What is the best way to measure the effectiveness of the compensation program?

Compensation is usually a major, if not the largest, operating expense item in an organization’s income statement. While on the other hand, employees consider compensation and benefits to be a more important component of the employment offer. So, how do companies ensure they walk the tight rope of attracting and retaining talent and managing Comp & Ben expenses. Below are a few metrics to analyse and arrive at a Compensation strategy.

Average Salary per FTE:

Average annual salary, excluding bonuses and other nonwage compensation, per full-time equivalent employee.

Formula: Total Annual Salary / FTE

Organizations frequently analyze Average Annual Salary per FTE by job family or job type to monitor trends in key skill areas, areas of severe talent competition, and highly paid job areas.

Organizations may analyze by characteristics such as organization tenure, performance rating, age, gender, and ethnic background to understand salary variations among employee groups and monitor compliance with diversity initiatives.

Average Cost Rate of Contractors:

Average contracting cost per contractor during the reporting period.

Formula: Total Contractor Expense / Average Contractor Count

This metric can help organizations assess their contractor expenses and compare these costs to the compensation costs of regular employees.

Organizations may analyze Average Cost Rate of Contractors by division, business unit, geography, job function, or job family to understand where contract labor is being most heavily used and at what cost. Organizations aiming to using contractual relationships to maintain ties with retirees may also wish to analyze these data by age or retirement status.

Average Hourly Rate:

Average total compensation expense, including direct, benefits, and equity compensation, per working hour.

Formula Total Compensation Expense / Work Hours

Analyze Average Hourly Rate by plant, division, and job family, to compare hourly revenues, expenses, or output of these subgroups to their hourly compensation costs. It may also be useful to analyze this data by tenure, pay band, or revenue-generating position to understand the costs of various workforce segments.

Bonus Actual to Potential Rate:

Average actual bonus compensation received as a percentage of total potential bonus compensation.

Formula: Direct Compensation Expense.Bonus / Bonus Potential * 100

Employers may analyze Bonus Actual to Potential Rate by various job and personal characteristics to understand how bonus experience varies among employee subgroups. Common dimensions for such analysis include employment level, job function, job family, organization tenure, pay grade, and performance rating. Additionally, analysis by organizational unit or geography may be useful when bonus criteria are based on divisional performance.

Bonus Compensation Rate:

Bonus compensation as a percentage of all direct (cash) compensation.

Formula: Direct Compensation Expense.Bonus / Direct Compensation Expense * 100

The higher the Bonus Compensation Rate, the greater the proportion of compensation that employees derive from bonus pay. Employees generally value receiving some bonus as part of their direct compensation, though bonuses in excess of 20% of base pay tend to bring only marginal additional value to employee’s perceptions of the organization’s employment offer.

Employers may analyze Bonus Compensation Rate by various job and personal characteristics to understand how compensation makeup varies among employee subgroups.

Bonus eligibility Rate:

Percentage of employees eligible to receive a bonus.

Formula: End of Period Headcount.Bonus Eligible / End of Period Headcount * 100

This measure is closely related to Performance-Based Pay Prevalence. While Performance-Based Pay Prevalence relates only to variable compensation that is tied to individual performance (and is therefore a Capability measure within the measure framework), Bonus Eligibility Rate relates to all bonuses, regardless of whether they are based on individual performance, unit or firm performance, or other criteria. Employers may analyze Bonus Eligibility Rate by various job and personal characteristics to understand how bonus experience varies among employee subgroups.

Bonus Receipt Rate:

Employees receiving a bonus as a percentage of total employees eligible to receive a bonus.

Formula: End of Period Headcount.Receiving Bonus / End of Period Headcount.Bonus Eligible * 100

Throughout or at the end of the period, actual bonus payments are made based on the extent to which the bonus criteria are met. There are generally two ways in which bonus packages are structured.

