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After studying this chapter, you should be able to:
1. Explain employer concerns in developing a strategic compensation
program.
2. Indicate the various factors that influence the setting of wages.
3. Differentiate the mechanics of each of the major job evaluation
systems.
4. Explain the purpose of a wage survey.
5. Define the wage curve, pay grades, and rate ranges as parts of
the compensation structure.
6. Identify the major provisions of the federal laws affecting
compensation.
7. Discuss the current issues of equal pay for comparable worth, pay
compression, living-wage laws, and low wage budgets.

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9.0 INTRODUCTION

Compensation is one of the most important functions in Human Resource

Management. Even though it is difficult and challenging activity, it helps strengthen
the culture and the important values of an organization. Indirectly, compensation is
an important tool to increase employee motivation in improving work performance so
that the organization’ strategic objectives are achieved. Compensation should not
only be able to motivate employees, but it should also attract and retain competitive
employees. Therefore, employees also expect that the compensation system of an
organization is just and fair in providing a reward system that is at par with the skills
and performance demonstrated.

9.1 DEFINITION
According to Snell and Bohlander (2010) compensation is all forms of pay or rewards
going to employees and arising from their employment. Pay is a statement of an
employee’s worth by an employer. Pay is also a perception of worth by an employee.
Meanwhile, Mondy and Noe (2009) defined compensation as reward that individuals
receive in return for their labors.

In general, compensation provides extrinsic rewards or gains to individual in the

forms of salaries or wages and intrinsic values such as recognition, promotion and
more challenging job opportunities. Compensation is what employee receives in
exchange for their work efforts.

9.2 OBJECTIVES OR BENEFITS OF COMPENSATION

Here are few objectives or benefits of compensation such as:

 To reward employees past performance.
 To enable company remain competitive in the labor market.
 To maintain salary equity among employees to reduce employee exits.
 To mesh employees’ future performance with organizational goals.
 To control the compensation budget.
 Attract qualified manpower to joint the company.
 Reduce unnecessary turnover.
 To retain and improve loyalty of current employees.

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  To encourage motivation by providing a system that able to improve
satisfaction.
 To make sure the compensation system that complies with legal requirement.
 To reward desired behavior to ensure positive attitude towards organization’s
goals.

9.3 TYPES OF COMPENSATION

There are two (2) types of compensation that need to be included in an

organization’s compensation administration programs as shown in Figure 9.1.

Financial Compensation
Financial compensation is referred to reward received by employees in term of
money which can be direct or indirect that is paid for specific purposes. It is also
known as monetary rewards. The examples of financial compensations are wages,
salaries, incentives, commissions and bonuses.

Non Financial Compensation

Non-financial refers as programs that are established by employers to satisfy
employees in term of job content and job context. It is also known as non-monetary
rewards as employees gained satisfaction through holding the posts, job
enlargement, job enrichment, job empowerment, autonomy, recognition and award or
through the working environment concerned.

The financial compensation is the main reason and initial motivator for every
employee thus fulfilling the physiological needs but the non financial compensation is
what makes the job more interesting and promising.

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 Figure 9.1: Types of Compensation

Activity 1 : Surf http://www.hr-guide.com/compensation.htm to get additional

information on compensation administration.

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9.4 STRATEGIC COMPENSATION PLANNING
Strategic compensation planning is a compensation of employees in ways that it
enhances motivation and growth, while at the same time aligning their efforts with the
objectives, philosophies and culture of the organization. A compensation policy is
one way of supporting strategic compensation planning. This is because the
compensation program is a significant part of HRM because the compensation paid
to employees represents a major cost to employers. For employees, the
compensation they receive affects how they live.

All organizations should have a formal compensation policy explaining the objectives
of the program and how it should be administered. The development of
compensation policy has to be consistent with the organization strategic objectives.
There are three (3) important aspects to strategic compensation planning.

