McGraw-Hill/IrwinMcGraw-Hill/Irwin Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.Copyright © 2008 by The McGraw-Hill Companies, Inc. All rights reserved.

Milkovich/Newman: Compensation, Ninth EditionMilkovich/Newman: Compensation, Ninth Edition

Chapter 3Chapter 3Defining Internal Defining Internal

AlignmentAlignment

3-3-22

Chapter TopicsChapter Topics Compensation Strategy: Internal AlignmentCompensation Strategy: Internal Alignment

Structures Vary Among OrganizationsStructures Vary Among Organizations

What Shapes Internal Structures?What Shapes Internal Structures?

Strategic Choices in Designing Internal StructuresStrategic Choices in Designing Internal Structures

Guidance from the EvidenceGuidance from the Evidence

Consequences of StructuresConsequences of Structures

Your Turn: So You Want to Lead the Orchestra!

3-3-33

Compensation Strategy:Compensation Strategy:Internal AlignmentInternal Alignment

Issues in a strategic approach to payIssues in a strategic approach to pay– Setting objectivesSetting objectives

– Internal alignmentInternal alignment Addresses relationships Addresses relationships inside inside the organizationthe organization

The relationships form a pay structure that should:The relationships form a pay structure that should:– Support the organization strategySupport the organization strategy

– Support the work flowSupport the work flow

– Motivate behavior toward organization objectivesMotivate behavior toward organization objectives

3-3-44

Internal alignment, often called internal equity, refers to the pay

relationships among different jobs/skills/competencies within a

single organization.

3-3-55

Exhibit 3.1: Engineering Structure at Lockheed Martin

3-3-66

Pay structure refers to the array of pay rates for different work or skills within a single organization.

The number of levels, the differentials in pay between the levels, and the criteria used to determine those differences

describe the structure.

3-3-77

Compensation Strategy:Compensation Strategy:Internal Alignment (cont.)Internal Alignment (cont.)

Supports organization strategySupports organization strategy Supports work flowSupports work flow

– Work flow – process by which goods and services Work flow – process by which goods and services are delivered to the customerare delivered to the customer

Motivates behaviorMotivates behavior– Line-of-sightLine-of-sight

– Structure must be fair to employeesStructure must be fair to employees

3-3-88

Structures Vary Among OrganizationsStructures Vary Among Organizations An internal pay structure can be defined by An internal pay structure can be defined by

– Number of Number of levels levels of workof work

– Pay Pay differentials differentials between the levelsbetween the levels

– Criteria Criteria oror basis basis used to determine those levels and used to determine those levels and differentialsdifferentials

3-3-99

LevelsLevels Pay structure is hierarchical in nature, based on:Pay structure is hierarchical in nature, based on:

– Number of levelsNumber of levels

– Reporting relationshipsReporting relationships

3-3-1010

Exhibit 3.2: Managerial/Professional Exhibit 3.2: Managerial/Professional Levels At General Electric Plastics Levels At General Electric Plastics

(GEP)(GEP)

3-3-1111

DifferentialsDifferentials The pay differences among levelsThe pay differences among levels Pay is determined by:Pay is determined by:

– Knowledge/ skills involvedKnowledge/ skills involved

– Working conditionsWorking conditions

– Valued addition to the companyValued addition to the company

Intention of these differentials:Intention of these differentials:– To motivate people to strive for promotion to a To motivate people to strive for promotion to a

higher-paying levelhigher-paying level

3-3-1212

Exhibit 3.3: Exploring Pay Structure at Exhibit 3.3: Exploring Pay Structure at Lockheed MartinLockheed Martin

3-3-1313

Criteria: Content and ValueCriteria: Content and Value ContentContent – the work performed in a job and how – the work performed in a job and how

it gets doneit gets done– Structure ranks jobs on – skills required, complexity Structure ranks jobs on – skills required, complexity

of tasks, problem solving, and/or responsibilityof tasks, problem solving, and/or responsibility ValueValue – the worth of the work; its relative – the worth of the work; its relative

contribution to the organization objectivescontribution to the organization objectives– Structure focuses on – Structure focuses on – relative contribution relative contribution of these of these

skills, tasks, and responsibilities to the organization's skills, tasks, and responsibilities to the organization's goalsgoals

– Can include external market valueCan include external market value

3-3-1414

Use Value and Exchange ValueUse Value and Exchange Value Use valueUse value – the value of goods or services an – the value of goods or services an

employee produces in a jobemployee produces in a job Exchange valueExchange value – whatever wage the employer – whatever wage the employer

and employee agrees on for a joband employee agrees on for a job

Difference between exchange value and use Difference between exchange value and use value surfaces when one firm acquires anothervalue surfaces when one firm acquires another

3-3-1515

Job- and Person-Based StructuresJob- and Person-Based Structures Job-basedJob-based structures relies on the work content structures relies on the work content

– tasks, behaviors, responsibilities– tasks, behaviors, responsibilities Person-basedPerson-based structure shifts the focus to the structure shifts the focus to the

employeeemployee– Skills, knowledge, or competencies the employee Skills, knowledge, or competencies the employee

possessespossesses

– Whether or not they are used in the particular jobWhether or not they are used in the particular job

In reality, both job-and-person-based structures In reality, both job-and-person-based structures are included are included

3-3-1616

Exhibit: 3.4: What Shapes Internal Structures?Exhibit: 3.4: What Shapes Internal Structures?

