The other side of the HR table: Explaining Salaries (Part 2) to a 20-something year old professional

"Why do I have a lower %age of variable pay than my colleague?" "Should I negotiate my salary based on my Fixed Pay only?" "Why does my company have no Variable Pay and why will my friend earn a handsome Bonus every year in her company?" "Is my employer fairly sharing profits with me?"

As a fresh 22-year old graduate, I was struck by the above set of questions in my head when I read my first job offer letter.

An MBA in Human Resource Management and five years of experience in the function later, I look back at the understanding that my 22-year-old self had of Compensation, Benefits & Rewards, only to realize that other greenhorns in the industry need a better understanding of how their salaries are designed and how they can better negotiate numbers with their employers. In this article, I will reflect upon my learnings over the last half-decade about the other side of the Human Resources table and attempt to explain to young professionals the Science behind their Fixed & Variable Pay.

Let’s first acknowledge that an organization will design its compensation strategy based on how it wants its employees to behave as individuals, as a group, and in their roles. Compensation is a tool to influence people’s behavior at scale. Your actions and behavior at work will be directed by how you are paid by your employer.

Your Salary will usually have 3 components (the more interesting part is how these components are designed, in practice, by employers - which will be explained later in this article) -

1. The Fixed - This component will form the backbone of your financial security. Fixed Salary is the amount that your employer has agreed to pay you every month (for just showing up to work, in most cases!)
2. The Variable - This is the tool your employer uses to get the desired business results out of your work. Variable pay can be in-year or long-term - Depending on the strategic relevance of your job at the firm
3. The Retirals - Who knows what will happen tomorrow? Retirals are how your employer (and in most countries, the Government) ensures that you are building the required corpus to secure your future and to fund your emergencies

Now that you have understood the concepts of Compensation Philosophies (refer Part 1 of this article on Salaries, published on my LinkedIn profile) and are aware of the 3 usual Salary Components, let us look at the employee behaviour that your firm expects to cultivate, by analyzing a Harvard Business Review case from a lens of employee behaviour. You will understand the Science behind your Fixed and Variable %ages through this case study.

HubSpot , a software company, within its first 7 years of operations, crossed the $100million run-rate revenue mark, and was serving over 10,000 customers across 60 countries. It was their phase-by-phase Compensation strategy that unlocked their growth -

• In its first stage of Customer Acquisition, the company expected its Sales employees to acquire new customers and sustain them for at least 4 months. At this stage, HubSpot's Sales employees were expected to be highly entrepreneurial and to take bold and innovative risks to onboard new clients - Thereby requiring higher security in their Fixed Salaries and less uncertainty in their earnings from HubSpot. HubSpot's compensation plan at this stage paid employees a high Fixed salary (as a %age of their CTC) and a Variable salary equal to 2x the amount of the monthly recurring revenue that they brought for HubSpot with a claw-back where the entire Variable salary earned for onboarding a customer would be clawed back if the customer left within 4 months. Hence - Greater the expectation that your employer has of you to be risk-taking, the lower will your Variable Pay (as a %age of your CTC) usually be
• In the second stage of Customer Retention, HubSpot realized that their customers were dropping out at an unsustainable rate. Once they realized that customer retention was a sales problem as the churn rate of some sales employees was 10x of that of others, they expected their Sales employees to play safe and adopt best practices at scale. To make their Sales employees less entrepreneurial and to promote behaviour by-the-book, HubSpot disproportionately raised the stakes in their Variable Pay scheme. They classified their Sales employees into 4 quartiles based on their individual customer retention rates. Employees in the top quartile earned $4 for bringing in $1 of monthly recurring revenue (MRR), the 2nd quartile earned $3 for every $1 of MRR, the 3rd quartile earned $2, and the 4th quartile earned $1 for every $1 of MRR. The intent to cultivate safe selling behaviour at scale was supported through training programs which were aimed at standardizing the outcomes across the company. As a result, customer attrition reduced by 70% within 6 months
• In its third stage of delivering Sustainable Growth, HubSpot aimed to scale up while ensuring good health of their business and maintaining profit margins. They aimed to achieve their business goals by increasing the %age of advance-payers amongst their customers. The insight was that customers who had pre-paid for annual services were more committed to the services of HubSpot and collaborated more strongly for mutual success than those who were paying HubSpot for their software services every month. This is when HubSpot introduced Long-term Variable Pay for its Sales employees. HubSpot needed its Sales employees to be entrepreneurial and risk-taking again (given that their people knew the secrets to customer retention by now) to increase the adoption of advance payment terms through innovation-led practices. The stakes in Variable Pay were therefore immediately reduced and employees started earning $2 for every $1 of MRR, irrespective of their quartiles. However, as the objective was to ensure long-term engagement with customers through advance payments, 50% of the Variable Pay was paid to the employee after their customer paid for the 1st month of service, 25% after their customer paid for 6 months and 25% after their customer paid for all 12 months of service. Sales employees could earn 100% of their incentives immediately if their customers paid their full year's subscriptions in advance. Employees took greater and bolder risks, were enterprising and increased the adoption of advance payments amongst their customers. As a result, HubSpot's average pre-payment commitment increased from 2.5 months to 7 months

Hence, while designing your Compensation & Reward plan, your employer will first understand the stage of business growth that they are in and what they aim to achieve in the near-term and in the long-term. If they choose to increase risk taking behaviour in a section of their employees, your employer will provide those employees with greater financial security through a higher %age of Fixed Pay - However, this may not be the case for all employees. Based on the stage of your business, your employer may choose to reduce risk taking behaviour for a different set of employees, and their Variable Pay as a %age of their CTC will be higher. The modes of Variable Pay usually include Quarterly or Monthly target-linked cash incentives (usually for near-term impact), Annual Bonuses, Commissions, Profit sharing in the form of Shares or Cash, and Employee Stock Options (usually for long-term impact). Your organization designs the modes of your Variable Pay depending on the strategic relevance of your job and the impact that your contributions can have on the firm's long-term and near-term business performance.

So, before you plan your next conversation on your Compensation and negotiate your new Salary, analyze the behavioral expectations from your role and accordingly share your expectations on your Fixed Pay and your Variable Pay!