Linking compensation to organizational objectives

Companies must understand that the value of linking its compensation systems to its
organizational objectives. Strategic compensation planning attempts to rewards
employees on the basis of their individual competencies or work contributions to
organizational success. In other words, strategic compensation planning is used to
facilitate the effective use of employees in order to achieve organizational objectives.
Therefore, compensation programs must be flexible and tailored to meet both
organizational and employee needs.

The pay-for-performance standard

The pay-for-performance standard seeks to tie employee compensation to employee
effort and job performance. This term includes a wide range of compensation
options, including merit pay, cash bonuses, and incentive pay. By stressing this
compensation policy, employers hope that employees will be motivated to perform
greater effort thereby lowering employer wage cost. The program will not succeed
when the compensation given to employees does not reward high performance. Most
employees believe that their compensation should be directly linked to their relative
performance.

Motivating employees through compensation

Compensation constitutes a quantitative measure of an employee’s relative worth.
For most employees, pay has a direct bearing not only on their standard of living, but

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also on the status and recognition they may be able to achieve both on and off the
job. Because pay represents a reward received in exchange for an employee’s
contribution, therefore, it is essential according to the equity theory that the pay be
equitable in terms of employee contributions. It is essential also that an employee’s
pay equitable with what other employees’ is receiving for their contributions.

 Pay equity
Employees expect to be paid fairly for the value of the work they perform. Pay
equity is achieved when an employee perceive that the effort, experience and
skills they bring to the job equal the rewards they receive for successful job
completion. To achieve pay equity, compensation policy must be both
internally equitable (employee believe and perceive that the wage rates for
their jobs approximate the job’s worth to the organization) and externally
equitable (similar jobs are paid relatively equal to what other employers are
paying). Figure 9.2 illustrates pay equity and feelings on being fairly paid.

Figure 9.2: Relationship between pay equity and motivation

Source: Snell and Bohlander (2010)

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  Expectancy theory and pay
Expectancy theory predicts that an employee’s level of work motivation
depends on the attractiveness of the rewards received for job completion.
When employees value the rewards received and when they have high
expectations of receiving these rewards, their motivations is great. Employees
also must believe that good performance is valued by their employer and will
result in their receiving the expected reward. Therefore employee perception
of organizational rewards can be an important factor in determining the
motivational value of compensation. Figure 9.3 shows the relationship
between pay-for-performance and the expectancy theory of motivation.

Figure 9.3: Pay for performance and expectancy theory

Source: Snell and Bohlander (2010)

 Pay secrecy
Pay secrecy is an organizational policy requiring that compensation levels
and decisions about employee compensation be kept secret and, usually,
prohibiting employees from revealing their compensation information to
anyone. Even though pay secrecy can create employee misperceptions and
distrust of compensation fairness and pay-for-performance standards,
however, pay secrecy seems to be an accepted practice in many
organizations. Pay secrecy serves to hide the inequities that arise in
compensation programs. Most employees prefer to have their own pay kept
secret. Normally organization is very secretive about their compensation
policy; how salaries for employees are determined and what employees
make.

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9.5 THE BASES FOR COMPENSATION

Employees’ compensation can be paid on an hourly basis, daily basis, monthly basis,
yearly basis or incentive basis.

Activity 2 : Find out what is the difference between the above bases of
compensation.

9.6 DETERMINING COMPENSATION

There are few factors that influence the way company determining its compensation
system or policy as shown in figure 9.4. These factors can be divided into internal
and external that combines to influence the wage rate. The combination of these
factors is called the ‘wage mix’. Figure 9.5 illustrates factors that influencing or
affecting the ‘wage mix’.

Figure 9.4: Factors of wage mix

Source: Snell and Bohlander (2010)

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 Figure 9.5: Factors affecting the wage mix
Source: Snell and Bohlander (2010)

Internal Factors
There are few internal factors that affecting or influencing the wage mix In other
words, this are the internal factors that influence the wage rate of the jobs that will be
paid.
 Employer’s compensation strategy
There are some employers who may wish to be a wage leader in the area or
industry while other employers may desire to pay an average wages or to be
a wage follower. Employer’s compensation strategy is form as a way to
achieve organizational strategic objectives. The development of this strategy
has to be focused on a few questions such as:
 The purpose of giving the rewards to employees
 The relationship between rewards and results achieved by the
organization.
 The employer’s ability to give rewards to employees.
 The types of employees desired by employers.
 Types of rewards (fixed cost or variable cost) employers want to offer
to employees.
 The frequency of salary structure revision.
 The decision either to scatter or to centralize the wage management.
 Employers pay policies that reflect internal wage relationship among
jobs; competitors’ wages as well as various or incentives.