• All or Nothing—If all criteria are met, the bonus is paid. If some criteria are not met, the bonus is not paid.

• Sliding Scale—Payments vary as a percentage of potential bonus depending on how many of the criteria are met or the degree to which criteria are met. This measure is most useful for organizations that adopt an All or Nothing structure for some bonus packages or that adopt a Sliding Scale approach in which a zero payout scenario is possible.

Employers may analyze Bonus Receipt Rate by various job and personal characteristics to understand how bonus experience varies among employee subgroups. Common dimensions for such analysis include employment level, job function, job family, organization tenure, pay grade, and performance rating. Additionally, analysis by organizational unit or geography may be useful when bonus criteria are based on divisional performance.

Direct Comp Operating Expense Rate:

Direct compensation expenses as a percentage of operating expense.

Formula: Direct Compensation / Operating Expense * 100

By comparing the line item of compensation expense to the whole of operating expenses, organizations can monitor for expense creep in which compensation costs slowly but consistently increase over time relative to other operating expenses. Such a trend, when intentional, can represent an upskilling of the workforce, overall labor inflation, or an improvement in market comparison ratios. When unintentional, an upward trend may simply represent loose managerial controls on compensation programs.

Employers often analyze Direct Comp Operating Expense Rate by organizational unit and geography to help monitor compensation trends within various areas of the organization. This measure is also useful when disaggregated into subcomponents of base pay, variable pay, etc.

Direct Compensation Breakdown:

Distribution of direct compensation by type, including base, overtime, bonus, incentives, etc.

Formula: Direct Compensation Expense.[Compensation Type] / Direct Compensation Expense * 100

Distribution of direct compensation by type, including base, overtime, bonus, incentives, etc.

Direct Compensation Breakdown provides the percentages of direct compensation paid that are of various compensation types. Graphically, the data are presented as a percentage of the total direct compensation, i.e., a stacked bar graph. Direct compensation, contrasted with benefits and equity compensation, relates to cash payments for base pay, variable pay, overtime, and other cash payments such as sign-on bonuses and relocation allowances.

Overtime Expense Per FTE:

Average overtime cash compensation per full-time equivalent employee.

Formula: Overtime Expense / FTE

Understanding what percentage of direct compensation is overtime pay versus base and variable pay can lay the groundwork for managing overtime costs to an acceptable level.

Total Compensation Expense Per FTE:

Average total compensation expense, including direct, benefits, and equity compensation, per full-time equivalent employee.

Formula: Total Compensation Expense / FTE

Employers often analyze Total Compensation Expense per FTE by geography, job family, and job type to monitor trends in key skill areas, areas of severe talent competition, and highly paid job areas. Organizations may also analyze this measure by organizational unit to help monitor units’ operating expenses and compliance with compensation philosophies and policies.

Upward Salary Change Rate:

Percentage of employees receiving base salary increases during the reporting period.

Formula: End of Period Headcount.Base Salary Increase / End of Period Headcount * 100

This metrics indicates the percentage of the workforce that received an increase in base salary during the period.

For organizations that strictly monitor compensation costs, due to financial hardship or for other reasons, this measure can be a useful tool for monitoring the extent to which managers adhere to salary change guidelines. For other organizations that may not always apply standard salary increases, this measure can be useful in understanding employees’ compensation circumstances. Organizations might also use this measure to monitor the application of performance management guidelines that dictate which performance levels may receive salary increases. This measure will be less useful for organizations that always apply cost-of-living increases to all salaries. However, a variant of this measure that looks only at merit increases rather than all salary raises would be useful to such organizations to understand the extent to which raises beyond cost of living increases are being applied.

Organizations are likely to analyze Upward Salary Change Rate by business unit and performance rating to understand where salary increases are taking place and how the prevalence of increases varies across performance bands. Organizations might also analyze this measure by personal characteristics such as age, tenure, pay grade, employment level, and job family to understand employee subgroups’ compensation experience.

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