How to Define the Right Compensation Strategy

Creating compensation packages for employees requires an understanding of motivational psychology, the talent market, and the company’s goals and resources. Companies need to offer pay and benefits that attract and keep top talent while staying within budget and reflecting individual contributions. However, only 23 percent of companies report having a mature compensation structure. The challenge grows as employee expectations shift and the company expands. To stay competitive, organizations must craft packages that are not only fair but also dynamic.

Let’s define what compensation really is, what motivates employees to perform, and some of the key factors you should consider when creating your compensation packages.

What Is Compensation?

A common misnomer about compensation that many business owners have is that salary alone drives employee satisfaction and retention. “Compensation” refers to the reward you give someone for something they’ve lost.

While some owners believe that salary alone is the reason an individual will work for a company, it’s not the only reason that keeps employees engaged and committed. Other aspects—like benefits, work–life balance, professional development opportunities, company culture, and recognition—also play significant roles in overall job satisfaction. Overemphasizing salary without addressing these other elements can lead to high turnover and lower employee morale, as workers require more attractive rewards in their careers.

Counterbalance in Compensation

Nearly 50 percent of employees are considering leaving their jobs in 2024. Compensation is critical, and retaining valued talent can be costly and complex. However, for every decision you make about compensating employees, there are organizational reverberations to consider.

To identify the right compensation package that will keep your team happy, you’ll need to have some knowledge of the strategy, leadership, management, human motivation, company culture, and financial resources of the organization. Each time you consider how you will compensate an employee, you should ask yourself, “What is the downside of this move?” Every reward has both its strengths and its weaknesses. Let’s discuss this a bit more as we talk about what motivates workers.

Categories of Compensation and Motivation

There are two main types of compensation: remunerative and nonremunerative. Remuneration refers to financial compensation. This can be salary, stock options, bonuses, and other payouts that have financial benefits. On the other hand, nonremunerative compensation contributes to an employee’s overall satisfaction and well-being. This could be receiving a title, flexible hours, a company gym, or training opportunities.

As you consider how to compensate your employees, you will need to understand their motivations. Will they perform better with remunerative or with nonremunerative rewards? Or do they prefer a combination of the two?

Beyond financial versus nonfinancial compensation, employees are also motivated by both intrinsic and extrinsic rewards.

Intrinsic Motivation

Intrinsic rewards are intangible benefits that employees gain from their work, often related to personal satisfaction, achievement, and growth. Here are examples of intrinsic rewards employees might seek:

• Career advancement
• Autonomy over work tasks
• Contributing to society
• Positive feedback
• Being part of a team
• Making a difference
• Opportunities for creativity
• Developing skills
• Sense of pride

Intrinsic rewards magnify energy, effort, output, and strategic thinking in employees. Employees who are intrinsically motivated are 32 percent more committed to their jobs. But too much emphasis on intrinsic rewards can feel transactional and reduce self-regulation for your team. These types of rewards work best in a complex, innovative, creative, and rapidly changing environment.

Extrinsic Motivation

Extrinsic rewards are tangible, external incentives provided by an employer to motivate employees. These rewards typically offer direct, measurable benefits and can significantly influence an employee’s satisfaction and performance. Here are examples of extrinsic rewards employees might seek:

• Salary/wages
• Bonuses
• Commissions
• Profit sharing
• Stocks
• Insurance benefits
• Gift cards

These kinds of rewards can help with recruiting the right talent and encouraging competitiveness among employees. However, they reduce creativity and energy in complex problem-solving environments. These types of rewards work best in a mature environment that are simple-task based with a focus on efficiency.

Timing for Compensation Disbursement

Failure to reward employees for performance is one of the top five reasons why employees are leaving companies. The timing of when to compensate is an important factor when rewarding these employees. Pay out a reward too quickly and it can reduce motivation. Drag out compensation and employees feel disconnected to the task they were rewarded for. Finding that sweet spot for the timing of disbursement depends upon the complexity of the task and the working environment.

A delayed disbursement can reduce productivity in employees who have simple tasks such as laying cement. If you wait too long, they feel their efforts were wasted and won’t connect the compensation to the work they completed. However, in a complex task environment such as a rocket launch for NASA, a delayed reward keeps the team on task with a long-term view of their vision and goals.

Understanding the timing of disbursement is an important factor to consider when building your reward strategies. Plan your timing accordingly so employees feel valued but also feel motivated to continue to work on future tasks or long-running projects.

Individual vs. Team Compensation

While every employee wants and deserves to be compensated individually for their hard work, there are environments in which it is more strategic for leaders to consider compensation that motivates employees to work as a team. This works well for sales, product development, long-term projects, and service departments. These packages reward the team’s overall performance and encourage cooperation, shared goals, and mutual support among team members. Here are examples of team-oriented compensation packages:

• Project completion bonus
• Team performance bonus
• Group achievement award
• Team outing
• Celebration parties

As you consider what you are trying to motivate your employees and teams to do, ask yourself the following questions:

• Will this create competitiveness between members? Is that a good thing or a bad thing?
• Will this drive innovation or stifle creativity?
• Will this improve accountability or cause team members to pass the buck?

Again, remember that each decision you make has a counterbalance within the organization. Be sure to consider all sides before implementing a new compensation structure.

Designing the Perfect Compensation Structure

Companies that have the right compensation plan see a 53 percent decrease in their employee turnover rate. What is the perfect compensation strategy? It’s the one that fits your organizational culture, doesn’t strain your financial resources, recruits the best and brightest talent, and motivates employees to give their best. The moment you hire a new employee is the best time to understand what motivates them. What drew them to you in the first place? Was it the salary? Did they request additional vacation time as part of their offer? Did they ask about your company culture? Did they ask about potential for growing with the organization? These are strong indicators of what will motivate them in the future.

A company with a strong compensation strategy will consider both financial rewards and nonfinancial rewards, pairing a fair salary with a positive employee experience. To attract new talent from a competitive pool, focus on differentiation, whether it’s offering employees more opportunities to make an impact in their community, work with a fun-loving, hardworking team, or access to fun company perks like a soda machine and ping-pong table.

You cannot align your rewards if you don’t know your people. Understanding what motivates them both intrinsically and extrinsically, knowing when to reward them, and recognizing when to motivate the team or the individual will ensure that you’re delivering compensation that keeps attrition rates low and delivers strong performances from team members.

This article features information from the speakers and presenters at the 2023 Ampleo CFO & Growth Summit.