The term compensation refers to all forms of financial returns and tangible benefits that employees receive as part of an employment relationship.
Compensation is typically divided into direct and indirect components. Direct compensation refers to financial remuneration, usually cash, and includes elements such as basic salary, overtime pay, bonuses, commissions and so forth.
Indirect compensation refers to the general category of employee benefits such as insurance schemes, vacations, sick leave, executive perquisites and so forth.
Compensation practices have important implications for organizations, individuals and society as a whole. Organizations are concerned with pay, not only because of its importance as a cost to doing business but also because it motivates important decisions of employees about taking a job, leaving a job and working on the job.
Employee benefits are in direct forms of compensation that are intended to maintain or improve the life of employees. They are means of attracting, retaining and motivating employees.
Factors that influence the level of compensation and benefit packages
• The ability of the firm to pay the wages/salaries and other benefits. This particularly refers to the firms’ financial position, it may want to give huge salaries but may not be able to afford it.
• The availability of the required personnel in the job markets i.e. the supply and demand of labour especially for technical, professional and managerial positions. If only a few people possess a given skill, their bargaining power will be very high. If more of them are available then their salaries will be less competitive.
• Compensation levels of other firms demanding the same personnel. Most firms strive to remain competitive even in terms of pay so that they don’t lose their personnel to competitors who pay more. In fact some firms readjust salaries to match those of competitors.
• Government policy. Usually the government sets the minimum wage and at the same time, gives regulations for equal pay for performance so that no one is discriminated against.
• External economic constraints such as inflation and interest rates. The environment in which a firm operates affects it directly and when there is a slump in the economy, it suffers and will not generate enough to compensate employees as may be planned.
• Trade unions – these increase the bargaining power of workers and an agreement may be reached to alter the existing compensation structure.