It's Cheaper to Pay Them than Lose Them

Paying people is expensive. It is likely to be the most costly annual expense at your company. Paying people more is even more expensive.  As they say, that is just math.

Ignoring that last fact for a minute, is paying people more truly more expensive? Perhaps not.

I was speaking to the Head of HR at a small, talent-intensive company. We were discussing the cost of long-term incentives as related to their compensation philosophy of paying between the 50^th and 75^th percentile. Adding equity effectively and economically is always a challenge.

While discussing this, she stated very simply: “It’s cheaper to pay than to lose people.” Everyone reading this post knows it’s true, but we often get lost in the arcane acts benchmarking and leveling and forget a key objective of every pay program. In the end, it is the job of the compensation department to ensure the company can operate and perform at its peak. We do this by allowing managers to hire and keep the right people.

How much does it cost to replace an employee? Recruiting costs and training costs run between 10% and 200% of base pay. The low end covers positions where turnover is expected (or required) to be high. The high end includes executive positions, “hot jobs” and other jobs with limited talent pools and/or extensive training needs.

How much cheaper is it to pay people? At the lowest levels, the pay game is often about managing turnover. Paying a bit more may not have a huge impact. Treating them better, making the workplace culture more inviting and recognizing their effort and success can be game-changers for hourly staff and has little downside throughout an organization. Starbucks has an incredibly low turnover for their industry. It isn’t a coincidence that they have a well-designed and communicated ESPP, or that it offers college tuition for many.

At the upper levels, staving off just a few exits can change everything. Let’s explore an example. Imagine you have a staff of 250, with the average wage of $50,000. Your total base pay would be about $12.5 Million. A 3% annual increase, across the board, would cost $375,000. If you were able to retain just 4 extra people at an average wage of $75,000, you would save between $450,000 and $600,000. This would mean your annual increase could be 3.6 to 4.8% without changing your budget.

Just four people can give you the chance to make your entire staff happy. Even if you had to proactively give each of the four a $5,000 raise to keep them, the increase would pay for itself. So, paying people more is obviously NOT more expensive when it’s done right.

Naysayers will point out the cost of communication. I would point out that a communication budget of 1% of base pay would be incredibly cheap and still far more than most companies spend annually.

Some will say these kinds of increases can create a culture of entitlement or a compounding problem over the years. I will point out that paying more does not alleviate the need to lead, manage, motivate and speak to your staff. It just makes those tasks more manageable.

In the end, spending a bit more today can be far cheaper than replacing even just a few key staff members in the future. Now we just need to get the masters of the purse strings on board!

Dan Walter, CECP, CEP is the President and CEO of Performensation. He is passionately committed to aligning pay with company strategy and culture and considered a leading expert on equity compensation issues. Dan has written several industry resources including an issue brief on Performance-Based Equity Compensation. He has co-authored ”Everything You Do In Compensation is Communication”, “The Decision Makers Guide to Equity Compensation”, “Equity Alternatives” and other books. Connect with Dan on LinkedIn. Or, follow him on Twitter at @Performensation.

Comments

[Joe Thompson]

Dan, You're right - we do know this to be true. It is cheaper to pay more to the right people than to lose them.

Of course, that presupposes that we've hired the right people in the first place.

And that point illuminates a corollary that is not true. Simply paying more does not get you the right people.

I've seen many examples where managers and HR have stated - implicitly or explicitly - "if we pay really high wages, we'll get really good people!" Of course, that logic is inferring a causality that doesn't exist.

Paying really high wages without having a really good talent assessment process is about as responsible as giving a high-end sports car to a 16-year old driver.

[Dan Walter]

Thanks, Joe.

Excellent additional information. You are exactly right. Hiring and performance management are essential to this equation. In the end, pay cannot fix anything on its own.