Spring 2013 Master of Business Administration- MBA Semester 4 MU0015 Compensation Benefits - 4 Credits (Book ID: B1336) Assignment

t (60 Marks) Note: Each question carries 10 marks. Answer all the questions.

Q1. Discuss the elements of compensation package. The primary elements of a compensation package are: i. Base Pay:

(10 marks)

Base Pay is the fixed rate of compensation that an employee receives for performing the standard duties and assignments of a job. Employers need to ensure that base-pay programs are designed to reveal market practices within their identified competitor group. To achieve this organisations must first identify their competitive market. This can be achieved by considering different factors, including the nature of the industry, geographic location, total employment and annual revenue. Next, they need to conduct an assessment of market pay practices for similar jobs within the recognized competitor group. This assessment should involve the duties, skills, and impact levels of each job evaluated that is, each job of similar size and scope. Then a pay structure for managing the competitive base-pay levels for the jobs throughout the organization should be developed. Pay structues typically consists of series of pay ranges or bands that reveal competitive rates of pay for specific jobs, as well as allowing room for salary growth. Jobs of similar value from both the market point of view and an internal point of view are together. Then a competitive pay range is developed around the market rates for the particular jobs. ii. Variable Pay: Performance based variable pay continues to achieve momentum as a more successful way to identify and reward employees performance. Also known as pay-per-performance, variable pay is popular in todays corporate world. By including percentage of variable pay in the compensation plan, organisations ensure that two people with different efficiency levels do not get the same benefits. By doing this the company rewards productivity and hardwork and motivates the under-performers to work hard. Once limited to senior management levels, the incentives and bonus plans are redesigned to reward the achievement of specific company or employee performance objectives. In a variable pay plan the size of award varies among the employees and from one performance period to another, based on levels of achievements measured, as well as against pre-established company and employee performance targets. Amounts are usually calculated as a percentage of base-pay depending on Job category and position. Rewards

are normally paid in cash on an annual, semi-annual or quarterly basis depending on the plan design. Plan designs range from sales-commission types to individuals incentive or bonus plans or team awards. The main idea of these programs is to reward innovation and hard work and to discourage mediocrity in performance. iii. Skill and Competency-based pay: Skill-based pay offers employees extra compensation when they have new skills especially recognized by the company as essential to achieve a competitive advantage. Skill-based pay can be particularly useful for employees who like their current jobs are looking for new challenges. Competency-based pay is more widespread than skill-based pay because the criteria cover not only measurable skills but also knowledge, performance behaviours and personal attributes. It helps out employees to grow in the company and helps them to close the knowledge gaps needed for creative moves. iv. Long-term incentive compensation: Long-term incentive compensation vehicles, such as stock-options plans and other deferred-compensation plans, which are not usually to reward performance, are achieving plans appreciate employees based on company performance over a long term that is typically three to five years. Stock-option plans are common form of long-term compensation at public organisations. In most private companies, incentives that reflect stock plans are used for key employees. Long-term compensation plans can be valuable preservation tools for the success of an organization. They help to focus on driving and improving the key employees to achieve the financial performance of the company over a longer term Q2. List and explain various economic theories of wages. (10 marks)

The Theory of Wages is a book by the British economist John R. Hicks published in 1932 (2nd ed., 1963). It has been described as a classic microeconomic statement of wage determination in competitive markets. It anticipates a number of developments in distribution and growth theory and remains a standard work in labour economics.[1] Part I of the book takes as its starting point a reformulation of the marginal productivity theory of wages as determined by supply and demand in full competitive equilibrium of a free market economy. Part II considers regulated labour markets resulting from labour disputes, trade unions and government action. The 2nd edition (1963) includes a harsh critical review and, from Hicks, two subsequent related articles and an extensive commentary. The book presents:

labour demand as derived from the demand for output, such that for example a fall in the wage rate would lead to substitution away from other inputs and more labour use from increased production that the lower wage would facilitate the first statement of the economic concept of elasticity of substitution, a measure of the substitution effect posited above as to how much one much one factor of production (say labour) would change to keep output constant in response to a change in relative factor prices the relation of this concept and its determinants to the distribution of factor-income shares

technical change as biased or neutral (later termed Hicks-neutral technical change), depending on how it affects the marginal product of one productive factor (say labour) relative to that of another (say capital) a macroeconomic hypothesis about induced innovation that "[a] change in the relative prices of the factors of production is itself a spur to invention, and to invention of a particular kinddirected to economising the use of a factor which has become relatively expensive," including from one factor (say capital) growing at a faster rate than another (say labour) (p. 124) elements of employee-employer attachments in distinguishing regular and casual labour with an emphasis on expectations, imperfect information and uncertainty in the labour market the first-ever attempt to model a labour dispute that might end in a strike.

Q3. What is pay structure? Explain why it is necessary to develop a proper pay structure. Explain the method to develop pay structure. (2+ 4+ 4 marks) A company's pay structure is the method of administering its pay philosophy. The two leading types of pay structures are the internal equity method, which uses a tightly constructed grid to ensure that each job is compensated according to the jobs above and below it in a hierarchy, and market pricing, where each job in an organization is tied to the prevailing market rate.

A company needs job descriptions for all its positions so that people know where they fall within the organization. A pay structure helps answer questions about who's who, what each person's role is, and why people are compensated differently. It also helps human resources personnel to fairly administer any given pay philosophy. For example, a company might want to pay everyone at market; or pay some people at market and some above it. Opportunities for incentives are also dealt with in the pay structure. For example, people with strategic roles will likely have opportunities for higher incentives.

Outsource if necessary Many firms have one or more in-house compensation consultants who

can set up a pay structure consistent with the company's pay philosophy. Small organizations and other companies without the resources to hire a compensation consultant can either train someone in how to set up a pay philosophy, or outsource this service.

Start with a payroll budget When setting up a pay structure, most companies start with a payroll budget. Senior management usually sets payroll budgets during the annual planning.

The budget for merit increases is generally kept separate from the overall budget to allow for market adjustments. Companies research what merit increases and salary movements historically have been (approximately 3.5 percent on average in recent years) and then project the budgets for market adjustments and merit increases.

If turnover is high, a company may have to move people's salaries more quickly than if turnover is low and there is more time to implement the pay structure.

Benchmark the value of each job Once it is known how many jobs are to be priced and the total amount allocated to spend, a company should benchmark as many jobs as possible. Benchmarking means matching an internal job to an external job of similar content. Make sure to benchmark jobs to job content, rather than job title. For example, a bookkeeper and an accountant I may seem similar, but a comparison of the job descriptions should reveal the job to which isreally being matched.

When benchmarking, the market value goes to the job, not to the person filling it. Price "spaces, not faces." In order to make the best use of an organization's resources, it is important for a company to

acquire survey data for similar companies. Salary Wizard Professional (for small businesses) and CompAnalyst (for large businesses) are a great place to get data that represents organizations of similar size, industry, and location.

In small companies people are often called upon to fill hybrid jobs - for example, a person might be asked to be both HR manager and office manager. It is important to review the data for each of the components of the hybrid job, and develop a market price accordingly. Q4. Explain the components of wages. marks) Minimum wages need to be fixed in sweated industries & fair wage agreements need to be promoted in the more organized industries. Equal pay should be ensured for equal work. Wage differentials should be provided. Remuneration should be linked to productivity. There should be compensation for any rise in the cost of living. Fair wages should be determined over & above minimum wages with due regard to: Productivity of labour The prevailing level of wages The level of national income & its distribution. The place of industry in the economy of the country. The Supreme Court ruled that an employer who cannot pay minimum wages has no right to exist. The capacity to pay becomes a subject of consideration to determine fair wages. Wage System in India Wage System in India Wages should be determined on the basis of the basic needs of labour. A living wage should be secured for workers. Components of Wage System (Minimum Wages Act,1948) Fixing of minimum wages: The appropriate government shall fix the minimum rates of wages payable to employees employed in the industries specified in the schedule. Revision can take place once in five years. The minimum wage may be fixed at a time rate, piece rate, guaranteed time rate & overtime rate. Minimum rate of wages: It consists of A basic rate of wages & a cost of living allowance. A basic rate of wages & a cost of living allowance & the cash value of the concessions in respect of supplies of essential commodities of concession rates. Working hours: The Government has fixed 48 hours per week. Components of Wage System (Cont) (10

