Cafe Classic: Salary Increase Budgets, Crystal Balls and the Tyranny of the Mean

Editor's Note:  It's that salary increase budget time of year, and so time for a reminder about how we strike the right balance in using survey data to keep our salary practices on track.

Are we sheep?

Perhaps not, but we sure act like it sometimes.  And the annual salary increase budgeting exercise is one arena where this tendency of ours plays out on a regular basis.

A couple of great posts by my Cafe colleagues this week brought the topic to mind.

Jim Brennan, in his post Mid-Year Moral Hazard yesterday, called us out on our slavish devotion to our annual salary budget surveys.  Although we rely on them heavily for important budgeting and resource allocation decisions, the accuracy of their forecasting is taken for granted and rarely questioned or studied.  Which called to mind an exercise I went through with a client recently, where (for reasons I won't elaborate on here, but are related to this topic) we did a quick and dirty bit of reality checking, using high-level WorldatWork annual salary budget figures over the past ten years - both projected and actual - to see how our profession's prognostication have panned out.  

How accurate are our forecasts?  Here's what we observed.  On a collective basis, in "good times" (2005 into early 2008), we seem to do rather well.  But when the world goes sideways, as it did in 2001 and 2008, our predictions miss the mark, sometimes substantially, and continue to do so for the next few years.  (Can't really hold us at too much fault for this; many world class economists missed the mark during these years as well.)

Of course, the reality is that our future probably has fewer calm seas and more storms in store for us, making forecasting an increasing challenge.   But I think the story goes deeper.  I'm betting that the statistics I don't have - those that indicate the amount of variance around these overall means - could lend an interesting element to this tale.  To what degree do most organizations "toe the market line" in good times?  Do we see regular patterns of skewness -- and what are they?  Does the range of practice get wider in the years following an unexpected turn - and, if so, by how much?

Having practiced my profession through a few of these cycles, I have observed that we are particularly hungry for survey data in these times of turmoil.  I know my phone rings off the hook and my email box fills up with people looking for information - any information - on what "the market" is doing in response to the crisis.  Are salary increase budgets changing?  What is the new projected mean increase?  We hunt for the crystal ball and what we hope are the magic answers.

Of course the "means" we chase only reflect the middle of what I suspect is a wide range of responses - which vary by geography, industry and a host of other circumstances.  In our desperation for an answer, we risk falling victim to the tyranny of the average, where we overlook the fact that the mean does not provide us with information about the distribution - or skewness - of a data set, and that analysis based strictly on this value can be faulty.  We also risk overlooking our organization's unique situation and circumstances, and making decisions divorced from an understanding of our own business reality. 

Which take me to the second point - and another great Cafe post.  Margaret O'Hanlon urged all of us to Get Rich Quick! by taking advantage of the goldmine of employee data on which many of us are sitting.  Most of us with reasonably functioning, adequately populated HRIS systems have a potential treasure trove of information available to us that ought to be guiding our reward decisions.  This is particularly true with salary increase budgeting. 

Sound salary increase budgets, I believe, are best built not on slavish devotion to salary budget survey means, but rather on a three pronged stool:

• Information on market trends, with a healthy understanding of its weaknesses and limitations.
• Information on our internal salary levels and practices, mined and analyzed (as Margaret notes) by variables that provide compensation insights.
• Information on our organization's business plans and forecasts, including the known threats and opportunities that may be lurking.

Those are my thoughts.  Yours?

Ann Bares is the Founder and Editor of Compensation Café,  Author of Compensation Force and Managing Partner of Altura Consulting Group LLC, where she provides compensation consulting and survey administration services to a wide range of client organizations.  She earned her M.B.A. at Northwestern University’s Kellogg School and enjoys reading in her spare time. Follow her on Twitter at @annbares.

Creative Commons image "Sheep" by Joost J. Bakker IJmuiden

Comments

[Joe Thompson]

I can't help but think that there is some compensation version of Heisenberg's uncertainty principle or self-fulfilling prophesy at play in salary increase budgets. In our quest to know where the market is going, we turn to some market oracle to tell us "the market will increase by 3%" so then we drive our plans so that we have, on average, a 3% increase. If we didn't have the great oracles telling us what we should think that market was going to do, would that market increase at the same rate? I wonder.

[Ann Bares]

Joe,

Great comment and I have often thought the same thing and wondered about that same question. I imagine there are a number of areas of life where a phenomenon like this plays out.

[Katherine Macrone]

It become more and more critical as compensation professionals we deep dive into our data and leverage our networks to unearth true changes in future compensation trends. Looking back is just playing catch up. Where is that next hot IT job headed? What is the newest function catching on we haven't even heard of much less have a job description or pricing for yet has blown up around us? In the age of data and mining, its our peer to peer relationships that will ultimately bring us all more success. So happy to be able to communicate and share with so many of us!

[Ann Bares]

Thanks Katherine - great point and questions to consider. It isn't a one-size-fits-all world and the better we understand our own objectives and situation relative to "the market," the better we will do.

And yes - peer relationships are an invaluable source of market intelligence, support and ideas. Glad that we can play a small role in that connection!