employee’s performance must adhere to behavioral principles. Uygur (2008), stated that wages and salaries act as negative reinforces rather than positive ones. In contrast, Whittlesey (2006), argues that compensation is strategic not only in motivating and attracting the worker being compensated, but also in its impact on peer workers and the firm’s complementary activities (Strategic Management Journal, 2012).

Because compensation is a critical component of organizational strategy, influencing a company’s performance by sustaining the motivation amongst its employees and attraction and retaining newly hires is fundamental to the success of an organization.

Firms that are seeking to maximize their productivity on behalf of their shareholders seek both to hire the most skilled employees and to motivate those employees to put forth their best effort and maximize their output. When the goals of a firm are not properly aligned with those of their employees, problems may rise. Such problems as when employees are mostly concerned with their compensation and maintaining a comfortable effort level than with putting forth their best effort to produce as much as possible for their organization. In contrast, pay for performance can act as a compensation scheme in which compensation is systematically tied to the employee’s output.

In addition, pay for performance can also act as a sorting device to identify and attract the most capable employees. The Bureau of Labor Statistics (2009), stated that employee wages accounts for 60 to 95 percent of the average company’s costs excluding a firm’s physical costs of goods sold. According to Larkin, Pierce, and Gino (2012), the strategy of compensation is dominated by one theory and one motivation: the use of psychological reinforces and a focus on executive compensation. Yet, the pay of nonexecutives represents the bulk of a company’s wage bill.

In addition, employee compensation is directly linked to the organization’s choices about their technology, diversification, market position, and human capital.

All compensation programs should be strategic and used to maximize profits based on its unique costs and benefits. According to Larkin, Pierce, and Gino (2012), costs arise due to a lack of consistency between firms and employees in areas that are linked to the company’s objectives and information.
An employee may not put forth their best effort and the firm may be paying workers more than they actually are worth. In addition, firms will seek to maximize their profits, and increased compensation will in turn affect profitability by motivating employee’s effort and attracting more highly qualified and skilled employees.

For the reason that workers know their own effort exertion and skill level, firms are not fully aware of their employee’s skills or exertion level. In order for a firm to overcome these asymmetries, they provide incentives for workers to exert effort and self-select by skill level. By offering a low guaranteed wage with a large performance element, a firm can motivate higher effort from all workers and it can attract and retain workers with high skills (Lazear and Oyer, 2011).
As a result to this self-selection, paying for performance separates skilled employees who earn more under such system from unskilled workers who are better off in settings where performance does not matter.

Larkin, Pierce and Gino (2012), claims that firms are more likely to use performance-based pay vs. flat pay, when they have less information about actual employee effort. In addition, employees work harder when their pay is based on performance.

Reference:

Bayo- Moriones, A., Enrique Galdon- Sanchez, J., & Martinez- de- Morentin, S. (2013). The Diffusion Of Pay For Performance Across Occupations. Industrial & Labor Relations Review, 66(5), 1115-1148.

Larkin, I., Pierce, L., & Gino, F. (2012). The psychological costs of pay-for-performance: Implications for the strategic compensation of employees. Strategic Management Journal, 33(10), 1194-1214. doi:10.1002/smj.1974

Uygur, O. (2013). The Impact of Human Capital on Employee Compensation and Pay Performance Sensitivity. Academy Of Business Research Journal, 182-99.

Minnick, K., Unal, H., & Yang, L. (2011). Pay for Performance? CEO Compensation and Acquirer Returns in BHCs. Review Of Financial Studies, 24(2), 439-472.

Schneider, P. J. (2013). The Managerial Power Theory of Executive Compensation. Journal Of Financial Service Professionals, 67(3), 17-22.

Landsberg, R. D. (2009). How to Make Pay for Performance Pay Off. Journal Of Financial Service Professionals, 63(6), 12-13.

Hoon, B., & Parent, D. (2013). Learning and the Form of Compensation. Journal Of Labor Research, 34(1), 79-98. doi:10.1007/s12122-012-9149-6

CADSBY, C., FEI, S., & TAPON, F. (2007). SORTING AND INCENTIVE EFFECTS OF PAY FOR PERFORMANCE: AN EXPERIMENTAL INVESTIGATION. Academy Of Management Journal, 50(2), 387-405. doi:10.5465/AMJ.2007.24634448