Overtime: Where an employee works on any day in excess of the number of hours constituting a normal day, the employer should pay him the overtime rate as three times the daily wage.

Q5. Describe Cost-to-Company and its components. marks)

(10

Ans. Cost to Company (CTC) is a term used to describe an investment without return. Travel expenditures, interviewing, spending time with potential customers can all be interpreted as CTC's. Cost to Company can also be used to refer to the total cost that an organization is spending towards their employee including the Salary, Perks, Cost related to benefits, Cost related to hiring, Training, Retrials, Statutory Contributions etc. Here is more input:

Cost to Company is a buzz word to describe how the company can slowly pay you less and less, and remove all your benefits, until you are "self funded" - in other words you pay for all your "benefits" yourself, while the company receives the tax benefits for these payments. This improves their profit ratio, and if this system is extrapolated, you will eventually pay the company to work there. So you'll need a second job to fund this. :-) CTC - Cost to company is a trick of a company and HR department, to show we are paying a big salary, but unfortunately it is just bubble. They overload total expenses of human resources on salary, and show that they are paying this much salary to the staff. But actually they pay less and show more. For example....your salary is 6.00 Lacs p.a. Means ... you are getting 50,000/- per month. But actually person gets only 25,000/- per month...all other money is deducted for facilities.. Means we are paying for getting facilities, but company shows they are giving us good facilities in the organization. In short, we pay from our salary for getting facilities, but company says they are giving good facilities to their staff. So you are paying for even unwanted facilities which you don't need. Before deciding CTC, ask for breakup of facilities.

CTC includes various components like: Salary : It includes Basic, DA, HRA, Allowances Reimbursements : It includes bonus, incentives, reimbursement of conveyance/medical/telephone/, benefits extended through various schemes like housing/vehicle/furniture/ Air-conditioners etc. Contributions: I t includes the benefits offered by the company like PF, Super Annuation, Gratuity, Medical Insurance, etc. Some companies also offer Leave Encashment, Stock Option Plans and Non cash concessions. Tax Benefit: It includes only Stock Options.

Components of CTC: Following are the components of CTC. a. Basic b. Dearness Allowance (DA) c. House Rent Allowance (HRA) d. Medical Allowance

e. f. g. h. i. j.

Conveyance Allowance Special Allowance Vehicle Allowance Incentives or bonuses Leave Travel Allowance or Concession (LTA / LTC) Telephone / Mobile Phone Allowance.

Q6. What is Executive Compensation? Mention the different components of executive compensation. (10 marks)

Executive pay (also executive compensation), is financial compensation received by an officer of a firm. It is typically a mixture of salary, bonuses, shares of and/or call options on the company stock, benefits, and perquisites, ideally configured to take into account government regulations, tax law, the desires of the organization and the executive, and rewards for performance.[1] Over the past three decades, executive pay has risen dramatically relative to that of an average worker's wage in the United States,[2] and to a lesser extent in some other countries. Observers differ as to whether this rise is a natural and beneficial result of competition for scarce business talent that can add greatly to stockholder value in large companies, or a socially harmful phenomenon brought about by social and political changes that have given executives greater control over their own pay.[3][4] Executive pay is an important part of corporate governance, and is often determined by a company's board of directors.

