Compensation Focus

Getting the Most from Your Merit Budget — 8 Years Later…

By Kerry Chou, CCP, CBP, GRP, CSCP, WorldatWork  |  October 2014

Several years ago and a few years prior to the recession, I wrote an article on maximizing a company's merit budget. The 2006 article began, "It goes without saying that providing meaningful increases to high performers in an era of 3% to 4% merit budgets is a significant challenge for many, if not most, organizations." That was then. The last time U.S. organizations averaged 4% increase budgets was 2007, and since the recession, it has taken until this year to resurrect average budgets back to even the 3% range. At the rate budgets have been slowly climbing since they bottomed out at 2.2% in 2009, a 4% budget is a long way off for most. There is speculation by some that those levels of increase budgets are gone forever. While economic and labor-market forces will ultimately dictate where increase budgets go from here and how fast they will get there, it's highly possible that we will continue to work with low (by historical levels) increase budgets for the foreseeable future.

Given this reality, I continue unmoved from the position I took in 2006; that organizations need to be diligent in their performance-management processes and allocation of increase pools. This diligence is even more important with smaller budgets, as each dollar, euro or yen must be carefully awarded to its greatest advantage. Let's review some key tenets and associated outcomes.

  1. Differentiate increases for your top performers/key contributors. By increasing the difference in increase percentages between your low and high performers, you send a clear message to all employees that higher contribution results in higher rewards. When there isn't adequate differentiation, you send the exact opposite message. This has implications both to your current workforce as well as your potential workforce. Research indicates that high performers are attentive to whether the organization rewards its top performers. Low performers, not surprisingly, prefer pay systems in which there is less/no emphasis on performance. Other research indicates that people with a high need for achievement and higher feeling of self-efficacy are attracted to organizations with a pay-for-performance philosophy. Further research of key talent finds that the No. 1 reason they leave an organization, according to rewards professionals surveyed, is an opportunity to earn more pay elsewhere.
  2. Encourage the organization to engage in a process of performance calibration. This process helps to standardize assessment criteria across managers, regions and divisions. It also provides an effective check and balance against managers who may be either too lenient or strict in their awards of ratings and increases. As I explained in the 2006 article, a real-life application of installing a calibration process allowed an organization to provide significantly higher year-over-year increases to high performers, while not significantly reducing increases for solid performers. These positive results were gained despite a lower overall budget in year two than in year one.
  3. Make program communication a priority rather than an afterthought. It's natural that in the evolution of program design, you're more likely to develop the program first, then figure out how you're going to communicate it. The problem that too often occurs, however, is that by the time the plan has been developed, there is little energy and or interest in giving the communications piece it's just due. And it has been said many times that even the best program poorly communicated is a poor program. This is an area that's simply begging for improvement. A WorldatWork survey of rewards professionals found that 44% indicate that most or no employees understand its compensation philosophy. We work hard to design and administer programs that attract, retain and motivate our respective workforces. But those programs cannot succeed if they're kept hidden on the shelf. In addition to improved general communication, targeted messaging to key employees will improve retention and engagement of this important group. Identifying key employees and then discussing with them their future opportunities with the organization is viewed as an effective strategy to retaining them.

We have experienced an economic roller coaster during the past several years that few saw coming. Despite the upheaval, pay-for-performance continues to be a quest most consider a worthy pursuit. The stepping stones toward success have not changed. It's getting your organization to take those steps together, one by one.

About the Author

Kerry Chou, CCP, CBO, GRP, CSCP, is WorldatWork's senior practice leader for compensation, performance management and market pricing.

Read the October edition of Compensation Focus.

Contents © 2014 WorldatWork. No part of this article may be reproduced, excerpted or redistributed in any form without express written permission from WorldatWork.

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