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 / Summer 2011 / Issue 63(originally published by Booz & Company)


Retooling Labor Costs

Finding Useful Salary Data

To establish wage structures, most businesses rely on market reference points (MRPs). Usually provided by third parties, MRPs are based on regional salary surveys of a wide sample of companies within an industry, and provide a range of wage targets for a given job or category of jobs. For example, in a survey for an assembly-line job, the hourly wage would be broken down by quartile. The lowest-paid quartile might earn less than US$13.50 an hour, whereas the top quartile might earn between $15.70 and $16.25.

Although useful as a general guide, MRPs can be problematic. The data may be skewed high or low, depending on which companies are surveyed. Larger firms with more employees will influence the result more heavily than small businesses, and many larger firms have a “premium brand” strategy or possibly a large union presence that supports higher wages. What’s more, in some MRPs the job categories are incorrectly defined or too general; for example, the label data analyst encompasses a wide range of roles and responsibilities, and thus a wide range of appropriate salary levels. As a result, MRPs are worthwhile for higher-level positions (where little data is available internally) but are often misleading when applied to assessments of large, undifferentiated segments of the workforce.

To analyze most wage disparities, companies should combine the data from MRPs with internal benchmarking, which calculates the average wage of workers in the company who have just achieved competency in their position. For welders, reaching that point may take five years; for bookkeeping clerks, maybe only two. This average salary can be used as a proxy for what it should cost the company to maintain these skills. This blended MRP/benchmark approach can generate target wage scales tailored to individual companies — and clearly identify the point at which the pay of long-tenured employees exceeds the value of the jobs they perform.

Putting the Data to Work

Armed with a thorough wage analysis and a better understanding of which workers’ earnings are above their grade, human resources executives can bring order to the helter-skelter pay structures at their company. The “cure” will typically involve some combination of these four levers:

• Appropriate job categorization and responsibility adjustments. It is not uncommon for salary levels for certain workers to depart from MRP guidance or internal benchmarks by as much as 60 percent. This variance should be addressed. Some employees who are earning more than the market wage for their job can be trained and reassigned — immediately or eventually — to job categories better aligned to their wage scale. This would likely be the fate for someone like Joe, the machinist in our example. But for each job category, pay floors and pay ceilings should be established. Once employees and pay levels are in sync, this equilibrium must be sustained through rigorous policies for starting salaries and merit raises.

• Voluntary separation. In the case of a highly tenured workforce, asking people to leave on their own in exchange for severance packages more generous than the company typically offers could make sense. This, in turn, would allow the company to hire replacement workers at a rate much closer to market averages. A well-crafted voluntary separation plan will generally have an acceptance rate of 15 to 20 percent, but it could go as high as 50 percent in some business units. The outcome is directly proportional to how well the plan is communicated, to the size of the package, and to the average years to retirement of the targeted workers. To ensure high levels of participation, it is critical to tell employees that the company is determined to cut costs and smooth out salary discrepancies and that after the severance program’s deadline passes, more aggressive ways to reduce wages will be considered.

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