Executive stock option pay rose dramatically in the United States after scholarly support from University of Chicago educated Professors Michael C. Jensen and Kevin J. Murphy. Due to their publications in the Harvard Business Review 1990 and support from Wall Street and institutional investors, Congress passed a law[citation needed] making it cost effective to pay executives in equity. Supporters of stock options say they align the interests of CEOs to those of shareholders, since options are valuable only if the stock price remains above the option's strike price. Stock options are now counted as a corporate expense (non-cash), which impacts a company's income statement and makes the distribution of options more transparent to shareholders. Critics of stock options charge that they are granted without justification as there is little reason to align the interests of CEOs with those of shareholders.[citation needed] Empirical evidence[citation needed] shows since the wide use of stock options, executive pay relative to workers has dramatically risen. Moreover, executive stock options contributed to the accounting manipulation scandals of the late 1990s and abuses such as the options backdating of such grants. Finally, researchers have shown[citation needed] that relationships between executive stock options and stock buybacks, implying that executives use corporate resources to inflate stock prices before they exercise their options. Stock options also incentivize executives to engage in risk-seeking behavior. This is because the value of a call option increases with increased volatility (see options pricing). Stock options also present a potential up-side gain (if the stock price goes up) for the executive, but no downside risk (if the stock price goes down, the option simply isn't exercised). Stock options therefore can incentivize excessive risk seeking behavior that can lead to catastrophic corporate failure.

Restricted stock Executives are also compensated with restricted stock, which is stock given to an executive that cannot be sold until certain conditions are met and has the same value as the market price of the stock at the time of grant. As the size of stock option grants have been reduced, the number of companies granting restricted stock either with stock options or instead of, has increased. Restricted stock has its detractors, too, as it has value even when the stock price falls. As an alternative to straight time vested restricted stock, companies have been adding performance type features to their grants. These grants, which could be called performance shares, do not vest or are not granted until these conditions are met. These performance conditions could be earnings per share or internal financial targets. Levels of compensation The levels of compensation in all countries has been rising dramatically over the past decades. Not only is it rising in absolute terms, but also in relative terms. In 2007, the world's highest paid chief executive officers and chief financial officers were American. They made 400 times more than average workersa gap 20 times bigger than it was in 1965.[5] In 2010 the highest paid CEO was Viacom's Philippe P. Dauman at $84.5 million[6] The U.S. has the world's highest CEO's compensation relative to manufacturing production workers. According to one 2005 estimate the U.S. ratio of CEO's to production worker pay is 39:1 compared to 31.8:1 in UK; 25.9:1 in Italy; 24.9:1 in New Zealand.[7] Controversy The explosion in executive pay has become controversial, criticized by not only leftists but conservative establishmentarians such as Ben Bernanke[5] Peter Drucker, John Bogle,[8][9] Warren Buffett.[5] The idea that stock options and other alleged pay-for-performance are driven by economics has also been questioned. According to economist Paul Krugman, "Today the idea that huge paychecks are part of a beneficial system in which executives are given an incentive to perform well has become something of a sick joke. A 2001 article in Fortune, "The Great CEO Pay Heist" encapsulated the cynicism: You might have expected it to go like this: The stock isn't moving, so the CEO shouldn't be rewarded. But it was actually the opposite: The stock isn't moving, so we've got to find some other basis for rewarding the CEO.` And the article quoted a somewhat repentant Michael Jensen [a theorist for stock option compensation]: `I've generally worried these guys weren't getting paid enough. But now even I'm troubled.'"[10][11] Defenders of high executive pay say that the global war for talent and the rise of private equity firms can explain much of the increase in executive pay. For example, while in conservative Japan a senior executive has few alternatives to his current employer, in the United States it is acceptable and even admirable for a senior executive to jump to a competitor, to a private equity firm, or to a private equity portfolio company. Portfolio company executives take a pay cut but are routinely granted stock options for ownership of ten percent of the portfolio company, contingent on a successful tenure. Rather than signaling a conspiracy, defenders argue, the increase in executive pay is a mere byproduct of supply and demand for executive talent. However, U.S. executives make substantially more than their European and Asian counterparts.
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