Compensation Management policies

Study Summary: IRP321 Compensation Management

Course Title: IRP321 Compensation Management
Instructor: Prof. Christopher Chidi (PhD)
Department: Employment Relations and Human Resource Management
Institution: University of Lagos, Nigeria
Session: Second Semester, 2025/2026 Academic Session

Topic 1: The Contract of Employment, Concept of Compensation, Compensation Management and Objectives of Compensation Management

Introduction to Compensation

• Employee compensation is critical in employment relationships and a major source of conflict in labour-management relations.
• Nigerian government involvement in workers' compensation began in the 19th century with the emergence of wage labour.
• Wage: Payment to hourly-rated production and service workers (direct monetary compensation).
• Salary: Generally paid to administrative, professional, and managerial employees, calculated monthly or annually.

Employment Relationship

• Entails the relationship between employers and employees (collective and individual) and the determination of employment terms and conditions.
• The employment contract is its foundation, defining terms.
• Requirements for a binding contract:
  1. Offer
  2. Acceptance
  3. Consideration
  4. Intention to create legal relations
  5. Parties must be of sound mind

What is an Employment Contract?

• According to Akpala (1982), it's an agreement where a person renders services, obeys orders, and submits to direction/control in consideration for wages paid by the employer.
• Compensation/pay is a contractual phenomenon, indicating a relationship and transaction. It's the quid pro quo for services rendered.

Concept of Compensation

• One method of performance management, taking the form of monetary or non-monetary rewards.
• Compensation: The totality of financial and non-financial rewards an employee receives for providing labour services to the organization. It encompasses everything an organization provides to reward efforts or membership.

Compensation/Reward Management

• The process of designing and implementing a pay system that ensures an organization attracts, retains, and motivates capable and willing employees to accomplish organizational goals and objectives.

Objectives of Compensation/Reward Management

• 3 Major Objectives:
  1. Attract skilled manpower to the organization.
  2. Motivate/maintain employees to higher performance.
  3. Retain skilled employees.
• Other Minor Objectives:
  • Reduce conflicts in the workplace.
  • Control labour costs.
  • Change/modify behaviour (influence).
  • Conform to government regulations.

Compensation Policies, Philosophy, and Theories

Compensation Philosophy

• Compensation/reward policies are based on underlying philosophies (beliefs or values held by management).
• Cost Minimisation / Negative Philosophy: Views employee compensation as a cost to be reduced to maximize profit.
• Positive Philosophy: Views salaries as an investment with a multiplier effect on productivity. It emphasizes a reward system that is just, fair, equitable, transparent, and rewards employees based on effort, performance, and contribution.

Compensation Policies

• Guidelines for the administration of compensation/pay.
• Types of Policies:
  • Policy of salary/pay leadership (lead the market policy).
  • Policy of salary/pay followership (lag the market policy).
  • Policy of industry average (meet the market policy).
  • Policy of seniority-based pay.
  • Policy of performance-based pay.
  • Policy of pay secrecy or openness.
  • Competency/skilled-based pay policy.
  • Policy of fairness and equity (vertical and horizontal equity).

Compensation Theories

Can be categorized into psychological and economic theories.

Psychological Theories

1. Equity Theory:
   • Concerned with perceptions of fairness in treatment compared to others (input-output comparisons).
   • States that workers should be paid wages/salaries equal to their contribution.
   • Formulas:
     • O(S)/I(S) compared with O(A)/I(A)
     • Where:
       • I = input (educational qualification, experience, effort)
       • O = output (pay, recognition, promotion)
       • S = Sola (Self)
       • A = Ade (Significant Other)
     • Case I: O(S)/I(S) = O(A)/I(A) → Equity (No problem)
     • Case II: O(S)/I(S) > O(A)/I(A) → Inequity (dissatisfaction - Ade is cheated)
     • Case III: O(S)/I(S) < O(A)/I(A) → Inequity (dissatisfaction - Sola is cheated)
2. Edward Lawler's Model of Pay Satisfaction:
   • Pay satisfaction is a function of Actual Pay and Expected Pay.
   • Expected Pay = Actual Pay → Satisfaction
   • Expected Pay > Actual Pay → Dissatisfaction
   • Expected Pay < Actual Pay → Satisfaction/Dissatisfaction (Note: This usually leads to dissatisfaction, the slide's "Satisfaction/Dissatisfaction" might imply variability or complex reactions, but dissatisfaction is the more common outcome for lower actual pay).
3. Expectancy Theory:
   • When increased pay is tied to increased job performance, it motivates workers to exert more effort.
   • The valence (value) or attractiveness of the reward increases efforts and productivity.
   • Also known as performance-expectation theory.
4. Instrumentality Theory:
   • Assumes a person is motivated to work if rewards (carrots) and punishments (penalties or sticks) are directly tied to their performance.
   • Compensation provides the means to achieve desired ends.

Economic Theories

1. The Classical Economic Theory:
   • If labour supply exceeds demand, pay levels go down.
   • If labour demand exceeds supply, pay goes up.
2. Efficiency Wage Theory:
   • Also known as the "economy of high wages." (Implies paying higher wages can lead to increased productivity and efficiency).
3. Human Capital Theory
4. Agency (Principal – Agent) Theory
5. The Effort Bargain

Topic 3: The Role of Job Analysis and Job Evaluation in Compensation Mgt.

