A Reward system refers to the procedures, rules, and standards associated with allocating benefits and compensation to employees.
Reward system in the context of performance management is defined as an integrated system that ensures equitable avenues to employees for the fulfillment of their financial and non-financial needs and recognition urge for their contribution to the attainment of organisational goals.
An employee reward system consists of an organisation’s integrated policies, processes, and practices for rewarding its employees in accordance with their contribution, skill, competence, and their market worth.
It is developed within the framework of the organisation’s reward philosophy, strategies and policies and contains arrangements in the form of processes, practices, structures, and procedures which will provide and maintain appropriate types and levels; of pay, benefits and other forms of reward.
Essential Features of Reward
Rewards should have the following features to motivate individuals or teams to high performance:
1. Availability: For rewards to reinforce desired performance, they must be available. Too little of the desired reward is no reward at all.
For example, pay increases are often highly desired but unavailable. Moreover, pay increases that are below minimally accepted standards may actually produce negative consequences, including theft, falsifying records, and the like.
2. Timeliness: A reward’s motivating potential is reduced to the extent that it is separated in time from the performance it is intended to reinforce. Thus, rewards should be given in a timely manner.
3. Performance-Related: Reward should be closely linked with performance. The clearer the link between performance and rewards, the better rewards will be able to motivate desired behaviour in employees.
4. Durability: Some rewards last longer than others. Intrinsic rewards, such as increased autonomy, challenge, and accountability, tend to last longer than extrinsic rewards, such as pay increases.
5. Equity: Rewards must be perceived as equitable. Employees often make comparisons about what rewards are available to them and others doing similar jobs.
If performance differs, then there should be some justification for the reward being different. Otherwise, employees experience inequity add for bringing equity, employees may try to reason with the organisation for equitable rewards.
They will adjust their performance to suit the given compensation, which can affect their overall performance.
6. Visibility: To promote a reward system, management must ensure that rewards are visible throughout an organisation.
Visible rewards, such as assignments to important committees or promotion to a new job, send signals to employees that rewards are available, timely, and based on performance.
7. Flexibility: Flexibility means the organisation must reward the employees as frequently as possible. To be an effective reward, it should be flexible both in terms of the quantity and the employees it is directed at.
When reward is given frequently, it provides much-needed extrinsic motivation.
8. Cost Effective: Reward allocation involves cost. Care must be taken to understand the pay-offs. Otherwise, it would increase the financial burden as far as possible rewards must be allocated at a relatively low cost.
Objective of Reward System
The Reward system has three main objectives:
1. Attraction: A reward system is intended to attract and retain suitable employees. An employer who develops a reputation as “cheap” is unlikely to be desirable in the job market because potential employees will think it does not reward effort.
Such an organisation is likely to end up with people that nobody else wants.
2. Great Performance: Reward is intended to maintain and improve performance. As we know that nobody can genuinely motivate, employee motivation can only come from within.
But the promise of a bonus or a pay rise is intended to encourage employees to motivate themselves to reap the compensation.
3. Commitment: A reward system helps in maintaining and building up psychological contracts. It shows the type of behaviour that is valued by the organisation.
For example, if teamwork is valued by the organisation, then there will be a greater chance that team bonus will be distributed by the organisation.
The psychological contract will partly define what employee recognises as fair in terms of reward for the job performed by them.
Criteria for Rewards Distribution
One important way to retain employees is by having a fair compensation system and distributing rewards.
This involves fixing wages, deciding on job hierarchies, how much to pay, how to incentivise and so on. Some criteria for such distribution are:
1. Performance: It is universally accepted that performance should always be rewarded. But the issues are:
- A near foolproof method of defining performance.
- An acceptable method of measuring performance- fair, objective and transparent.
- Striking a balance between quality and quantity of performance.
2. Effort: The effort an employee put-in, irrespective of results, is a reflection of his commitment. All rewarding mechanisms should invariably take into account the efforts put in by employees, irrespective of outcomes.
The effort, as against lack of effort, must not be allowed to go unrewarded.
3. Seniority: Seniority or the length of service put in by an employee has long been a criterion for dispensing rewards. However, this traditional criterion is gradually giving way to performance in most industries, especially the IT Industry.
4. Skills Set: The skill set that an employee also possesses is an important criterion. An employee who has taken pains and put in the effort to upgrade his skill set should be duly recognised and rewarded, whether or not those skills are used or required.
For example, many organisations give an additional increment to those who become graduates.
5. Job Complexity: The difficulty or complexity of a job performed by an employee is also an important criterion.
Jobs that require difficult skills are difficult to perform, need to be performed under difficult circumstances or conditions, hazardous in nature, require the use of sophisticated and expensive technology and should be rewarded over simpler routine jobs.
