Is it Time to Recalibrate Your Compensation Strategy?

With business needs, employee demands, and talent marketplace trends constantly evolving, making decisions about compensation can be like trying to hit a moving target. 

While benchmarking data can help guide decisions around hiring budgets, compensation bands, and pay increases, many leaders are also having to re-evaluate whether their compensation philosophy supports increasingly distributed workforces and demands for greater pay transparency. 

A conversation with leaders in The Circle revealed some of the most significant compensation challenges growth-stage companies face and how they’re addressing them amidst market uncertainty in 2023.

Compensation and Merit Increases Continue Despite Volatility 

Market volatility hasn’t yet impacted 2023 compensation budgets, according to a survey of people leaders in The Circle. Final compensation budgets for 2023 were in line with projections and increased by an average of 10% year-over-year. Meanwhile, merit and tenure increases grew on average by 4% year-over-year, but were about 2% less than what leaders projected to pay out at the end of 2022. 

Analyzing data across millions of companies in the U.S., Wai Wah Pak of ADP DataCloud, revealed that base salary and variable pay had increased incrementally over the last six months, especially in the high tech sector. “We typically see median merit increases hover between 2-3.5%,” she said. “In 2023, merit increases are projected to be 4.3%, the highest since right before the financial crisis around 2007.”

Many leaders anticipate having to tighten compensation budgets as their companies seek to preserve cash. When that happens, they will likely need to reassess their approach to communicating and aligning expectations with their employees.

Transparency Can Yield Better Results

More companies are leaning into pay transparency, both in response to new pay transparency laws and to create a better dialogue on compensation with their employees. Finance and people leaders are fielding more questions from employees about equity, inflation-based compensation, and the methodology behind merit increases and bonus programs. 

“We were hearing from our managers that conversations about compensation were tough, so we decided to cut all the jargon and have clearly-defined messaging coming from the People Team,” one CHRO said. Another CHRO shared that revealing more detail about the company’s pay philosophy helped level-set employee expectations around performance. “We share our nine-box for evaluating performance with all our employees so that every employee or new hire knows how they’re going to be evaluated and what criteria will influence that,” she explained.

Remixing Equity, Cash, and Bonuses

We heard from several leaders that cash constraints are pushing companies closer to a 50/50 split between cash and equity for employees. However, the shift towards more equity is becoming more precious as companies begin to navigate down rounds and  lower 409A valuations. To maintain the incentive value of their equity packages, more companies are considering or actively repricing underwater stock options or shifting to RSUs, and are having to spend more time contextualizing the value of their equity amidst long-term market uncertainty.

Competitive base salaries are still the preferred method for recruiting and retaining talent. Most companies on the call anticipate continuing to benchmark salaries to the 75th percentile for technical roles and the 50-65th percentile for non-technical roles.  

Leaders were split on bonus programs, with some preferring to use them to offer upside incentives and others eliminating them entirely. One CFO noted that companies considering implementing a bonus program in 2023 may have a difficult time achieving the desired incentive response: “Coming out of 2022 when a lot of bonus programs didn’t hit the 100% mark, it’s hard to introduce bonuses and not make it sound like the company’s trying to offload the risk of payout to the employee.”

Geo-Differential Pay Continues to Evolve

Location-based pay remains one of the most challenging aspects of compensation for companies with distributed workforces. Leaders are having to introduce multiple location-based pay bands, while others have embraced fully-remote workforces with one compensation range for all employees regardless of location.

The consensus among leaders was that geo-differential pay can’t just be a cost-saving measure and ultimately needs to ladder up to the company’s broader compensation philosophy. As one leader summarized, “whether you want to encourage employees to move closer to HQ or you’re planning to fully embrace remote work, employees need to understand your compensation philosophy and how it incentivizes where they live and work and also feel that it’s not just about saving the company money.”

Another challenge many leaders are facing is different expectations among employees when it comes to cost-of-living and inflation-based salary increases. “An employee in the Bay Area is going to argue for a higher inflation-based increase than someone in a lower cost living area,” said one CFO. Rather than trying to placate the masses, leaders may need to be willing to calibrate expectations among employees in high-inflationary areas. “Coming out of the seasons of cost-cutting and austerity, it’s just not feasible for employees to be expecting 9% or 10% raises despite an increase in living costs,” said one CFO.

The Takeaway:

Compensation remains an evolving challenge, and one that may require special attention as the macroeconomic environment remains uncertain. In addition to benchmarking base salaries and merit increases against peers, leaders can benefit from having deeper conversations about their compensation philosophy and how it resonates with different employee groups throughout the business. 

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