Compensation

George T. Milkovich, Jerry M. Newman, Barry Gerhart · 2016

A comprehensive textbook that provides a strategic framework for designing and managing compensation systems to drive organizational performance, ensure fairness, and maintain legal compliance.

In a world where talent is the ultimate competitive advantage, how you pay your people is more critical than ever. 'Compensation' moves beyond simplistic views of pay as a mere expense, reframing it as a powerful strategic tool to shape employee behavior and drive business results. Grounded in the authors' evidence-based Pay Model, this book dissects the essential components of any effective system: internal alignment, external competitiveness, employee contributions, and overall management. It provides a robust framework to tackle the toughest compensation challenges, from structuring salaries and designing incentive plans to managing benefits and ensuring legal compliance. By exploring the critical 'incentive' and 'sorting' effects of pay, the book demonstrates that it's not just about how much you pay, but how you pay, that truly matters for attracting, retaining, and motivating a high-performing workforce.

The model it argues

This model, derived from the core framework of the book, posits that an organization's strategic compensation policy choices (design levers) shape employee psychological and behavioral states. These states, primarily related to motivation (incentive effect) and talent composition (sorting effect), mediate the relationship between compensation policies and key organizational outcomes like efficiency, fairness, and compliance.

Key ideas

Internal Alignment Policy: The policy decisions regarding the pay relationships among different jobs, skills, and competencies within a single organization. It addresses how work and people are valued relative to each other within the organization.
External Competitiveness Policy: The policy decisions regarding an organization's pay level and mix in comparison to its competitors, aimed at achieving cost control and attracting/retaining the necessary workforce.
Employee Contribution Policy: The policy decisions about the extent to which compensation is tied to individual, group, or organizational performance, and the specific mechanisms used to link pay to performance.
Compensation Management Policy: The policy decisions regarding the administration and execution of the compensation system, focusing on ensuring the right people get the right pay for the right objectives in the right way.
Employee Motivation and Behavior: The psychological force that determines the direction, intensity, and persistence of an employee's voluntary actions, driven by the perceived linkage between behavior and valued rewards (the 'incentive effect').
Workforce Composition: The aggregate profile of the organization's workforce in terms of ability, skills, personality, and performance potential, which is shaped by the 'sorting effect' whereby different compensation strategies attract and retain different types of people.
Perceived Fairness: An employee's subjective assessment of the equity of their compensation, comprising distributive justice (fairness of outcomes) and procedural justice (fairness of the processes used to determine outcomes).
Organizational Outcomes: The results of the compensation system in relation to its core objectives, which include improving organizational efficiency, ensuring fair treatment of employees, and complying with all relevant laws and regulations.