6. Discretionary Time: Certain jobs involve the use of personal discretion, taking decisions, and therefore carry an involvement of risk.
Such jobs should be rewarded over routine mechanical jobs that do not require these inputs and therefore are relatively risk-free. If this approach is not followed, employees would be unwilling to accept risk-carrying jobs and assignments.
Designing a Reward System
The design of a reward system contains the following issues:
Whom to Reward
There are various kinds of employees working in an organisation, like, executives, factory workers, office employees, permanent employees, ad hoc employees, etc.
Thus, the organisation must recognise each employee to whom it has to pay rewards.
Whereas, if the organisation has many teams, then it must also recognise whether the reward is to be paid to the team or to the individual employee.
It shows that for an organisation, all employees are equally important, but there are some key employees of the organisation who needs to be given special consideration.
For example, executives and sales staff are mainly appointed for reward because of the nature of the work they perform.
What to Reward
Another key aspect of the reward system is what to reward Lev, whether to reward performance, skill, behaviour or employee result.
Employees’ results, performance, skills, and competency are four main objectives that can be rewarded. The reward target is discussed, focussing on the effect of the job features:
i. Results-Based Reward: Result-based reward means compensating employees on the basis of units produced by them. This type of reward is widely accepted because payment through this system is easy, fair and production focused.
For example, payment of reward on the basis of a number of calls answered.
ii. Performance-Based Reward: These are very common types of rewards. In this form of reward system, mostly the employee and superior or employer agree on some objective which is later assessed by the employer.
On the basis of assessment, the employee receives a reward which is mostly in the form bonus.
iii. Competence-Based Reward: Competence-based reward focuses on an employee’s ability to perform the task. Competency can get measured in terms of quality.
It supports the long-term development of the employee. On the contrary, focusing on cost and risk of lower value of money also exists.
This form of reward system is appropriate for such tasks where the focus is on quality instead of the number of units produced.
Sometimes, when employees are unable to reach the target, and the assessment of the job shows that the employee delivers their best, then that case employee will receive a reward.
iv. Skill-Based Reward: Skill-based reward supports skill development among employees. The reward payment on the basis of skill will make sense when an organisation needs flexible employees.
It can be focused on cost, and it also supports employees’ long-term development. This type of reward is most appropriate for a quality-based job.
What Kind of Reward
The kind of reward which must be given to an employee is another important aspect of reward.
An organisation can give incentives either in cash, like a bonus, or in the form of recognition, like a certificate of ’employee of the year’.
Incentives are the monetary reward that the employer gives to the employee on attaining the goal, whereas recognition may be either monetary or non-monetary rewards but identifies the employees as unique.
Hence, it is suggested that employers must give both incentives and recognition to the employees.
For example, an employer can promise to give incentives when an employee attains the target, and in addition to that, recognition could be given to employees on attaining sub-targets.
Components of a Reward System
An organisation’s reward system comprises these elements. In designing an effective reward and compensation system, all these elements must be carefully considered, as detailed below:
Financial rewards are direct monetary rewards encompassing the payment of cash compensation to employees for work accomplished or efforts expanded.
For example, salary, wage, incentives, commission, etc.
Non-financial rewards are indirect monetary rewards and include those items of financial value the organisation provides to employees that do not result directly in employees receiving spendable cash.
For example, medical insurance, life insurance, subsidised canteen, subsidised transport, free uniforms, interest-free loans, etc.
The reward policy will cover such matters:
i. Level of Rewards: The policy on the level of rewards indicates whether the company is a high payer, is content to pay median or average rates of pay or even exceptionally accepts that it has to pay below the average.
ii. External Competitiveness versus Internal Equity: External competitiveness refers to the pay rates of an organisation’s jobs in relation to its competitors’ pay rates.
Internal equity exists when an employer pays wages commensurate (equal) with the relative internal value of each job.
This is established according to the employer’s perception of the importance of the work performed.
iii. Assimilation Policies: The introduction of a new or considerably revised pay structure means that policies have to be developed on how existing employees should be assimilated, i.e. adjusted into it.
These policies cover where people should be placed in their new grades and what happens to them if their new grade and pay range means that their existing rate is above or below the new scale for their job.
iv. Protection Policies: Protection (sometimes called safeguarding) is the process of dealing with the situation when, following the introduction of a new pay structure, the existing pay of some employees may be above the maximum for their new grade, and they are, therefore, ‘red-circled.
