Fixed vs Variable Pay, Conundrum
What Tejinder Kalsi being the HR head of this logistic company – Highway Cargo Movers Pvt. Ltd was afraid of some time back, has started coming true before him. Last three months data reflected that attrition has reached 22% against an average of 3-4 %. It was an alarming situation as he has been asked to identify the reasons, take corrective measures, and also plan to recruit the persons to fill the vacancies as a priority.
It was not difficult for Tejinder to identify the reasons. Actually, he knew it already and even sounded the MD also beforehand but he was sidelined.
Highway Cargo Movers in the business of logistics has an impressive market share and enjoys a good brand having offices and warehouses in all prominent cities to serve end-to-end clients' requirements. Co. has a fairly structured compensation policy having components of fixed pay and variable pay apart from incentives. It was designed in such a transparent and simple way that employees at large were satisfied and felt secure. The variable part was from 5% to 20% depending upon the level from top management to lower-level employees. In other words, while lower-level employees’ variable pay was 5%, top management level employees were put in a bracket of 20%. This variable part was payable annually based on company performance and business results. Middle and lower-level employees were in a secured job zone and were giving their best. The company was also registering profits year by year.
Apart from the pay component of fixed and variable, there were incentive schemes at individual and group/ team level depending upon the nature of work of departments. The objective behind designing an incentive scheme was to keep employees motivated and well rewarded to increase in turn the customers’ satisfaction level. Group incentive was applicable in those departments where it was difficult to ascertain individual contribution and the result was largely dependent on teamwork. However, the percentage of incentives was lower at a higher level and higher at a lower level. The incentives were paid quarterly.
During Covid when all other companies were reducing their employee headcounts to control costs factor and business took a deep dive and overall demands were at the lower side, the company decided not to reduce the headcounts during the crisis and support employees and their families, as it did not want to lose good people and moreover, it was not appropriate time to terminate even those employees who were not performing up to expectations. The company used reserves to meet out expenses because they were sure that the market will soon be up. Due to Covid, company profits have gone down. In such a scenario, the Company board thought of taking some effective cost-cutting measures.
Tejinder communicated in a well thought and worded mail to all employees reinforcing company values and commitment towards its people that there were no reasons to be scared of as the company has decided not to reduce any person during this hard time and employees should continuously put in their hard work and all efforts to bounce back and bring the company back on profits path.
Tejinder was also asked by the board to control costs by not recruiting new people but instead by redefining the job profiles and distributing excess work if any amongst existing employees by taking a route of job enlargement.
Further to control costs, Management decided to restructure the compensation package to increase the variable pay component and reduce the fixed pay in a reasonable proportion. Tejinder expressed its reservation on this proposal as it may lower down the employees’ morale and diffuse/dilute the motivation level, company achieved in terms of employer brand value and work culture by not reducing the employees during the covid period. Tejinder was of the view that it may also lead to a high level of attrition as after the covid situation, the market started opening up and activities were heading towards normalcy. The Tejinder view was taken more towards the softer side and of remaining in the comfort zone. Tejinder suggested that the incentive scheme may be redesigned and its load can be reduced by keeping a certain level of senior employees out of the scheme as they were already well paid. He also suggested that even if the restructuring of compensation was to be done, it should be done only in respect of senior employees. The third suggestion, he put forward is that this year's annual increment either be deferred or if given should be a very minimal level. These all measures can very well take care of cost reduction without much impact on employees particularly at lower and middle levels’ take-home salary. But his suggestions were turned down. A few days later, the message was communicated by CEO to all employees through the mail directly announcing the increase in variable and reduction in the fixed component of salary.
Company management was of the view that this restructuring will not have much impact on employees’ positive sentiment because anyhow company will perform better and will recover the lost ground soon, but its boom ranged. Across all offices and warehouses, middle managers and lower-level employees started raising concern and dissatisfaction. A sense of insecurity prevailed as their take-home pay was reduced. Tejinder was on fire fighting mode to contain the dissatisfaction and was counseling the employees personally over the phone and at a personal level where possible along with his entire HR team. He sent personal messages to employees explaining the reason behind the move and reminded them of company management gestures during the covid time.
