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Employees can be rewarded for their on-the-job performance through fixed pay and variable pay. Fixed pay can be defined as the payment received by the employee for doing standard tasks and duties on the job and flexible pay systems link the employee’s on-the-job performance on the specific jobs and the tasks assigned to him.

Why should variable pay systems be implemented?

These systems are usually implemented to influence employee behaviour. It is a form of extrinsic motivation. Employee compensation management could ensure that flexible payment plans are explicitly rewarded for overtime work, exceptional attendance, taking initiative and teamwork.

Performance-based pay systems link the employee’s on-the-job performance directly to his flexible pay systems and enable him to take home a much larger pay packet.

Why do companies want to reward high performers?

All companies want to retain high performers and prevent employee attrition, especially in the talented employee segment. One way of retention is to offer such employees high growth opportunities. This enables the company to undertake succession planning and identify leaders for tomorrow. Flexible pay systems are linked to the skill-sets, initiative and target fulfillment that the employee brings to the job.  

Presently, many companies are losing competitiveness, and many inflationary pressures affect production. Flexible pay systems reward those performers who go the extra mile and help to achieve cost control through increased productivity. Moreover, they ratchet up the whole compensation structure with a direct link to tangible results in the form of increased productivity and reduced cost structures.

This compensation strategy helps in achieving organisational goals and missions. It is mutually profitable as both the company and the worker benefit from tangible, extrinsic rewards. During a slowdown in business, there is no financial pressure on the company in the form of increased wage payment when a flexible payment system is operational.

Caveats to remember before implementing a performance-linked pay system

  • The most crucial thing about implementing these pay systems is clear communication between companies and their workers about these systems. The linkages to total productivity, quality standards and goals that have to be achieved should be clarified.
  • Reductions in the performance-linked pay can also act as a demotivator when employees receive a considerably reduced pay package.
  • There has to be continuous evaluation of the employees’ performance against the stated goals and objectives for estimating the variable pay.
  • These opportunities should be structured in a manner to motivate employee performance and increase productivity.

    Employees’ on-the-job behaviour is influenced by two factors:

Source: Maslow’ hierarchy of needs (Robbins and Judge, 2009)

Intrinsic motivation of the employees includes making the employee feel that he is an integral part of the group by verbal praise. Extrinsic motivation includes a tangible rewards system directly linked to his on-the-job performance. Both forms of motivation are essential in a workplace, but tangible rewards directly motivate the employee to put in extra effort.

Frederick Herzberg, in his two-factor theory, reveals that motivating factors such as a challenging job, recognition with the teams, accountability in the company’s performance, making an impact on a day-to-day basis and growing as a professional by learning and developing new skills, enhance the growth and development of an employee. Other factors like salary, supervision, work conditions, security and company policies can cause marginal demotivation, but do not remarkably increase the team performance. Establishing objectives and key result areas will help coalesce these two factors into an integrated whole.

  • The company must set ambitious targets or objectives and key result areas to ensure that the talented employees do not get demotivated and seek opportunities elsewhere.
  • Objectives and key result areas must be transparent so that the high-performing team gets the recognition that it deserves.
  • These objectives commence at the company’s mission statement and end at each employee’s task. This increases the feeling of accountability in the company.
  • Key result areas are used in continuous performance measurement of the work outcomes.
  • This method encourages employees through trial and experimentation to ensure that the objectives are efficiently achieved with every subsequent attempt. This encourages the professional growth of the employee.

How are performance-linked pay packages designed?

Performance-linked, flexible pay systems come in various formats such as profit sharing, bonuses, commissions, deferred compensation, cash, goods and services, including an all-expenses-paid company trip for the employee and his family. 

  • Employees expect a comprehensive benefits package tailored to their individual circumstances. Just offering generic benefits to all the employees does not exactly make the grade.
  • Different benefits are valuable to different employees; hence, the company personalises the benefits packages to make employees feel more valuable.
  • Companies also have to give themselves a competitive advantage against their peers while instituting performance measurement systems and performance-linked bonuses for their employees. 

Key takeaways 

Variable pay structures help to motivate employees by enhancing their on-the-job productivity, helping with their engagement and retention, making them pay directly linked with their performance, and providing financial flexibility during times of a business slump. In contrast, poorly structured flexible pay systems can also demotivate employees and lead to employee attrition.

The most important thing is to strike a proper balance between fixed pay and flexible pay to achieve both employee satisfaction and corporate objectives.

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