In these circumstances, the general rule is that no one should suffer a reduction in their present rate of pay.
v. Transparency: There is no chance of building a satisfactory psychological contract unless the organisation spells out its reward policies and practices. Transparency is achieved through involvement and communication.
This form of reward includes opportunities to perform meaningful work, social interactions with others in the workplace, job training, career advancement opportunities, recognition, employer brand, and a host of similar factors.
Companies often establish more than one pay structure, depending on market rates and the company’s job structure. Common pay structures include exempt and non-exempt structures, pay structures based on job families, and pay structures based on geography :
i. Exempt and Non-Exempt Pay Structures: Exempt jobs are not subject to the overtime pay provisions of the act. Core compensation terms for these jobs are usually expressed as an annual salary.
Non-exempt jobs are subject to the overtime pay provision of the act. Accordingly, the core compensation for these jobs is expressed as an hourly pay rate. Companies establish these pay structures for administrative ease.
Some broadly consistent features distinguish exempt from n exempt jobs: Exempt jobs, by the definition of the Fair Labour Standards Act, are generally supervisory, professional, managerial, or executive jobs that contain a wide variety of duties.
Non-exempt jobs are generally non-supervisory in nature, and the duties tend to be narrowly defined.
ii. Pay Structures Based on Job Family: Executive, managerial, professional, technical, clerical, and craft represent distinct job families.
Pay structures are also defined on the basis of the job family, each of which shows a distinct salary pattern in the market.
iii. Pay Structures Based on Geography: Companies with multiple geographically dispersed locations, such as sales offices, manufacturing plants, service centres, and corporate offices, may establish pay structures based on going rates in different geographic regions because local conditions may influence pay levels.
The cost of living is substantially higher in the northeast region than in the south and southeast regions of the United States.
Base (or basic) pay is the level of pay (the fixed salary or wage) that constitutes the rate for the job.
It may provide the platform for determining additional payments related to performance, competence or skill. It may also govern pension entitlement and life insurance.
The basic levels of pay for jobs reflect both internal and external relativities.
The internal relativities may be measured by some form of job evaluation that places jobs in a hierarchy (although the trend now is to play down the notion of hierarchy in the new process-based organisations).
External relativities are assessed by tracking market rates.
Job evaluation was more or less written off in the 1990s by many people on the grounds that, apart from being time-consuming and bureaucratic, it was no longer relevant in the days when ‘the market rules, OK?’ But in the 2000s, research has shown that job evaluation is flourishing, although it is more often used in a support role rather than as a driver for grading decisions.
The trend in favour of job evaluation has emerged partly because organisations have recognised that internal equity is important but also because of the increased prominence of equal pay considerations.
Additional financial rewards may be provided that are related to performance, competence, contribution, skill and/or experience.
These are referred to as ‘contingent pay. If such payments are not consolidated into base pay, they can be described as ‘variable pay’. Variable pay is sometimes defined as ‘pay at risk’.
For example, the payment of sales representatives on a ‘commission- only’ basis is entirely at risk. The main types of contingent pay are:
i. Individual Performance-Related Pay: In which increases in base pay or cash bonuses are determined by performance assessment and ratings (also known as merit pay).
ii. Bonuses: Rewards for successful performance are paid as cash (lump) sums related to the results obtained by individuals, teams or the organisation.
iii. Incentives: Payments linked with the achievement of previously set targets which are designed to motivate people to achieve higher levels of performance; the targets are usually quantified in such terms as output or sales.
iv. Commission: A special form of incentive in which sales representatives are paid on the basis of a percentage of the sales value they generate.
v. Service-Related Pay: It increases by fixed increments on a scale or pay spine depending on service in the job; there may sometimes be scope for varying the rate of progress up the scale according to performance.
vi. Competence-Related Pay: Competence-Related pay varies according to the level of competence achieved by the individual.
vii. Contribution-Related Pay: This relates pay to both outputs (performance) and inputs (competence).
viii. Skill-Based Pay (Sometimes called Knowledge-based Pay): Which varies according to the level of skill the individual achieves.
ix. Career Development Pay: This rewards people for taking on additional responsibilities as their career develops laterally within a broad grade (a broad-banded pay structure)
Allowances are elements of pay in the form of a separate sum of money for such aspects of employment as overtime shift working, call-outs and living in London or other large cities.
London or large-city allowances are sometimes consolidated; organisations that are simplifying their pay structure may ‘buy out’ the allowance and increase base pay accordingly.
Total earnings are usually calculated as the sum of base pay and any additional payments.
Total remuneration is the value of all cash payments (Total earnings) and benefits received by employees.
The total reward concept emphasises the importance of considering all aspects of reward as an integrated and coherent whole.