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 For example is companies with the attitude of “wage leader” can obtain and
retain good workers. Job hoppers are likely to stay on to this kind of company.
Plus, the good trademark of “wage leader” can give additional impression of
quality, solid financial based company among the society and client compared
to “wage follower” company that will face problem like job leavers and skilled
workers that resigned to get a better paid job.

 Worth of job
Some jobs are worth more to the organization than the other jobs. Usually,
the more important jobs will be paid more than the less important jobs. Job
values however, should be based on the total value delivered to the
organization. Moreover, valuing work properly serves to attract and retain the
right talent to drive organizational performance. For example, supervisor
receives higher salary than a production operator because of the workload
and the everyday challenging tasks to deal with machinery, chemical mixtures
as well as managing subordinates.

 Relative worth of an employee

Employees can improve their worth to the organization by working smarter or
harder or by acquiring advanced skills or job knowledge. When this occurs,
they receive merit raises based on their performance appraisals. More
importantly, employee performance and the contribution made to the
organization determine their value to the organization.

 Employer’s ability to pay (organizational profitability)

National or regional economic conditions, competition from domestic or
foreign competitors and strong or poor managerial policies and practices can
influence the employer’s ability to pay. Competition and recessions can force
prices down and reduce the income from which compensation payments are
derived. In such situations, employers have little choice but to reduce wages
or lay off employees or even worse, to go out of the business. In addition, an
organization’s ability to pay is determined partly by the productivity of its
employees.

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 External Factors
Some of the external factors that influence how the wage rates are:
 Labor market conditions
The labor market reflects the forces of supply and demand for qualified
employees having specific skills, abilities or educational levels and this factor
does influences the wage rate. Usually the employee with a better education
and experience will be rewarded with a better payment compared to lower
level of education workers. For example, Petrochemicals Engineering
graduates would receive a higher salary because demand for that skill and
ability is high compared to accounting graduates.

 Area wage rates

The wages paid to jobs in different organizations influence other
organization’s wage rates within the area. Organizations have to conduct
external scanning in the labor market to review the relationship between
demand and qualified manpower supply before salary policy is set. The
information needed includes the differences between local wage rate and city
and suburban wage rate. In addition, the information about the different wage
rates for works from the same work groups as well as the different wage rates
in the same industry also helps to set the salary policy. This is to prevent the
rates for jobs from drifting too far above or below those of other employers in
the area.

Area wage rate serve as the important function of providing external wage
equity between organizations that competing for labor in the surrounding
labor market. For example, basic salary paid for clerk in Petaling Jaya,
Selangor is around RM1000.00 compared to Tanjung Karang, Selangor which
is around RM700.00. This is because the increase of cost of living in the
urban area. If the wage rate is equal between urban and local areas, there is
nobody would stay and work in Kuala Lumpur because the salary is not
enough to continue the living.

 Cost of living
Because of inflation, compensation rates that include the cost of living must
be adjusted periodically to help employees maintain their purchasing power.
Employers can make the adjustment with the help of the Consumer Price

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 Index (CPI) or some other general economic measures. For example, when
cost-of-living-adjustment (COLA) was introduced by the government, the
adjustment in allowance was made based on changes in CPI.

 Collective bargaining
Employees who work under a union contract may receive wage increases
through wage clauses found in the collective agreement. Therefore, the
effects of collective bargaining by the employee union can be a major
influence of the wage mix. The high wages of some occupations are
attributed to the union’s power to demand high wages. For example, union
that represents the employees will ask for higher salary from their employer in
the collective bargaining process.

