Balancing Internal Equity With External Competitiveness: A Challenge In Today’s Volatile Environment

A phrase commonly used to describe a sound pay program has traditionally been “internally equitable and externally competitive.”?Reconciliation of the two is required if the program is to be viewed as equitable, competitive and appropriate.

Determining relative internal value

Organizations with stable workforces are understandably concerned that jobs are placed in grades in a manner that produces internal equity. People who stay in an organization for extended periods tend to make comparisons with their peers. Job evaluation techniques can be used to establish internal equity, which helps to identify potential illegal discrimination. U.S. employment law includes criteria for valuing jobs relative to each other. Jobs that are equal with respect to Skill (physical and mental), Effort (physical and mental) Responsibility and Working Conditions (adverse; hazards) should be assigned equal values according to the provisions of the Equal Pay Act.?The law only requires this for virtually identical jobs, but it is in the interest of employers to gain acceptance by employees that the value of all their jobs are appropriately determined. The court of employee opinion matters as much as the court of law.

Organizations are currently facing decisions about future staffing levels and reward strategies. Those who laid off or furloughed people must make projections about the future of their business and use workforce planning to decide the size and the mix of the workforce that will be a good fit to what the business will be.?Decisions must be made about whether employing people to fill non-critical roles is still the best option. Alternatives include using technology, outsourcing or having non-critical work performed by contractors or freelancers. One of the problems with an all-employee workforce is that it creates a large fixed cost that is not ideal in a variable revenue environment.

Different occupations are of different value across organizations.?For example, a public accounting firm with a separate IT consulting division might rate accounting jobs higher than IT jobs in the accounting portion of the business and the reverse in the consulting division. Jobs that are central to the primary mission of an organization and critical to its performance will be the most highly valued jobs. An RN will be valued higher in a critical care hospital than in an insurance company.?Although an RN performs a valuable service in the insurance organization when reviewing medical claims an RN in the critical care hospital performs the work that is at the core of its mission.?This variability in relative job value across organizations is the reason that there is no standardized hierarchy for occupations. Although attempts have been to legislate that jobs of “comparable worth” must be paid similarly this has generally been found to be impractical, since there are no accepted criteria for making determinations of "comparable" worth. Despite these challenges some states have still attempted to legislate value across dissimilar jobs.

Once the relative internal value of jobs has been determined the classification of jobs must be reconciled with external competitiveness if organizations are to maintain pay structures that facilitate retention.?Even when internal equity exists, if the ranges of pay opportunity are not competitive it will be difficult attract and retain qualified people.

Determining External Competitiveness

It is generally accepted that paying more than any other employer will make it easier for an organization to attract and retain high quality employees.?But few organizations can afford to pay all employees at premium levels all the time.?Most can only afford to do so for selected occupations.?As with any investment, there needs to be a return on paying a premium.?When it is necessary to pay incumbents with specific skills and knowledge a premium in order to attract and retain them that would be a rationale for doing so.??

So, who gets paid most generously??Obviously, those the organization must attract, retain and satisfy in order to be successful. Differentiating between different occupations and different roles must be done by determining who is critical and pivotal at a point in time.?Critical roles are those that have a direct impact on the organization’s ability to do what it must do well.?Software firms must have highly qualified software designers if they are going to be able to produce competitive products (their primary mission).?Hospitals must have highly qualified medical specialists if they are going to be able to provide high quality health care (their primary mission).?On the other hand, both the software firm and the hospital may not need world class incumbents in administrative functions.?Adequate performance may be all that is required.?So, both the software firm and the hospital may elect to pay incumbents of their critical roles at premium levels.?Differentiating between roles when establishing the organization’s competitive posture is a way to ensure each dollar provides an adequate return.

Differentiating between incumbents assigned the same roles can also be a way to gain optimal efficiency in compensation expenditures.?Paying more competent incumbents higher in their pay range than those who have not achieved the same level of competence is a fundamental principle of sound compensation management.?Paying incumbents who contribute more also makes sense, although some organizations persist in tying pay rates to longevity, irrespective of performance (a practice diminishing in prevalence, due to economic pressures).Hiring highly qualified entrants to play critical roles may require more generous start rates, especially if there is a limited supply of candidates relative to the demand for them.

As the country emerges from the pandemic crisis there could be people available at low cost. Emerging from unemployment often makes people willing to accept pay rates below what they had been able to command in a good economy. But the temptation to take advantage of this short-term condition may not be a wise strategy. I have always advised clients who do attempt to capitalize on this type of situation not to stand in front of the exits when the economy improves, lest they be run over by the exiting talent.?

