Finance for HR Professionals and Compensation Management

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2 Finance for HR Professionals and Compensation Management (As per the Revised Syllabus of Mumbai University for T.Y.BMS, Semester V) Deepali Vijay Kamle MBA (Marketing), B.Com. (Management) BMS Coordinator, Tolani College of Commerce, Andheri (East). Tushar Agarwal SET, Ph.D. Scholar, MBA (Marketing), MBA (Corporate Governance), M.Com. (Management), BMS Coordinator, Chandrabhan Sharma College of Arts, Science & Commerce, Powai ISO 9001:2008 CERTIFIED

3 Authors No part of this publication may be reproduced, stored in a retrieval system, or transmitted in any form or by any means, electronic, mechanical, photocopying, recording and/or otherwise without the prior written permission of the publisher. First Edition : 2016 Published by : Mrs. Meena Pandey for Himalaya Publishing House Pvt. Ltd., Ramdoot, Dr. Bhalerao Marg, Girgaon, Mumbai Phone: / , Fax: himpub@vsnl.com; Website: Branch Offices : New Delhi : Pooja Apartments, 4-B, Murari Lal Street, Ansari Road, Darya Ganj, New Delhi Phone: / ; Fax: Nagpur : Kundanlal Chandak Industrial Estate, Ghat Road, Nagpur Phone: / ; Telefax: Bengaluru : Plot No , 2nd Main Road Seshadripuram, Behind Nataraja Theatre, Bengaluru Phone: ; Mobile: / Hyderabad : No , Lingampally, Besides Raghavendra Swamy Matham, Kachiguda, Hyderabad Phone: / Chennai : New-20, Old-59, Thirumalai Pillai Road, T. Nagar, Chennai Mobile: Pune : First Floor, "Laksha" Apartment, No. 527, Mehunpura, Shaniwarpeth (Near Prabhat Theatre), Pune Phone: / ; Mobile: Lucknow : House No 731, Shekhupura Colony, Near B.D. Convent School, Aliganj, Lucknow Phone: ; Mobile: Ahmedabad : 114, SHAIL, 1st Floor, Opp. Madhu Sudan House, C.G. Road, Navrang Pura, Ahmedabad Phone: ; Mobile: Ernakulam : 39/176 (New No, 60/251), 1st Floor, Karikkamuri Road, Ernakulam, Kochi Phone: / ; Mobile Bhubaneswar : 5 Station Square, Bhubaneswar (Odisha). Phone: ; Mobile: Kolkata : 108/4, Beliaghata Main Road, Near ID Hospital, Opp. SBI Bank, Kolkata , Phone: ; Mobile: DTP by : Rakhi Printed at : Rose Fine Art, Mumbai. On behalf of HPH.

4 Preface We would like to thank our family, friends and students without their support and encouragement; we would not have been able to achieve this feat. Special thanks to S.K. Srivastava of M/s Himalaya Publishing House Pvt. Ltd. It is a matter of great pleasure to hand over First edition of this book on Finance for HR Professionals and Compensation Management to the students of T.Y. BMS course started by University of Mumbai. The objective of the book is to orient students with financial concepts used making HR decisions and also to understand various compensation plans. Today, we need to be aware on issues related to compensation management and understand the legal framework of compensation management. We have tried to make and present the book in simple and lucid language. Authors

5 Syllabus Finance for HR Professionals and Compensation Management Course Code: UBMSFSV.12 Learning Objectives: 1. To orient HR professionals with financial concepts to enable them to make prudent HR decisions 2. To understand the various compensation plans 3. To study the issues related to compensation management and understand the legal framework of compensation management Unit No. Unit 1 Modules/Units Compensation Plans and HR Professionals Meaning, Objectives of Compensation Plans, Role of HR Professionals in Compensation Plans, Types of Compensation: Financial and Non-financial, Factors Influencing Compensation. Compensation Tools: Job-based and Skill-based, Models: Distributive Justice Model and Labour Market Model, Dimensions of Compensation. 3Ps Compensation: Concept, Benefits of Compensation: Personal, Health and Safety, Welfare, Social Security. Pay Structure: Meaning, Features, Factors, Designing the Compensation System, Compensation Scenario in India. Unit 2 Incentives and Wages Incentive Plans: Meaning and Types: Piecework, Team, Incentives for Managers and Executives, Salespeople, Merit Pay, Scanlon Pay, Profit Sharing Plan, ESOP, Gain Sharing, Earning at Risk Plan, Technology and Incentives. Prerequisites of an Effective Incentive System. Wage Differentials: Concepts, Factors Contributing to Wage Differentials, Types of Wage Differentials, Importance of Wage Differentials, Elements of a Good Wage Plan. Theories of Wages: Subsistence Theory, Wage Fund Theory, Marginal Productivity Theory, Residual Claimant Theory and Bargaining Theory.