9.7 JOB EVALUATION SYSTEMS

Organizations formally determine the value of jobs through the process of job
evaluation. According to Snell and Bohlander (2010), job evaluation is defined as a
systematic process of determining the relative worth of jobs in relation to other jobs in
order to establish which jobs should be paid more than others within an organization.
The goal of job evaluation is to achieve internal equity during the salary
system formation.

In other words, job evaluation helps to establish internal equity between various jobs
in which wage paid is equal to the value of the job. Job evaluation is a common
method to compare the relative values of different jobs in order to provide the basis
for a rational pay structure. Table 9.1 illustrates the four (4) basic methods to
categorize jobs and determine the relative value of a specific job. The four (4)
methods to evaluate worth of jobs are as follows:

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 Table 9.1: Job Evaluation Methods
Source: Snell and Bohlander (2004)

Job ranking system

Job ranking system is the simplest and oldest system of job evaluation which array
jobs on the basis of their relative worth. All organizational jobs are simply ranked or
arranged based on the position of individual in the organization hierarchy. Rankings
are based on some critical factor to job success or ranking can be based on the total
importance of the job to the organization. In other words, the more critical of the job,
the more higher the position of the job will be placed in the organization.

Usually, in job ranking system, the raters examine the description of each job,
evaluate it and arrange the jobs in order according to their value to the company.
Table 9.2 shows a sample of job ranking system in a typical hotel industry.

Rank of Order Job Salary

1 Manager RM 2500
2 Assistant manager RM 1500
3 Accounts clerk RM 700
4 Reservation clerk
5 Hotel receptionist
6 Chief cook
7 Kitchen assistant
8 Waiter
9 Laundry maid RM 400
10 General worker

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Table 9.2: Sample of Job Ranking System in type of occupation in the hotel industry

Job classification system

Snell and Bohlander (2010) defined it as a system of job evaluation in which jobs are
classified and grouped according to a series of predetermined wage grades. In
classification system, a predetermined number of grades are established. Each
grade requires more skill, responsibility, or other factors deemed important to the
organization. Once the grades are defined, a job is slotted into a grade by comparing
the individual job description to the grade descriptions. Usually, in job classification
system, the raters define a number of classes or grades to describe a group of jobs,
evaluating each job and place the job in the most closely agreed class/grade. Table
9.3 shows a sample of job classification system.

Job Title Class / Grade

(University Lecturer)

Tutor / Young Lecturer DM41

Lecturer DM45 / DM46
Senior Lecturer DM48
Associate Professor DM54 / DM53
Professor VK 7

Table 9.3: Sample of Job classification system

Point System
This method involves evaluation based on main job factors known as compensable
factors such as education level, skills, working conditions, efforts and responsibilities.
Total points are assigned to jobs based on the degree to which job possess different
compensable factors. Each compensable factor will be assigned with a weighting.
Usually, the raters assign numerical value to specific job components, calculate or
sum the values and provide quantitative assessment to show the worth of the job.
The number of compensable factors use depends on the nature of the organization
and the jobs to be evaluated. For example, education is considered extremely
important to the organization, it could be assigned a weighting of 50% as shown in
Table 9.4.

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 Note: Degree of factors represent levels of difficulty associated with each job factor.

Job Factor Weight Degree of Factor

1 2 3 4 5
Education 50% 50 100 150 200 250
SPM Diploma Degree Masters Doctorate
(PhD)
Responsibility 25% 25 50 75 100 125
Physical Effort 15% 15 30 45 60 75
Working 10% 10 20 30 40 50
Conditions

Table 9.4: Sample of Point system

Factor Comparison System

Factor comparison system is a job evaluation system that permits the evaluation
process to be accomplished on a factor-by-factor basis by developing a factor
comparison scale. The compensable factors of a job evaluated are compared against
the compensable factors of key jobs within the organization that serve as the job
evaluation scale (Snell and Bohlander (2010).