The other possibility is that organizations might have to pay people more than they did before the pandemic, at least in some jobs. As long as there are concerns about the dangers associated with extensive customer contact higher pay might be required to convince people to re-enter the same roles they had. It has been estimated that five million moved up their retirement due to the pandemics, so that inflated demand. The current shortage of people willing to do some jobs is putting pressure on pay rates, as is inflation..

Variable pay programs can be used to provide additional income for the best performers. Awards can be made contingent on organizational and/or individual performance. Those who perform at the highest levels can be granted incentive awards.?Awards can be tied to organizational performance as well. This is also a more flexible strategy than delivering rewards solely in the form of base pay increases, since the increase in fixed cost payroll is lessened.?It also varies rewards based on current performance. One-time bonuses for accepting employment have been used during the pandemic, although these were most often an attempt to organizations experiencing peak demand (e.g., Amazon). They are now being used to convince scarce talent to join the organization. One concern is whether their ability to attract will also have a positive effect on retention.

In turbulent environments which roles are critical and what constitutes performance often change.?Rapid infusion of technology has created new knowledge and skill requirements that current employees may not have.?Organizations often change their business strategy, which results in changes to its core capabilities and what it must do well in order to compete. Since the competency models for roles often change dramatically a gap between the talent needed and the talent on board is created.?But existing base pay relationships are established and are difficult to adjust to encourage employee development, especially if the demand for skills will vary over time.?One way to encourage people to re-skill is to offer incentives for doing so.

Administering pay effectively and appropriately has become more difficult over the last few decades.?The Y2K event forced companies that did not do adequate workforce planning to bring in new hires at rates that were higher than those of existing employees. After the crisis they were left with internal inequities that were not possible to fix.?Then the economic recession made fixed cost payrolls unaffordable when revenues plummeted, forcing organizations to remove talent they would probably need when things got better.?Low unemployment rates, combined with shortages of people with the skills newly required by technology advances, can dramatically increase prevailing market rates for some occupations.?

So should organizations give up on internal equity??Should they focus on offering pay rates that attract and retain the specific talent they need??Although tempting, this strategy fails to address the continuing problem caused by paying high salaries to incumbents of occupations temporarily in high demand… the increased fixed costs become unsustainable in the future. And skill sets that were in short supply in the past may become more available, thereby making it unnecessary to pay incumbents premium rates.

Enter the gig economy (actually it was here for a long time, but not as obvious as it is today). Since demand for talent in some occupations are caused by major projects, similar to the Y2K challenge, organizations began to realize that talent could be rented instead of being purchased.?By staffing peak workloads with a mixture of employees and contractors it becomes possible?to pay what they need to pay for discrete blocks of work without creating unsustainable high fixed cost payrolls and a headcount that needs to be reduced when the projects were completed.

However, using outsiders has its own challenges.?Employees will compare their compensation with what outsiders receive.?Fairly or not, they multiply the hourly rate paid to contractors by 2,080 and compare that to their salary.?There is also a tendency for employees to believe contractors get to perform the work requiring the skills currently in demand, thereby limiting their opportunity to stay marketable.?So equity concerns expand to both internal and external pay relationships.

Strategies For The Future

When all of these issues are considered it looks like there is a perfect storm raging. Can internal equity still be a concern for those attempting to administer pay? Can organizations continue to commit to wages/salaries that are fixed costs that always increase over time??Things were simpler when organizations used to pick up the talent needed for that day and then start with a clean slate the next day.?In theory, using contractors can offer an option that comes close, although daily hiring and termination is probably not feasible.?To add to the complexity of finding a balance between employees and contractors, legislation is being drafted that will convert many contractors into employees.?

Rewards strategists must come to grips with the realities manifesting today.?Perhaps maintaining internal equity between jobs was a concept that was feasible only for a simpler time. Yet a concern about inequity between people is certainly not obsolete.?People will compare their rewards to those received by others and perceptions of inequity will result in dissatisfaction. In organizations with reasonably stable workforces made up of long service employees, internal equity will be an issue more than it will be in organizations experiencing dramatic changes in what they need to do and in what skills they need to get it done.

The Chinese blessing (curse?) “may you live in interesting times” seems to have come to fruition.

About the Author:

Robert Greene, PhD, is CEO at Reward $ystems, Inc., a Consulting Principal at Pontifex and a faculty member for DePaul University in their MSHR and MBA programs. Greene speaks and teaches globally on human resource management. His consulting practice is focused on helping organizations succeed through people. Greene has written 4 books and hundreds publications and articles about human resource management throughout his career.

• Strategic Talent Management: Creating The Right Workforce
• The Most Important Asset: Valuing Human Capitol
• Rewarding Performance Globally [with Fons Trompenaars]?
• Rewarding Performance: Guiding Principles; Custom Strategies (2d Edition)

Order his latest book entitled "Strategic Talent Management: Creating The Right Workforce" with a promotional offer code from the publisher, Routledge available here.??