6 Unit 3 Unit 4 Compensation to Special Groups and Recent Trends Compensation for Special Groups: Team-based Pay, Remunerating Professionals, Contract Employees, Corporate Directors, CEOs, Expatriates and Executives. Human Resource Accounting Meaning, Features, Objectives and Methods. Recent Trends: Golden Parachutes, e-compensation, Salary Progression Curve, Competency- and Skill-based, Broad Banding and New Pay, Cafeteria Approach Features, Advantages and Disadvantages. Legal and Ethical Issues in Compensation Legal Framework of Compensation in India: Wage Policy in India, Payment of Bonus Act 1965, Equal Remuneration Act 1976, Payment of Wages Act 1936, Payment of Gratuity Act 1972, Employee Compensation Act 1923, Employees Provident Funds and Miscellaneous Provision Act Pay Commissions: Wage Boards, Adjudication, Legal Considerations, COBRA Requirement, Pay Restructuring in Mergers and Acquisitions, Current Issues and Challenges in Compensation Management, Ethics in Compensation Management.

7 Question Paper Pattern Duration: 2.5 Hours 75 Marks N.B.: 5 questions of 15 marks each. All questions are compulsory. Q.1. Attempt any 2 (a) (b) (c) Q.2. Attempt any 2 (a) (b) (c) Q.3. Attempt any 2 (a) (b) (c) Q.4. Attempt any 2 (a) (b) (c) Q.5. Case Study 15 Marks

8 Chapter No. Contents Name Page No. Unit I: Compensation Plans and HR Professionals 1 Compensation Plans Compensation Tools Ps of Compensation Pay Structure Unit II: Incentives and Wages 5 Incentive Plans Wage Differentials Theories of Wages Unit III: Compensation to Special Groups and Recent Trends 8 Compensation for Special Groups Human Resource Accounting (HRA) Recent Trends Unit IV: Legal and Ethical Issues in Compensation 11 Legal Framework of Compensation in India Pay Commissions Case Studies References 104

9 Unit I Compensation Plans and HR Professionals CHAPTER 1 Compensation Plans Meaning Today, to remain competitive, companies need to develop the reward packages that satisfy the employees. These reward packages are the combination of monetary as well as non-monetary rewards. The main objective of working on the reward packages is to attract, motivate and retain employees. The success of a pay system depends on the linking of organisational objectives and strategies to compensation so that individuals could be encouraged to work in a manner which will gain maximum benefits for the company and stakeholders. The effective reward approach to pay depends on the interest, cost, needs and expectations of the employees and employers. Total Rewards Compensation Benefits Performance and Talent Management Base Pay: Wages, Salaries Variable Pay: Bonuses, Incentives, Stock Options 1. Health/Medical Insurance 2. Life/Disability Insurance 3. Retirement Pension Plans 4. Educational Assistance 5. Work-life Support 1. Performance Appraisals 2. Goal Setting 3. Training 4. Human Resource Development 5. Career and Succession Planing

10 2 Finance for HR Professionals and Compensation Management One of the most difficult functions of personnel management is that of determining the monetary compensation. The term compensation mainly refers to a systematic approach to providing monetary value to employees in exchange for work performed. Compensation may achieve several purposes assisting in recruitment, job performance and job satisfaction. Compensation could be more clearly expressed as the package in the form of a financial reward offered to an employee in the form of wages, salaries, bonus, commission and other indirect monetary benefits offered to an employee for the services performed by them. Compensation encompasses all rewards or payments tangible or intangible, monetary or non-monetary and physical and psychological that an organisation provides to its employees on exchange for the work done. Objectives of Compensation Plans The compensation programme is formulated by every organisation. Even a company with handful of employees will also formulate the compensation plan. While designing the compensation programme, it is very important to consider various factors which could affect its implementation. Any compensation programme must satisfy three basic objectives. They are: To attract the sufficient number of qualified candidates so that the best could be selected. To retain the efficient employees so that the turnover and resource productivity could be enhanced. To motivate the employees to perform to the fullest of their capabilities. Patton suggested that, in compensation policy, there are seven criteria for effectiveness. Compensation should be: 1. Adequate: The compensation should meet the minimal level as set by government, union and managerial positions. 2. Equitable: The organisation needs to ensure that every person should be paid fairly, in line with his or her effort, abilities and training. 3. Balanced: The pay, benefits and rewards should provide a reasonable total reward package.

