How to Design Your First Compensation Plan

When gone awry, compensation plans (or a lack thereof) can cause a lot of problems, including pay disparities, inequity, employee dissatisfaction, confusion, and more. 

That’s why it’s so important to get it right and to be thoughtful and purposeful about defining your compensation philosophy and building a compensation plan that aligns with it. 

In this article, we’ll cover what a compensation philosophy is and how you can use it to design your first compensation plan for your organization. 

What is a compensation philosophy? How do you build one?

According to the Society for Human Resource Management, a compensation philosophy is a “formal statement documenting the company's position about employee compensation. It explains the ‘why’ behind employee pay and creates a framework for consistency.”

During the Pando Horizons virtual event, Melanie Naranjo, the VP of People at Ethena, a compliance training platform, said building a compensation philosophy starts by defining your company’s values. It’s asking yourself, “Who are we as a company? What is it that we want to strive for? What are we optimizing for? What can we afford?”

When it came down to it, Naranjo said Ethena chose to optimize for attracting top talent, so their compensation policy reflects top-of-market value. They optimize to be at the 75th percentile or above of market value. As a result, Ethena’s largest expense is its people.

As they make offers, Naranjo and her team use their compensation philosophy to be consistent and make sure they don’t low-ball candidates. They also rolled out a “no negotiation” policy to help with that consistency; their first offer is their final offer. 

“The reason why we stand by that is because it means we aren’t forced to negotiate against ourselves. Hiring managers are incentivized to offer the highest amount that they think someone is worth from the start. You offer the most you can offer, and you have to be willing to walk away from a candidate if they say no,” Naranjo said. 

Compensation philosophy also comes down to what you can afford as a company. For example, Ethena knew it wanted to optimize for pay, so maybe there’s not as much money for benefits or perks. Or perhaps a company doesn’t have as much money to invest in pay, so they optimize for equity or flexibility. It’s about the full compensation package. 

A good compensation philosophy starts with deeply understanding your values as a company and what you want to optimize for. Then, it comes down to sticking to that philosophy and being consistent to avoid inequities.

Four steps to design and roll out your first compensation plan

Once you’ve decided what your compensation philosophy will be, it’s time to build a compensation plan. Here are four steps to design your first compensation plan:

1. Get buy-in from your executive leadership team

As with anything in business, it’s critical to get buy-in from your executive leadership team in order to design a successful compensation plan. 

One great way to do this is to involve the executive team in creating your compensation philosophy so they understand where you’re coming from, what values the philosophy is based on, what you’re optimizing for, and so on. Make sure they understand why the compensation philosophy is the way it is. 

Alexis McEvoy, the Chief People Officer at Chapter, describes this process as 80% science and 20% art. She says it’s about reminding leadership that the goal is to pay people well and to make sure the policies are fair and equitable. Make sure leadership understands market rates, especially in this fluctuating economy. 

McEvoy added that it’s critical to help your executive leadership team understand the risks if they choose to make a decision that doesn’t align with the compensation philosophy. For example, if an executive leader chooses to pay someone more than the pay band allows, help them understand the downstream effects of that decision and work to mitigate those risks. 

In the end, it’s about reminding leadership what they’re optimizing for, what the ultimate goal is as a company, and what kind of company they want to be.

2. Create standardized job levels and pay bands

A critical element of any good compensation plan or policy is to create standardized job levels and pay bands across the company. Group similar roles into job levels (or families, as some organizations call it) with a similar set of required competencies and skills. Then, create standardized pay bands for each job level.

Job levels and pay bands not only make it easier to design an equitable, transparent compensation plan, but they also make it easier for employees to understand where they stand in the organization and what’s required of them to move up. Too many companies skip job leveling and pay bands and assign compensation based on who’s willing to negotiate, which immediately leads to pay inequities company-wide. 

“It’s creating clarity and transparency for your employees who might be sitting there wondering, ‘How did you decide that this is how much I’m worth?’ You can point to something that’s public and show them where they fall on it and how you came up with it,” Naranjo said. “Anything that you can put in writing, that you can share with your teams, is always going to help.”

Learn how Pando can help you establish standardized job levels with competencies, skills, and compensation tied to each level. Schedule a demo.

3. Decide how you’ll pay across regions

If you’re designing a compensation plan for a hybrid or remote workforce, in particular, one very important early decision to make is how you’ll pay employees across regions. Will you pay based on the cost of living in each region? Will you pay the same across all regions? Will there be a tiered structure? Will you use different bands for different countries? Something in between?

Naranjo said Ethena uses a blended model. They blend all US markets together and pay the 75th percentile or above of that. While that can be super competitive for candidates from some markets, it might look less attractive to candidates from more expensive markets like San Francisco and New York City. Naranjo said the company has to be okay with that. 

“Candidates are welcome to feel how they like about it. Our job is to be really transparent and upfront so that when you join the company, you know that this is something you’re signing up for,” Naranjo said. “Some people might not be okay with that, and that’s okay. Maybe Ethena is not the company for you.”

“Embrace who you are, and don’t be scared to scare people away. The people who want to join based on your compensation philosophy as it is are, ideally, probably more likely to stick around,” Naranjo said. 

McEvoy said that if you’re not willing to be honest and transparent about something, you should ask why and work through what might actually be blocking you. More often than not, it’s better to be forthright.

“If you don’t give them the story, they’ll create it themselves. And you have no control over what people create when you're not there to help move them in the right direction,” McEvoy said. 

One thing to keep in mind as you decide how you’ll pay across regions is the amount of administrative time it will take to pay differently based on region. Someone (likely on your team) will have to create that tiered structure and enforce it. Can your company afford that administrative time? Or is it ultimately more cost-effective to pay the same across all regions?

It’s also important to remember that this policy is not static. Your company can change it at any time based on the market or the company’s goals. (Just remember to state that in your compensation policy clearly!)

4. Decide how to roll out your compensation plan

First and foremost, it’s crucial to have leadership alignment before you roll out your compensation plan. And make sure you have everything written down. 

Once you have that in place, consider hosting a training for all of your managers. That way, you can train them on the compensation philosophy, how salary bands work, and how it all applies to performance reviews. 

Then, you can put out an FAQ that answers all the basic questions about your compensation philosophy and tackles the controversial questions you anticipate you’ll get. Make sure you store that information in a place that’s visible and easy to find. 

This is how Naranjo and the people team at Ethena handled the rollout of their compensation plan; they embraced the challenge and optimized for proactive transparency.

“We just answered the tough questions,” Naranjo said. 

Jacqueline (Jac) Meyer, Chief People Officer at Boll and Branch, added that it’s important to always share your compensation philosophy and salary band information with new hires, as well. 

McEvoy describes a good rollout plan as a pyramid. The smallest set of people who need to be in sync on the high-level compensation philosophy is at the top, and then you move down to managers, individual contributors, etc. 

“As you define those groups, ask yourself, ‘What do people currently think? What do they need to understand? And what is most important for us to make it a scalable thing that folks can run with on their own versus us having to field every single question?’” McEvoy said. 

“By doing that thought exercise upfront, it will help you figure out your communication strategy better, as well, as you filter down to larger groups,” she said. 

Conclusion

Designing your first compensation plan and rollout strategy is undoubtedly a challenge. But if you start by creating a strong, leadership-aligned compensation philosophy and use that as the basis for your compensation plan, you’ll automatically be one step ahead.

Learn how Pando can bring your compensation plan to life in an equitable, transparent way. Schedule a demo. 

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