Usually, the raters identify several evaluation factors, determine degree of difficulty of
each job according to the factor scales and rank the money allocation appropriate for
the job. The allocation rank is based on the value of the job based on comparison of
several factors. The worth of a job is then obtained by adding together all the factor
values. The more factors needed to do the job compared to other jobs, the more
money is allocated to it as illustrated in Table 9.5.

Scale Mental Skill Physical Responsibility Working Condition

4 Manager Manager Manager

3 Officer Officer Clerk
2 Officer Officer Clerk Officer
1 Clerk Clerk Manager Clerk Manager

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 Factor Value of the Job

Job Mental Skill Physica Responsibilit Working t

l y Condition value
Manager 4 4 1 4 1 14
Officer 2 2 3 3 2 12
Clerk 1 1 2 1 3 8

Table 9.5: Sample of Factor Comparison System

Activity 3 : Surf http://www.hr-guide.com and get the definition on job

evaluation and the four importance of the job evaluation process.

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9.8 COMPENSATION STRUCTURE

Job evaluation systems provide for internal equity and serve as the basis for wage
rate determination. However, the job evaluation does not determine the wage rate.
The wage rate whether it is paid on an hourly, weekly or monthly is determined
through wage or salary survey. In other words, the evaluated worth of each job in
terms of its rank, class, points or monetary worth must be converted into an hourly,
daily, weekly or monthly wage rate.

According to Mondy and Noe (2009), compensation structure also known as job
pricing which helps to determine the absolute value of the jobs. They defined
compensation structure as the process of placing money value on the worth of the
job and making decision whether all individuals performing the same job will receive
equal or different pay. It can be done through wage survey, wage curve, pay grades
and rate ranges.

Wage Survey
Wage survey is a set of facts related to practices in wage structure which are
obtained from other organization in the same labor market. For example,
organizations which are categorized in the electronic industry cannot compare their
wage structure with organization in the education industry. Once the pay surveys are
conducted, the information gathered are then use to develop a company’s pay
structures, which will eventually result in pay grades and pay range for each job. Pay
surveys provide external inputs to a company’s pay structure.

Snell and Bohlander (2010) defined salary survey as a survey of the wages paid by
employers in an organization’s relevant labor market either local, regional or national
depending the job. It is the wage and salary survey that permits an organization to
maintain external equity that is to pay its employees wages equivalent to the wages
similar employees earn in other organization. When job evaluation and wage survey
data are used together, they ink between internal and external equity.

 How to Collect Wage Survey?

There are few ways that employer can do in order to conduct salary survey as
follows:

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 1. Using salary survey conducted by other organization such as survey
data done by government agency, trade union or NGOs.
2. Using HRIS and salary survey such as obtain a variety of wage and
benefit survey data from public and commercial websites. For
example using salary wizard or http://www.salary.com.
3. Using employer own initiated survey in which employer conduct own
survey to get the information on wage or salary in the current market.

 Steps in Conducting Employer Own Initiated Wage Survey

1. Selects key jobs to be used in the survey.
2. Determine relevant labor market
3. Identify and survey organization competitors in the same labor market.
4. Decide on the information to be collected (wages/benefits).
5. Compile data received from the survey (tabulate the results).
6. Determine wage structure and benefits pay.

Activity 3 : Surf http://www.salary.com. And find out information about salary

survey.

The wage curve

After an organization obtains information on wage rate from its competitors, the
organization will construct a wage curve to connect the information with the result
from a specific job relative value. The wage curve shows the relationship between
the relative worth of jobs and the wage rates as shown in figure 9.6. The wage curve
also can be simplified using the example below as shown in Figure 9.7.

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 Figure 9.6: Wage Curve
Source: Snell and Bohlander (2010)

Figure 9.7: Wage Curve for Administration Positions

Pay grades

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Usually, similar jobs are normally grouped together known as pay grades. All jobs
that falls under a same pay grade are paid the same wage rate. This is
administratively easier than paying each individual job a different rate range.
Generally, group of jobs within a particular class or grade are paid by the same rate
or rate range. Figures 9.8 and Table 9.6 illustrates the job pricing using pay grades.