11 Compensation Plans 3 4. Cost-effective: It is necessary for the organisation to ensure that the reward should not be too excessive, considering to what an organisation can afford to pay. 5. Secure: Pay should be enough to help an employee feel secured and should help him in satisfying his basic needs. 6. Incentive providing: A compensation plan should consider the different incentives which will motivate employee to perform best at work. 7. Acceptable to employees: It is important that the compensation plan should be acceptable to the employees. At least, it should be enough to satisfy their basic requirements. Role of HR in Compensation Plans The term human resources implies that people have the capabilities that drives organisational performance along with other resources like machinery, money, materials and information. Human resource management is designing management systems to ensure that human talent is used effectively and efficiently to accomplish the organisation goals. HR professionals perform variety of roles. They perform functions at strategic level, EEO (Equal Employment Opportunity), staffing, ensures employee and labour relations with management, risk management and worker participation, rewards and compensation, talent management, etc. The focus of study at this stage is on the role of HR professionals in compensation management. Following are the roles performed by a HR professional: 1. Develop a programme outline: As a part of compensation plan, a HR professional will design a programme outline which very clearly will indicate the objective of the compensation programme. They should clearly prescribe the process of how a particular compensation strategy will be implemented or executed by the organisation. The objectives will also consider the budget allotted for a particular financial year on compensation and rewards. 2. Develop a compensation philosophy: Compensation philosophies can be developed considering two philosophy: (i) entitlement philosophy and (ii) performance philosophy. The entitlement philosophy assumes that individuals who have

12 4 Finance for HR Professionals and Compensation Management worked another year are entitled to pay increases, with little regard for performance differences. While performance philosophy assume that compensation changes, if performance changes. Organisations working under this philosophy do not guarantee additional or increased compensation simply for completing another year of service. 3. Conduct a job analysis of all positions: One of the most important functions performed by the HR professional is to do the job analysis of all the positions in a hierarchy. HR executives gathers information from the senior departmental heads of marketing, finance, sales, administration, production and other appropriate departments to determine the organisational structure and primary functions of each. Interviewing the department managers and the employees who actually executes it will be helpful in determining the specific job functions. Develop a model of job descriptions which will help in better evaluation of job. 4. Job evaluation: Job evaluation aims to determine a job s relative worth. The job evaluation is a formal and systematic comparison of jobs to determine the worth of one job relative to another. Rank the jobs within each senior vice president s and manager s department, and then rank jobs between and among departments. HR professional verifies the ranking by comparing the industry market data and prepares the flowchart of all ranks for each department for easy assessment and interpretation of job. 5. Determine job grades: After job evaluation, jobs are further classified into job grades by establishing various levels like senior, junior, intermediate and beginners. HR executives at this stage also determine the number of pay grades, or monetary range of a position at a particular level, within each department. 6. Determine an appropriate salary structure: Job grading helps in classification of jobs which could further be helpful designing a salary structure. Various components of a salary structure is analysed with the market rates and company s philosophy. If it gets satisfied, then the compensation

13 Compensation Plans 5 committee reviews it, makes adjustments if required and goes for further approval from top level management. 7. To obtain top executives approval of the basic salary programme: After getting approval from HR committee, HR department develops and presents the cost impact studies that project the expense of bringing the present staff upto the proposed levels or adding any compensation benefits into the present salary structure. 8. Communicate the final programme to employees and managers: Once the salary structure is approved and finalized by compensation committee, HR Executives develop a plan for communicating the new programme to employees using slide shows or movies, literature, handouts, etc.; make presentations to managers and employees; implement the programme; design and develop detailed systems, procedures and forms; work with HR information systems staff to establish effective implementation procedures, to develop appropriate data input forms, and to create effective monitoring reports for senior managers; and execute the compensation programme. 9. Monitor the programme: Organisation s objective of effective compensation plan is to motivate employees to give their best at work. HR monitors feedback from managers, make changes where necessary, find flaws or problems in the programme and adjust or modify where necessary. Types of Compensation Compensation to an employee could be direct or indirect. In direct compensation, the employee gets rewards which are tangible. Employer provides monetary rewards for the work done. While in case of indirect compensation, the employer will praise the employee for the work done. Any psychological or social forms of rewards are called as intrinsic rewards or indirect compensation. Extrinsic reward mainly comprised of both monetary and non-monetary rewards.

