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Published: October 12, 2012

 
 

Paying for Employee Honesty

Higher wages for retail workers can cut down on employee theft.

Title: Can Wages Buy Honesty? The Relationship between Relative Wages and Employee Theft (Fee or subscription required)

Authors: Clara Xiaoling Chen (University of Illinois) and Tatiana Sandino (University of Southern California)

Publisher: Journal of Accounting Research, vol. 50, no. 4

Date Published: September 2012

Paying employees more makes them less likely to pilfer shelves or rob the till, according to this study of retail workers, which also found that almost 40 percent of higher compensation could be made up by savings from the reduced theft. Including side effects, such as reduced employee turnover and new-hire training costs, companies could break even or potentially show a net gain by paying their employees more, the authors say. The findings also empirically illustrate how higher wages can help reinforce employees’ honesty and ethical standards.

Employee theft accounts for US$200 billion in annual losses for U.S. businesses. The problem is particularly severe in the retail, service, food, and consumer product manufacturing sectors. (About 35 percent of retail store employees in the United States admitted to stealing from their companies, according to an earlier study.) In these settings, workers aren’t always monitored effectively, and their relatively low level of compensation is not always a powerful enough incentive to deter theft.

Previous research has focused largely on the effects that higher wages can have on other aspects of employees’ behavior, such as their willingness to stay at the company. This paper compares data from several large convenience-store chains. It finds that the difference in what employees earn for working the same jobs at similar companies in the same region affects how much cash and inventory goes missing.

A 1990 study found that inventory theft increased among retail employees following a 15 percent reduction in their pay, and these workers stole more than counterparts whose compensation was not cut. But such a slash in compensation is a sudden shock; this paper focuses instead on well-established pay structures and their relationship to employee theft over a longer period.

The authors’ analysis was primarily based on data collected in 2004 and 2005 from more than 250 convenience stores in 31 large chains, as well as interviews with nine company managers. Convenience stores were chosen because they are low-margin, high-volume businesses that typically suffer widespread employee theft, which can be traced through cash and inventory shortages. They are also an optimal setting to examine how peers influence behavior, because some stores are staffed by one worker whereas others have two or three workers per shift.

The authors controlled for a number of factors, including each store’s employee characteristics and skill sets (as measured by surveys of their managers), how frequently supervisors left or were replaced, the unemployment rate, local crime statistics, and workers’ wages relative to those of others in similar jobs in the same region. Overall, the authors found, employees earning $1 more in hourly wages (for doing the same jobs at different companies) stole significantly less.

One reason the authors advance is that employees  who are earning more relative to their peers in the region could be highly motivated to keep their job and demonstrate loyalty to the company. The authors conducted a cost-benefit analysis to determine whether the dollar savings from reducing employee theft justified paying higher wages. They calculated that direct savings on lost inventory and cash account for 39 percent of the wage increases. When other benefits from a pay hike are factored in — such as retaining more employees, cutting down on training costs, and getting better effort from workers — the wage increases may prove to be a wash or even produce a financial gain.

“If the other benefits from wage increases translate into at least 61% of the cost of the wage increase, an employer may find it economically beneficial to raise employee wages,” the authors write. This is a realistic threshold for many of the chains in the study, the authors note. Because their analysis deliberately focused only on hourly wages, it probably underestimated the overall benefits from paying increased compensation. For example, companies might be able to exert more influence over their employees’ honesty by linking bonuses to how little stock or cash disappears on their shifts.

Relatively higher wages also promote ethical responsibility, the authors say. Their analysis found that the presence of co-workers was more likely to lead to theft, especially of inventory. But this effect was significantly reduced among higher-paid workers, suggesting that wage levels influence the behavior of co-workers. “In industries or businesses that use multiple workers to staff a store or a retail outlet, it’s even more beneficial to pay a wage premium,” the authors note in a press release.

The study’s takeaways can be applied to a wide range of everyday service and retail businesses, such as restaurants and department stores, the authors write. In these settings, where there are large variations in the way employees are monitored, the payoffs from stealing are not high enough to offset a higher wage. (However, this is not the case for employees working in venues like casinos and jewelry stores, where a one-time theft could be a literal jackpot.)

This study aligns with some other research that has found paying more to higher-ranking executives cuts down on fraud, while underlining the need for managers to create an optimal pay structure. Managers should bear in mind, the authors write in citing the conclusion of an earlier researcher, that “paying higher-than-market wages helps companies effectively manage their employees as a way to produce sustainable competitive advantage.”

Bottom Line:
Retail employees who earn a higher wage than their peers are less likely to steal money or inventory. For the companies in this study, savings on pilfered cash and goods paid for almost 40 percent of the wage increase, and the rest of the wage costs were potentially covered by reduced employee turnover and other positive side effects.

 
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