3-3-1717

What Shapes Internal Structures? What Shapes Internal Structures? External FactorsExternal Factors

Economic pressuresEconomic pressures– Early advocates: Adam Smith, Karl MarxEarly advocates: Adam Smith, Karl Marx

– Marginal productivityMarginal productivity

– Supply and demand for labor and productsSupply and demand for labor and products

Government policies, laws, and regulationsGovernment policies, laws, and regulations– Equal Pay Act and Civil Rights ActEqual Pay Act and Civil Rights Act

– Living wageLiving wage

3-3-1818

What Shapes Internal Structures? What Shapes Internal Structures? External Factors (cont.)External Factors (cont.)

External stakeholdersExternal stakeholders– Have a stake in how internal pay structures are Have a stake in how internal pay structures are

determineddetermined– Internal alignment focuses on pay differentials Internal alignment focuses on pay differentials

within an organizationwithin an organization Cultures and customsCultures and customs

– Culture – the mental programming for processing Culture – the mental programming for processing information that people share in commoninformation that people share in common

– Global competition and an aging workforce has Global competition and an aging workforce has made age-based pay an expensive affairmade age-based pay an expensive affair

3-3-1919

What Shapes Internal Structures? What Shapes Internal Structures? Organizational FactorsOrganizational Factors

Organization strategyOrganization strategy– Aligned, yet adaptable pay structures may be Aligned, yet adaptable pay structures may be

requiredrequired Organization's human capitalOrganization's human capital

– EducationEducation– ExperienceExperience– KnowledgeKnowledge– AbilitiesAbilities– Skills required to perform the workSkills required to perform the work

3-3-2020

What Shapes Internal Structures? What Shapes Internal Structures? Organizational Factors (cont.) Organizational Factors (cont.)

Organization work designOrganization work design– Technology used in producing goods and services Technology used in producing goods and services

influencesinfluences Organizational designOrganizational design

Work to be performedWork to be performed

Skills/Knowledge required to perform workSkills/Knowledge required to perform work

3-3-2121

What Shapes Internal Structures? What Shapes Internal Structures? Organizational Factors (cont.) Organizational Factors (cont.)

Organization work design (cont.)Organization work design (cont.)– Temporary work supplierTemporary work supplier

– Outsourcing specialistsOutsourcing specialists Pay for employees under both practices based on internal Pay for employees under both practices based on internal

structure of home employerstructure of home employer

– DelayeringDelayering Cuts unnecessary, non-contributing workCuts unnecessary, non-contributing work

Adds work to other jobs, enlarges them, changes the job’s Adds work to other jobs, enlarges them, changes the job’s value and structurevalue and structure

3-3-2222

What Shapes Internal Structures? What Shapes Internal Structures? Organizational Factors (cont.) Organizational Factors (cont.)

Overall HR policiesOverall HR policies– Feeling of ‘career progress’Feeling of ‘career progress’

3-3-2323

What Shapes Internal Structures? What Shapes Internal Structures? Combining External and Organization FactorsCombining External and Organization Factors

Internal labor marketsInternal labor markets– Rules and procedures thatRules and procedures that

Determine pay for different jobs within a single organizationDetermine pay for different jobs within a single organization

Allocate employees among those different jobsAllocate employees among those different jobs

Employee acceptanceEmployee acceptance– Sources of fairness: Procedural, and distributive justiceSources of fairness: Procedural, and distributive justice

Pay structures changePay structures change– ‘‘Change-and-congeal” processChange-and-congeal” process

3-3-2424

Exhibit 3.5: Illustration of an Exhibit 3.5: Illustration of an Internal Labor MarketInternal Labor Market

3-3-2525

Strategic Choices in DesigningStrategic Choices in DesigningInternal StructuresInternal Structures

Fitting or tailoring the pay structure to be Fitting or tailoring the pay structure to be internally aligned involves two strategic choicesinternally aligned involves two strategic choices– How tailored to organization design and work flow How tailored to organization design and work flow

to make the structureto make the structure

– How to distribute pay throughout the levels in the How to distribute pay throughout the levels in the structurestructure

3-3-2626

Strategic Choices in DesigningStrategic Choices in DesigningInternal Structures (cont.)Internal Structures (cont.)