It emerged during the late 1990s as a means of maximising the combined impact of the whole range of reward initiatives on motivation, commitment, and job engagement.
It addresses the crucial issues of recruitment, retention, and talent management. It has encouraged organisations to consider much more carefully the role of non-financial rewards, including recognition schemes, and to rely less on money as the sole motivator.
These are monetary rewards and benefits that employees receive for their services rendered. They cover:
Employees receive such benefits at a fixed interval of time. The following are included under direct benefits:
i. Basic Salary: Basic salary is the fundamental component of the pay structure. It is the major portion of the employee’s compensation.
Different components of the wages, such as bonuses, premiums, allowances, etc., are determined with the help of a basic salary. Seniority and rank are the two factors which are considered for determining the basic salary.
Basic salary is a major issue of discussion during negotiations between management and labour unions. Labour unions demand increasing basic salary as it affects other benefits of the employees also.
ii. Incentives: An incentive is an essential component of the pay structure. It is given in addition to the regular wages.
Incentives attract employees and motivate them to perform better. It also motivates the employees to improve their efficiency and productivity in the organisation.
iii. Bonus: Bonus is the payment which is given to workers as a share of the organisation’s profits in a particular year.
The profit is expected to be made due to the contribution of the employer and the hard work of the workers.
Bonus is paid according to the performance of employees based on certain criteria, which may include their eligibility, performance standards, time span, etc.
Earlier, the payment of bonuses was just confined to manual workers, but now they are applicable in almost all types of organisations.
Profit-related bonuses, attendance bonuses, and work study-related bonuses are some examples of bonuses.
iv. Provident Fund: Provident fund is the payment that an employee receives after his retirement or when he resigns from the organisation.
Both employee and employer contribute equally to the provident fund. The provident fund is mainly given with the objective of securing the future of employees after retirement.
Any additional benefits (or fringe benefits) received by the employees for their services rendered are referred to as indirect benefits. The following are covered under indirect benefits:
i. Leave Policy: Employees are entitled to a certain amount of leaves during their period of work in an organisation.
Therefore, the leave policy of an organisation makes sure that the employees avail those allotted leaves. These leaves cover the paid leaves, which include maternity leaves, sick leaves, statutory pay, casual leaves and so on.
ii. Overtime Policy: It is the amount of compensation that an employee receives if he works for extra hours beyond his regular working hours.
For example, if the working hours for an employee are 42 hours in a week, but if he is working for 48 hours in a week, then he has to be paid an extra amount for the additional 6 hours he has worked.
In case the employee is working for more than 48 hours a week, he should be paid at double the rate.
iii. Insurance: Life insurance and accidental insurance are also provided to the employees by their organisations. In this way, the employees feel valued and get the needed emotional support from their organisations.
iv. Fixed Medical Allowance: This allowance is paid to employees at a fixed time period at a fixed rate regardless of the actual amount of expenditure done on the medical treatment.
v. Leave Travel: This allowance is given to employees for spending holidays with their families. The amount of allowance depends on the designation of the employees.
vi. Conveyance Allowance: It is an allowance that is given to employees to compensate for the expenses incurred on the conveyance to perform their duties.
These benefits are non-financial in nature but motivate the employees to enhance their performance.
Employees’ job satisfaction or the satisfaction from their physical or psychological working environment constitutes non-monetary benefits.
There are different forms of non-monetary benefits, which are given below:
1. Achievement: The need for competitive success when measured against one’s own excellence standard is referred to as the need for achievement.
Employees can be rewarded with achievement motivation when they can utilise their abilities and skills in their jobs and are given the opportunity to perform.
2. Recognition: Appreciating the employees in terms of their significant contribution to the organisation, personal achievements and effective performance is referred to as recognition.
Achievement bonuses that are given to the employees right after they have achieved something can be a form of recognition in monetary terms. However, recognition can be non-monetary as well.
For example, a verbal appreciation from the boss to an employee at the appropriate time may be a form of non-monetary recognition.
Employees are motivated to perform better or maintain consistency at their jobs with the help of such appreciation.
When recognition is given in a positive form, it is called praise. Praising must be done for the actual achievements only and should be given sensibly.
However, the opposite of praise is criticism which is a negative form of recognition. Employers should criticise the employees in private so that its impact is minimal and the reputation of the employee among other colleagues is not hampered.
A word of encouragement should always be accompanied by criticisms which will help the employees in enhancing their performance.
3. Responsibility: Increasing the responsibility of the employees in their individual areas of work can be a form of motivation.
It is a form of intrinsic motivation that comes with the job content. Increasing the responsibility of the employees can be translated to empowering them with the means to fulfil their objectives.