When Tejinder was busy diffusing this crisis; department heads increased the targets at their level without even taking Tejinder into confidence. This action poured more fuel into the fire. Employees felt that by increasing targets, management do not want to pay the incentives also as in their opinion, the targets were not realistic and impossible to achieve in the present business environment. Tejinder, when came to know, commented to CEO that increasing the targets was not well thought of about its timing. The pressure was mounting from all corners on the HR to roll back the compensation structure on the increased variable components.
The feedback also reached to CEO about the displeasure of employees in rank and file about the increased variable component in revised pay structure but on the advice of other department heads that the acceptance of the revised pay structure will come slowly and management should not roll back its decision, CEO ignored the feedback.
Within three months, resignations started flowing in across all levels. The Maximum was of middle and managerial levels. The attrition rate increased. Tejinder sent the attrition report with exit interviews feedback to CEO through the mail.
CEO called Tejinder to meet him the next day with proposals to control the damage and further possible corrective measures.
Tejinder was thinking as if the organization has come back to square one?
Questions for discussions and solutions
1) Critically examine the company approach in restructuring the compensation policy?
Highway Cargo Mover’s Pvt. Ltd. had a fairly structured compensation policy that had components of fixed & variable pay apart from incentive structures. Employees felt satisfied & secured by and large with the simple and transparent compensation structure. There also existed a quarterly incentive scheme at the individual & group level depending on the nature of work of the departments. All of this kept the employees motivated and well rewarded that in turn increased customer satisfaction levels. However during the Covid-19 pandemic times, Highway Cargo Movers decided to restructure the compensation package, the objective being to increase the variable pay component and reduce the fixed pay in a reasonable proportion. This didn’t go down well with the employees who all of a sudden started to feel insecure in their jobs. This was further aggravated by the fact that department heads increased targets at their level. Employees felt that by increasing the targets, management did not want to pay the incentives also they felt that the targets were not realistic and impossible to achieve in the present business environment. So it was a negative sentiment prevailing all around. All of this also added fuel to the fire.
Companies' approach in restructuring the compensation policy was a one-sided decision. It did not take employees’ feedback or their concerns into account while it underwent restructuring. It looks like Highway Cargo Movers tended to prioritize short-term financial results over the long-term well-being of their employees. Such decisions can also pose a reputational risk for the company. These actions undid all that Highway Cargo Movers had achieved in terms of employer brand value and work culture by not reducing the employees during the covid period. It lowered the employee's morale and diffused/diluted their motivation levels.
2) What should be the ideal compensation policy having fixed and variable components?
A good compensation system or policy always begins with an organization’s strategic goals. When compensation is misaligned with them, trouble ensues. Decisions about executive pay can have an indelible impact on a company. When compensation is managed carefully, it aligns people’s behavior with the company’s strategy and generates better performance. When it’s managed poorly, the effects can be devastating: the loss of key talent, demotivation, etc....as is seen in the case of Highway Cargo Movers wherein the last three months data reflected that attrition had reached 22% against an average of 3-4 %. Given the high stakes, it was critical for the company’s management team to get the compensation right. An ideal compensation system should be designed along four dimensions: fixed versus variable, short-term versus long-term, cash versus equity, and individual versus the group. The factors that drive choices should include the firm’s strategic objectives, ability to attract and retain talent, ownership structure, culture, corporate governance, and cash flow. When setting executive pay, the company must decide how much will be variable or fixed, awarded in the short term versus the long term, delivered in the form of equity versus cash, and tied to the group versus individual performance. None of this is seen being researched or studied or taken into account by Highway Cargo Movers while restructuring their compensation policy.
3) Where do you find Tejinder in this case? Why he could not influence business leaders to stay away from restructuring the compensation policy? What could have been done to create employees' acceptance?