14 6 Finance for HR Professionals and Compensation Management Compensation Direct Compensation (Financial) Indirect Compensation (Non-financial) Base Pay and Variable Pay Benefits 1. Base Pay: The base pay is the basic compensation which an employee receives in the form of a wage or a salary. It varies from organisation to organisation to decide whether to pay basic pay on hourly basis or salaried. Depending on the nature of work, the category is decided. Hourly pay is based on time. Hourly paid pay is the wages which are calculated on the basis of time worked. While salaries are paid to the employees irrespective of the number of hours worked, base pays are also matched closely to the competition. It also considers organisation s ability to pay and the quality of talent to be hired. Base pay acts as a base to the variable pay. 2. Variable Pay: Another form of direct compensation is variable pay. The variable is paid to an individual or a team for the outstanding organisational performance. The variable pay could be paid by the organisation in the form of bonuses or ESOPs (employee stock options). A variable pay will always be linked to employee or team performances. Therefore, it is flexible and links to the future of the firm and the employee in a positive manner. 3. Benefits: The indirect form of compensation is benefits. Benefits mainly comprised of heath benefits and fringe benefits (vacation pay, health insurance, etc). The benefits are regardless of the performances. It is the tangible value received without receiving cash. Factors Influencing Compensation Though a considerable amount of care is taken while designing a compensation plan, but still there are various factors which influence the

15 Compensation Plans 7 compensation and pay policies. These factors could be classified into external factors and internal factors. External factors are those factors which are outside the organisation and have uncontrollable factors. While internal factors are the factors which are inside the organisation and are controllable, they can be changed as and when the external factors changes. External Factors Influencing Compensation 1. Demand and supply: A wage or a salary is the price paid for the services performed by the people. The firm deserves these services and therefore, it is desirable that they must pay the price which will help to attract, retain and satisfy an individual working for the organisation. The compensation is regulated by the forces such as demand and supply. Pay may be higher if few skilled employees are available. Not only this, but the demand for highly skilled and qualified employee will attract high salaries. While in reverse situation, it could be lower. 2. Economic conditions and compensation: The industry economic condition also affects the compensation. More the competitive industry, the less able the organisation is to pay higher wages. The productivity could also help in higher wages. Productivity can be increased through various means like using advanced technology, training, efficient operating methods, etc. 3. Government influences and compensation: The government affects the compensation plans directly. Any changes in wage guidelines could affect the compensation plan. At different levels, government have very specific things to say about wages and salaries. Equal pay wages, hourly wage regulations, minimum wage, overtime pay, child labour, etc. are amended time and again to do justice to the services given by the employee. And at the same time, employer s objective is also considered when policies related to wages and salaries are designed. 4. Union influences and compensation: Unions have influenced compensation plans of the organisation many a times in the past. Unions have an effect whether or not the organisation s employees are unionised. The union demands for a higher

16 8 Finance for HR Professionals and Compensation Management wages when they are aware of the ability of the organisation to pay. Internal Factors Influencing Compensation 1. Labour budget: It mainly identifies the amount of money available for annual employee compensation. A firm s budget generally reflects the entire amount allocated to a particular division or a unit. It is dependent on the external influence. Any change could lead to change in labour budget. 2. Motivation and compensation: A well designed compensation plan will motivate employees to contribute to the best of their abilities. Motivation is the inner state that energises human goal oriented behaviour. Since different things motivate different individuals, this makes designing of compensation plan complicated and difficult. It is, therefore, important to analyse the employee satisfaction and productivity while deciding on the compensation plan. Questions 1. What do you understand by Compensation Plan? Discuss the different types of compensation plans. 2. Mention various factors influencing the compensation planning of any organisation. 3. What is the role of HR professional in compensation planning? 4. Write notes on: (a) (b) (c) (d) Financial Compensation Non-financial Compensation Base Pay Variable Pay