Tailored versus loosely coupledTailored versus loosely coupled– Tailored Tailored

Well designed jobs with detailed steps or tasksWell designed jobs with detailed steps or tasks

Very small pay differentials among jobsVery small pay differentials among jobs

– Loosely coupledLoosely coupled Requires constant innovationRequires constant innovation

3-3-2727

Strategic Choices in DesigningStrategic Choices in DesigningInternal Structures (cont.)Internal Structures (cont.)

Egalitarian versus hierarchicalEgalitarian versus hierarchical– Egalitarian structures send the message that all Egalitarian structures send the message that all

employees are valued equallyemployees are valued equally

– AdvantagesAdvantages Fewer levels and smaller differentials between adjacent Fewer levels and smaller differentials between adjacent

levels and between highest- and lowest-paid workerslevels and between highest- and lowest-paid workers

– DisadvantagesDisadvantages ‘‘Averagism’ brings to light that equal treatment can mean Averagism’ brings to light that equal treatment can mean

more knowledgeable employees feel underpaidmore knowledgeable employees feel underpaid

3-3-2828

Strategic Choices in DesigningStrategic Choices in DesigningInternal Structures (cont.)Internal Structures (cont.)

Egalitarian versus hierarchical (cont.)Egalitarian versus hierarchical (cont.)– Hierarchical structures send the message that the Hierarchical structures send the message that the

organization values the differences in work content, organization values the differences in work content, individual skills, and contributions to the individual skills, and contributions to the organizationorganization Multiple levels include detailed descriptions of work done Multiple levels include detailed descriptions of work done

at each levelat each level

Outlined responsibility for eachOutlined responsibility for each

3-3-2929

Exhibit 3.6: Strategic Choice:Exhibit 3.6: Strategic Choice:Hierarchical versus EgalitarianHierarchical versus Egalitarian

3-3-3030

Exhibit 3.7: Which Structure Has the Exhibit 3.7: Which Structure Has the Greatest Impact on Performance? on Greatest Impact on Performance? on

Fairness?Fairness?

3-3-3131

Equity theory: FairnessEquity theory: Fairness

– Research suggests that employees judge fairness by Research suggests that employees judge fairness by multiple comparisonsmultiple comparisons

Comparing to jobs similar to their ownComparing to jobs similar to their own

Comparing their job to others at the same employerComparing their job to others at the same employer

Comparing their jobs’ pay against external pay levelsComparing their jobs’ pay against external pay levels

Guidance from the EvidenceGuidance from the Evidence

3-3-4444

Guidance from the Evidence (cont.)Guidance from the Evidence (cont.) Tournament theory: Motivation and Tournament theory: Motivation and

performanceperformance

– All players will play better in the first tournament, All players will play better in the first tournament, where the prize differentials are largerwhere the prize differentials are larger

– Greater difference between an employee’s salary and Greater difference between an employee’s salary and the boss’s, harder he/she will workthe boss’s, harder he/she will work

– Several studies have given rise to “winner-takes-all”Several studies have given rise to “winner-takes-all”– Does not directly address turnoverDoes not directly address turnover

Institutional Model: Copy OthersInstitutional Model: Copy Others– Very few “first movers”Very few “first movers”

3-3-4545

Exhibit 3.8: Some Consequences of anExhibit 3.8: Some Consequences of anInternally Aligned StructureInternally Aligned Structure

3-3-4646

(More) Guidance from the Evidence(More) Guidance from the Evidence Impact of internal structures depends on context Impact of internal structures depends on context

in which they operatein which they operate More hierarchical structures are related to More hierarchical structures are related to

greater performance when the work flow greater performance when the work flow depends on individual contributorsdepends on individual contributors

High performers quit less under more High performers quit less under more hierarchical systems when: hierarchical systems when: – Pay is based on performance rather than seniority Pay is based on performance rather than seniority

– When people have knowledge of the structureWhen people have knowledge of the structure

3-3-4747

(More) Guidance from the Evidence (More) Guidance from the Evidence (cont.)(cont.)

When close collaboration and sharing of When close collaboration and sharing of knowledge are required, more egalitarian knowledge are required, more egalitarian structures are related to greater performancestructures are related to greater performance

Impact of any internal structure on organization Impact of any internal structure on organization performance is affected by other dimensions of performance is affected by other dimensions of the pay modelthe pay model– Pay levels (competitiveness)Pay levels (competitiveness)– Employee performance (contributions)Employee performance (contributions)– Employee knowledge of the pay structure Employee knowledge of the pay structure

(management)(management)

3-3-4848

Consequences of StructuresConsequences of Structures Importance of internal alignmentImportance of internal alignment

– EfficiencyEfficiency Pay structures imply future returnsPay structures imply future returns

– FairnessFairness For fair (sizable) differentialsFor fair (sizable) differentials

Against fair (sizable) differentialsAgainst fair (sizable) differentials

– ComplianceCompliance Comply with regulation of the countryComply with regulation of the country