4. Influence: Giving employees the opportunity to exercise authority and influence can be a form of motivation.
Various involvement policies of the organisation can motivate the employees that will give them a platform to express views and be heard. It can also be regarded as a form of empowering the employees.
5. Personal Growth: It is a unique experience for an individual to grow. During such growth, the capabilities of people expand, and they can sense their own development.
This enables individuals to make the best use of their skill potential or satisfy it at the very least.
Alignment of Business and Reward Strategy with Performance
The reward system of an organisation is linked closely to its business strategy. The greater the fitment, the better will be the performance of the organisation.
Hence, the performance management system must be adjusted to the business strategy of the organisation for improved results.
In today’s globally competitive environment, rewards are like a tournament brought about by increasing the alignment of rewards with the business strategies of an organisation.
The higher the reward differentials, the higher the number of players (employees) who are attracted to the tournament.
Players must invest (i.e., performance) to enter the tournament – organisations capture value from these players more than what it gives to the winner for the prize (reward/compensation). This is called the Tournament Theory.
A greater fit between business strategy and rewards results in greater performance. The linkage is depicted in the figure given below.
The trend in reward strategy has changed drastically in the last few years. Traditionally, reward strategy had been based upon the job in order to maintain internal pay equity.
It focused on the role/person, and the reward was aligned with the relevant job market condition, development, and skill/competency requirements of the person.
Effective alignment of reward strategy and business strategy can change behaviours, focus decisions, and help human resources to fulfil its role as a strategic business partner.
Thus, a congruency between the reward system, individual employees, organisational characteristics, and environment increases performance.
Therefore, performance-linked reward strategies need to be formulated and firmly footed to the overall business strategy of an organisation by:
- Recognising individual contributions to the organisation by rewarding key performers.
- Developing performance-oriented compensation plans that are appropriate for different levels and classes in an organisation.
- Designing a compensation plan that motivates key performers to make decisions that are in the best interest of the organisation.
Organisations, therefore, need to develop a total reward system, which is a hybrid approach to reward management that seeks to match the needs of the organisation with those of its employees.
A total reward strategy needs to encompass all aspects of a reward to add real value, enhance employee commitment, and minimise the loss of talented people and their intellectual capital and knowledge-based skills.
Importance of Reward System
The importance of a reward system is as follows:
Acts as a Source of Organisational Effectiveness
Organisational effectiveness can be obtained only from high-performing employees.
High-performing employees can make other resources perform highly. The reward is a proven and established means of stimulating employees to perform exceedingly well.
Serves as a Medium between Organisation and Employees
Reward has the capacity to perform the role of a medium as it brings the organisation and its employees together.
Therefore, successful management of remuneration is important to both organisation and its employees,
Motivates Employees for Better Performance
Reward is a dynamic instrument. It not only creates opportunities for the fulfilment of motivational needs but also enhances the intensity of motivation.
This means employee motivation doubles every time he/she is suitably rewarded. Enhanced motivation leads to higher performance, which in turn leads to higher rewards.
Encourages Healthy Competition and Collaboration
Reward itself can guide the organisation and its employees to perform at their best.
Reward encourages healthy competition and collaboration among employees to perform well, which leads to innovation in the pursuit of reward achievement,
Helps to Differentiate between Good and Poor Performers
The general performance profile of a typical organisation consists of a marginal percentage of high performers and low performers and the majority of average performers.
Performance of average employees can be enhanced through suitably rewarding high performers and depriving reward of low-performing employees.
This reward distinction not only helps to manage different performers differently but also facilitates average performers to become high performers.
Stimulates Employee Involvement
Employee involvement, participation and empowerment studies sufficiently establish that performance excellence can come from employees who are totally involved with the organisation.
This involvement can be obtained only by creating opportunities for employees to involve themselves in organisational management.
The reward is one potential source that can be effectively tapped for creating these avenues of involvement.
Reward as a Source of Innovation
Non-financial rewards generate a high degree of internal drive-in employees to excel. The zeal to perform excellently paves the way for innovation.
Rewards possess an inherent capacity to pump actualisation drive in human beings. Therefore, well-designed and appropriately focused non-financial rewards provide the right recognition to employees and mature as a source of innovation.
Strengthens Organisational Competitiveness
Organisational competitiveness comes from the sheer performance capacity of organisations.
This capacity can be sharply evident when organisations encounter situations of crisis. Therefore, any organisation that intends to strengthen its competitiveness must first focus on implementing a suitable reward system.
Maintains Organisational Harmony
Reward that is managed well can be a great source of organisational harmony, which is a prerequisite for great employee and organisational performance.