Tejinder's view was taken more towards being on the softer side of the employees and of being in one's comfort zone. Tejinder was being viewed as one unable to be part of difficult organizational and business decisions. He was seen as being softer towards the employees, concerned for their well-being wherein the need of the hour was to take actions to ensure the survival of the company as its profits had gone down due to pandemic and still the company had decided not to lay off any employee during these hard times. It was utilizing its reserve funds to tide through these difficult times. Highway Cargo Movers as a Company needed to be sustainable and therefore it needed to restructure its policy.
To gain employees' acceptance, Tejinder could have communicated early and often through emails, meetings, video messages, and other channels, he could have announced the restructuring plan, clearly conveying why the change is being made and what can be expected. He could have charted a path for the employees in the revised structure so that they would get more clarity on it & perhaps gain their acceptance.
4) If you were in his place, what would have been your approach to handling the whole issue?
A company needs to give its employees meaningful work and then provide them with the resources they need to be successful. A thoughtful compensation plan makes the team feel valued, and that can be done with pay, noncash incentives, and many other contributors to workplace happiness. Good pay with a couple of perks will not stop the employees from leaving an otherwise miserable job. Compensation goes hand-in-hand with corporate culture. Well-designed incentives can respond to internal and external stakeholders’ priorities as well as reinforce that sustainability efforts can have both financial and non-financial results. Highway Cargo Movers should take efforts to build a great company culture and employees will be eager to join its team and stay.
Below mentioned would be some of the strategies (approaches) to handle the whole issue i.e. stem down the flow of attrition and also recruit new hires & retain them.
1) Pay for performance. When we’re hiring someone, cushion the offer with a lucrative bonus structure, commission pay, or other performance incentives. That way, they get paid for the value they add, up to.
2) Leverage equity compensation. Give each incoming employee an equity grant that vests over a certain period with a say one-year lock-in, so if a new hire leaves within the first year, the person is also leaving behind the shares. Highway Cargo Movers when granting these options must explain to the incoming employee what they might translate to in cash as the company grows, and also discuss how that employee can contribute toward increasing the stock price.
3) Leverage profit-sharing instead of equity sharing, whereby all eligible employees take home a set proportion of cash proceeds at the end of each quarter.
In both scenarios, the team does well when the company does well, thereby aligning incentives for performance.
4) Reducing the risk in case of turnover by introducing a signing bonus or quarterly retention bonuses, both of which are swiped if an employee leaves the company too soon. A signing bonus can also be given to poaching an executive from the current company before an annual bonus, the cash upfront is a form of reimbursement for what the person will be leaving behind. The initial outlay for Highway Cargo Movers can be worth the cost savings of retaining good talent.
5) Invest in training and professional development. Highway Cargo Movers can pitch to prospective hires on the opportunities they’ll have to grow and advance in their career at the company. Successful professionals have invested in their careers and want to continue to do so. The Company can introduce an L&D policy wherein the team is encouraged to take time during work to develop new skills or to speak at conferences. Employees can be asked to set goals and report on professional growth during quarterly reviews. This may cost Highway Cargo Movers a few hours of productivity per month, but they will earn back that time back as its employees will have by that time, leveraged new skills or networks to be more efficient at their jobs.
6) Create a formal mentorship program wherein junior employees are matched with senior ones. Connect employees to experts in their field for one-on-one coffees and institute weekly lunch and learns wherein interesting people from the industry are brought in to share their experiences with the full team or they teach something new. Highway Cargo Movers by showing that it has invested in helping people grow can be a big draw during the recruitment process.
7) Promote balance and flexibility. Adopt other noncash incentives such as generous vacation and leave policies, flex time, remote days, or sabbaticals for senior employees. Have an unlimited vacation policy with a requirement that the team members take at least three weeks off over the year. Allow employees to work from home, don’t mandate set work hours. Many of these perks can be especially attractive to those with family obligations, being able to work remotely with the family at home can dramatically simplify one’s life.
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