In our last newsletter we addressed the changes in employment laws to strengthen the equality of pay across genders. In a recent Harvard Business Review* article, there is some interesting research in the topic of pay transparency. Pay transparency is an approach proposed to ensure that employees are paid equally for doing equal work. If you’re an engineer with equal seniority, you should be paid the same as the engineer sitting next to you; regardless of gender or minority status. It sounds logical, but it turns out that the definition of equality isn’t equally defined across the participants.
In a survey of 700 engineers that asked them to assess their performance level compared to their peers it turns out that 40% of the engineers felt they were in the top 5% of performance. 92% felt they were in the top quartile of performance. As pay for performance is a long-established concept, it becomes apparent that if 90% of your employees all believe they are top performers, that paying them disparately, based upon the supervisors’ assessment of performance, and then openly publishing that differential pay, becomes problematic. And in fact, the survey results showed that it does become problematic.
Once you see that you are paid lower than peers, you become more dissatisfied with your employer; which causes an increase in resignations as the employees seek other opportunities. OR, you modify your performance level to match the level of your underpayment; i.e. productivity drops. OR, you band together to lobby your employer to increase pay levels to the higher paid band of employees (who are presumed to be your best performers).
So the employer response to the employee disaffection is limited: you can flatten pay and basically enact a one size payment for similar categories; regardless of performance (i.e. socialist solution). OR you can try to move departments physically so that the disgruntled employees don’t have to mix with the higher paid employees (isolation solution). OR you can outsource those resources to 3rd party firms (unemployment solution).
The net result of the HBR review was that gender equity needs to be fixed by leveling the pay for women and minorities for equal performance; quietly, professionally, and quickly. Promoting pay transparency is not a solution for equality because employees are functionally never equal. Most companies have pay grades with measurable objectives and skill requirements that lend credence to the HR departments that a senior engineer is paid more than a Level 1 engineer. A district manager that handles $10M in revenue is paid lower than a regional manager handling $50M and more territory.
The bigger challenge for compensation models is the pay for performance mindset; if you have two senior engineers and 1 is producing better results than the other one, then you either need to manage the weaker employee to improve performance or pay the better producer higher compensation. The reason that HR has hiring bands of compensation is to expressly address the variance of performance. But the challenge to all of this is the imperfect assessment of performance. Supervisors tend to like some employees better than others; and not necessarily because they’re better performers.
Most senior managers dread the annual review process of their direct reports (and possibly several layers below, too). The paperwork responsibility to write reviews of your direct reports and substantiate that your good guy is in fact better than your average guy, becomes a burden. While every employee has some metrics tied to their role, the review process can become onerous. I have seen annual reviews that limit the executives’ ability to grant larger pay raises for outstanding performers; due solely to the arbitrary definition that you can’t have multiple outstanding employees in one department.
Ultimately every company has to manage compensation as a major line item of the income statement. That fact requires discipline in the administration of the annual budget. Pay raises are always limited by the sum of the annual budget goal; and the person directly responsible for the compensation budget is incented to come under the annual budget. So annual merit raises are subject to significant managerial review and analysis and manipulation. Adding gender equality into a mid-year budget is nearly impossible to accomplish; as is adjusting the next year budget to fully meet gender equality. It doesn’t happen through simply increasing the annual compensation budget, so gender equality is typically achieved by increasing the affected workers’ compensation, with a concomitant moderation of the currently higher compensated employees.
Compensation is personal. Managing employees to perform well and to be paid for performance is the bedrock of many businesses. Fixing the past mistakes of gender/minority discrimination will take time, and the company will need to manage the expectations of all employees that compensation needs to be fair across performance bands. But publicly displaying the compensation rates for every employee simply invites way too much discord into the personal side of employment.
Harvard Business Review. September 30, 2016 Todd Zenger