Job Analysis

• The investigation of a job to identify its essential characteristics, upon which job description and specification are based.
• Job evaluation relies on job analysis.

Job Evaluation

• A systematic process for defining the relative worth of jobs within an organization.
• Establishes internal relativities and provides a basis for designing an equitable salary structure.
• According to Fajana (2002), it's the comparison of jobs using formal, systematic procedures to determine relative worth.
• Job values can be determined by negotiation or fixed based on market rates and internal relativities.

Concept of Compensable Factors

• Factors identified through job analysis that the employer/organization pays for.
• Examples: Skills/competencies, experience, education/qualification, risk/hazards, responsibility, physical efforts, commitment, initiative, dedication, mental efforts, loyalty.

Internal and External Relativities

• Pay relativity/equity: Ensuring fair pay for employees' labour services.
• Internal Relativities/Equities: Established by job analysis and job evaluation. (Ensuring jobs within the organization are fairly compensated relative to each other).
• External Relativities: Achieved through market surveys. The organization pays attention to market rates to attract and retain good quality staff from the external labour market.

Methods of Job Evaluation

Grouped into two categories:

Qualitative (Non-Analytical) Methods

1. Ranking:
   • Simplest method of valuing jobs.
   • Compares one job description with another and arranges jobs in order of importance (highest to lowest value).
   • Danger: Subjectivity based on impression rather than facts.
   • Example provided on slide 25 shows jobs ranked by salary amount.
2. Job Classification (Grading System):
   • Begins with verbal descriptions of grades or job levels.
   • Jobs are classified into grades based on job responsibility and skill requirements.
   • Less subjective than ranking.
   • Well-adopted in government establishments (e.g., Nigerian civil service 17-grade salary structure).
   • Example provided on slide 27 shows grades (I, II, III) linked to experience/qualification (semi-skilled, skilled, executives).

Quantitative (Analytical) Methods

1. Points Rating:
   • Examines several compensable factors common to jobs.
   • Each job is rated along a scale for each factor (scales divided into point distances).
   • Point values are assigned to compensable factors and summed for a total score.
   • Total scores are ranked; the job with the highest score has the highest value.
   • The job with the highest score can be used as a benchmark.
   • Example on slide 29 uses a Likert 5-point scale for factors like Experience, Skill, Physical efforts, Mental efforts, Education across different jobs (Driver, Job clerk, Secretary, Receptions, Typist). Secretary scores highest overall.
2. Factor Comparison:
   • Similar to points rating but assigns monetary values to compensable factors.
   • Tends to produce internal equity but external equity may suffer.
   • Example on slide 31 assigns a 'Weight in N' (Naira) to each compensable factor, then multiplies the Likert scale score by this weight to get a monetary value for each factor for each job, summing to a total N value. Secretary has the highest total N value.

Topic 4: Managing Expatriates' Compensation

Introduction to Expatriate Compensation

• Multinational companies ensure international assignees (expatriates) are well remunerated.
• Categories of staff in MNCs: Parent/home country nationals (expatriates), host-country nationals (local nationals), third-country nationals.
• Rewarding expatriates is also known as international compensation (Reynolds, 1997).
• Complexities arise due to differences in tax and cost of living, pay, and benefits.
• Aim of remuneration policy: To ensure expatriates are neither better nor worse off as a consequence of overseas assignments (Armstrong & Murlis, 2004).

Models/Methods of Expatriates' Compensation

• Home-base or Headquarters'-based model:
  • Expatriates are paid according to their home or headquarters' compensation structure.
  • Also called the balance sheet approach.
• Host-country-based model / local market model:
  • Expatriates are paid according to the host-country compensation structure.
  • Also known as the localisation approach.
• Global market approach:
  • Salary is based on international benchmarking.
  • Compares salary levels and benefits across countries/industries and aligns with global standards/best practices.
  • Achieved via international salary surveys or global HR consulting firms.
• Hybrid model:
  • A combination of home-based and host-based pay systems (Armstrong & Murlis, 2004).

Factors Influencing the Choice of Remuneration Method

• Nationality of expatriates and the countries to which they are posted (developed or developing).
• Duration or length of the assignment (short-term, long-term, or permanent).
• Reason or nature of the assignment (developmental, management function, or skill transfer).
• Need for equity between certain groups of employees (e.g., other expatriates and local peer groups) (Armstrong & Murlis, 2004).

Balance Sheet Approach (Home-Country Approach)

• The most widely used compensation model.
• Enables the expatriate to purchase the same basket of goods in the host country that they could in their home country (Fisher, Schoenfeldt & Shaw, 2007).
• According to Rao (2005), it aims to equalise purchasing power across countries.
• Requirements: Estimating expenses for income tax, housing, goods and services, school fees for children, and payment of supplements/additional allowances.
• Purpose: To maintain the same standard of living the expatriate would have had at their home office or parent company.
• Thus, expatriates' pay should be at least equivalent to what they would have been entitled to in their home country.

Objectives for Multinational Companies' Compensation and Reward Management (Briscoe et al., 2009)

• Attraction and retention of the best qualified talent to staff multinational companies.
• Attraction and retention of employees qualified for international assignments.
• Establishment and maintenance of a consistent and reasonable relationship between the compensation of employees at corporate headquarters and subsidiary.
• Maintenance of compensation that is reasonable in relation to the practices of competitors.

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