Figure 9.8: Pay grade

Source: Snell and Bolander (2010)

Job Code Job Title Pay Grades

(RM)
NE001 Officer (Sales/Finance/HR) 2000-3000
NE002 Supervisor 1700-1999
NE006 Storekeeper 600-799
NE011 General Worker 0-499

Table 9.6: Determining Compensation Structure through Pay Grades

Rate ranges

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 Although a single rate may be created for each pay grade, it is common to provide a
range of rates for each pay grade. The rate ranges may be the same for each grade
or proportionately greater for each successive grades as shown in Figure 9.9.
Usually, in determining the rate ranges, the minimum and maximum pay rate with
enough variance between the two is used to allow for significant pay difference. The
purpose to create the maximum and minimum rate ranges is to permit an employee
with experience to earn as much as more than a person with less experience as
shown in Table 9.7.

Figure 9.9: Rate ranges

Source: Snell and Bohlander (2010)

Job Job Title Pay Grades Rate Ranges

Code (RM/per month) (RM/per month)

E00 Senior Manager RM7000 – RM8500  Marketing RM7500

1 (Min to Max)  Finance RM7300
 Operation RM7200
 HRM RM7000

E00 Engineer RM2500 – RM5000  Civil RM2500

4 (Min to Max)  Mechanical RM2600
 Electrical RM2700
E00 Company RM1600 – RM3500  ACCA RM3000
6 Secretary (Min to Max)  ICSA RM2800
 BCA RM2300
E00 Executive RM1500 – RM3000  Operation RM2600
7 (Min to Max)  HRM RM2500

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 Table 9.7: Determining Compensation Structure through Rate Ranges

Competence-based pay
The predominant approach to employee compensation is still the job-based system.
Therefore, competence based pay is used to reward employees for their skills or the
knowledge they possess or to encourage them to learn a new-job related skill.
Competence based pay is also called as skill based pay or knowledge based pay,
employees are paid for the skills and knowledge rather than for the particular wage
class their job falls into. Employees will receive a pay increase when a skill or
competency is learned measured against a predetermined standard. In other words,
it is rewards system based on competencies in which encourage employees to
increase their job-related knowledge and skills.

For example, a clerk with no working experience will receive a starting pay of RM600
whereas a clerk who has work experience in another organization will be offered
RM800. The main objective of competency based is to achieve individual equity
which refers to the fairness in determining wage payment for employees in the same
position.

Activity 4 : Now that you have understood job evaluation and compensation
structure, find out what is the difference between job evaluation and
compensation structure.

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9.9 SUMMARY

Good compensation planning is crucial to a company’s success. This is because it

provides the company with both intrinsic and extrinsic rewards to its employees,
which will eventually lead to high effort, motivation and productivity. Companies must
be aware that a sound compensation planning and management will be a result of
organizational climates that fosters equity and must relate to employees work
performance. The performance management for compensation must also
quantifiable, easily understood and appreciated by organizational members.

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1. Explain competence based pay including its advantages and
disadvantages.
2. Discuss the motivating value of pay equity and pay expectancy for
employees.
3. Identify the steps involved in the process of establishing pay rates while
assuring external and internal equity.
4. Identify factors related to the employee that are essential in determining
financial compensation.
5. Explain the concept of equity in financial compensation.
6. Describe the organization as a determinant of financial compensation.
Discuss the wage curve, pay grades and rate ranges as parts of the
compensation structure.
7. Explain the purpose of wage survey.
8. Explain the employer concerns in developing a strategic compensation
program.
9. Indicate the various factors that influence the setting of wages.
10. List the basic factors to determining pay rates.
11. Define job evaluation and discuss methods of performing job
evaluation.
12. Discuss how to establish pay-for-performance system.
13. Differentiate the mechanics of each of the major job evaluation
systems.
14. Explain why merit raises may fail to motivate employees adequately
and discuss ways to increase their motivational value.

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 Study Notes

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