1. Performance Management and Compensation
Dr. Jeanne Michalski 1

2. Pay for Performance
Discussion

3. Linking Pay to Performance
U.S. organizations often use “merit” pay to determine employee pay increases
Straightforward logic: if pay is made contingent upon performance, then employee motivation to achieve high performance is increased.
Founded in motivational theories

4. Linking Pay to Performance
Performance Pay
Motivation
Improved Performance

5. Expectancy Theory Motivation = E X I X V
Expectancy: The connection between behavior and the outcome
Instrumentality: The connection between outcome and a reward
Valence: Is the reward something that the individual values?
People are motivated by intrinsic and extrinsic rewards they desire.
People will only be motivated if outcome is possible.
People will only be motivated if outcome is contingent on behavior.
People will only be motivated if a reward is attached to the outcome.
“Line of sight” is the perceived link between individual behavior and the reward.

6. Equity Theory
Comparison of my input / reward ratio with that of similar others.
Merit pay should lead to improved performance because a pay raise is seen as a fair outcome for one’s performance input – the more one contributes to the organization the greater the pay increase

7. Reinforcement Theory
Rewards reinforce performance “what gets rewarded gets repeated”
Merit pay should motivate improved performance because the monetary consequences of good performance are made known. The better one’s performance, the greater the pay increase will be.

8. Goal Setting Theory Behavioral goals vs. Outcome goals
Often easier to observe outcomes
Gives employee discretion on how to achieve goals
Use Outcome Goals When:
Workers know how to achieve the goals
Workers have the necessary resources

9. Goal Challenge and Performance
High
Performance
Note: Not to scale
Low
Performance
Easy Moderately Difficult Extremely Difficult

10. Pay Equity and Motivation
The greater the perceived disparity between my input/output ratio and the comparison person’s input/output ratio, the greater my motivation to reduce the inequity.

11. “Monkeys Demand Equal Pay”
A recent study shows brown capuchin monkeys refused to play along when they saw another monkey get a better payoff for performing the same work.
The monkeys were trained to trade a granite token for a piece of cumber. When the reward was the same for both monkeys, they took the cucumber 95 percent of the time.
But it was a different story when one monkey was given something better -- namely, a grape. Then, the other monkey often pitched a fit -- either throwing the token, refusing to eat the cucumber or giving it to the other monkey.
Associated Press 2003

12. Pay Brings Talent into Organization
Job Offer #1
Job Offer #2
Base Salary: $45k/yr.
Manger Quality Great
Health Benefits Great
Sr. Executive
Quality Great
Base Salary: $60k/yr.
Manger Quality Poor
Health Benefits Great
Sr. Executive
Quality Fair
While compensation is not the only consideration of a job offer there is no substitute for fair pay based on employees role in the firm, the market value of the job and their performance in that position in meeting employee basic needs. Remaining competitive with compensation is critically important
Pay can make or break a recruiting effort as it is the most visible and concrete attribute of a job offer. Many attributes are less tangible until person has joined the firm and interacted with colleagues, managers, culture
50000 employees in 59 different org
Candidates Value:
Compensation and Benefits 4.3
Development and Work Environment 3.85
Work-Life Balance
Company Environment
Corporate Leadership Council 2004

13. Pay Keeps Talent
Total Compensation
Base Pay

14. Effect of Compensation on Discretionary Effort
Connection - Performance and Raise 10.8%
Connection - Performance and Bonus 9.9%
Total Compensation Satisfaction %
Base Pay Satisfaction %
Cash Bonus Satisfaction %
Compensation attracts talent and plays a role in retention but has less impact on employee effort. Biggest impact on employee effort had to due with the role of the manager

15. Pay for Performance Requires
Definition of performance
How are we going to measure and compare people?
Distribution of performance
Can we distinguish high and low performers?
Decide the increase for each level of performance.
How large a difference between high and low performers?

16. Questions Should low performers be paid an increase?
Should average performers be paid an increase?
What about cost of living?
What about existing difference in pay distribution?

17. REVIEW