How to Diagnose, Prevent, and Cure Pay Compression

There’s at least one in every class.

I teach a Compensation Management seminar, and every iteration there’s at least one person with the same problem:

“We have a chronic issue with compensation compression.”

They’re right to call it chronic, because it’s a potentially fatal diagnosis for any company.

First of all, what is compensation compression?

Pay compression happens when new hires are brought in at higher salary levels than current incumbents in the same jobs. As the organization grows, the hiring rate increases. As the hiring rate increases, the symptoms worsen. Over time, reading the side effects of pay compression will sound like one of those drug commercials: incumbent employees grow resentful, your labor costs get out of control, you lose sight of your pay philosophy, and so on. It’s not good.

Here are 6 potential signs that your organization is experiencing pay compression:

  • Over the last few years, you’ve focused on hiring hot skills in low supply and high demand.
  • You employ a high percentage of long-service employees.
  • You’ve frozen salaries over multiple years.
  • You’ve reduced merit budgets over a lengthy period of time.
  • Merit increase programs have been delivered as across the board increases.
  • Your salary ranges have not kept pace with market trends.

Do I Have a Problem with Pay Compression?

Do any of those sound familiar? To assess if you have a pay compression issue you need to perform an internal equity analysis.

1. Review all recent hires, including new college hires, and see if their pay is higher than incumbents in the same roles.

2. Next, evaluate each employee in those positions where new hires were brought in at a higher pay rate and review their performance and current pay.

3. Once you have all the data, you can decide if individual market pay adjustments should be made to bring long service employee salaries in line with competitive market salaries.

4. Once you’ve taken corrective action and cured current pay compression issues, it’s time to implement a pay “wellness” program to prevent it from occurring again. An effective pay wellness program will include:

  • Performing a competitive market analysis on a yearly basis, similar to an annual checkup.
  • Reviewing hiring practices, including an internal equity check before making a salary offer.
  • Instituting pay for performance merit increases that allow differentiation between performers.
  • Adjusting salary ranges regularly to keep them competitive and healthy.

Just like any health concern, pay compression will only get worse over time if it’s not addressed quickly.

Lucky for you, the doctor is in! Let me know if you need a prescription.

Note: If you enjoyed this article, check out my new bestselling HR book Pay Matters: The Art and Science of Employee Compensation.

© 2020 David Weaver. All rights reserved.