Setting base pay rates: integrating compensation practice with human capital value creation and value capture

Compensating employees is one of the costliest activities for an organization. In fact, the average employee compensation cost is approximately 36 dollars per hour worked; wages and salaries alone account for 68 percent of the money spent on employee compensation (Bureau of Labor Statistics, 2017). Beyond cost, compensation matters to employees. Voluntary turnover has a relationship of r = −0.15 with pay satisfaction according to meta-analysis findings (Williams et al., 2006), and the economic status of most individuals is tied to their compensation. The human capital literature has acknowledged the importance of compensation (e.g., Harris and Helfat, 1997), and compensation has figured prominently in frameworks on human resource configurations (Lepak and Snell, 2002). For example, internally equitable pay, externally equitable pay, and various pay bases have been central factors in empirical work on human resource configurations (Toh et al., 2008). Coff (1997) noted that focusing on employee pay perceptions, such as pay satisfaction and internal comparisons, is a potential human capital retention strategy. Yet, the nuances of compensation relevant to compensation researchers have rarely been sufficiently integrated with the nuances of the strategic human capital literature. Compensation design involves many strategic choices, such as decisions about job evaluation, merit pay, and market matching (Balkin and Gomez-Mejia, 1987; Gerhart and Rynes, 2003). One strategy of practical importance often neglected by compensation researchers is base compensation determination, i.e., the approaches used to designate “the cash compensation that an employer pays for the work performed” (non-contingent pay; Milkovich et al., 2014: 14). This neglect is in spite of base pay being one of the largest components of compensation for many jobs, especially those jobs of most employees (i.e., non-executives; Bureau of Labor Statistics, 2017). Perhaps this lack of attention is due to a myth that base pay is determined completely by market forces, and thus cannot be a source of competitive advantage (i.e., above average performance, as defined by Barney and Wright, 1998). Research over the last two decades on strategic human capital militates against the myth that base pay is not relevant to competitive advantage. For example, Coff examined firm coping strategies for human capital management dilemmas. Within this investigation, Coff explained, “pay differentials within the firm may be more important than the pay relative to the labor market. This, in turn, implies that firms can increase pay satisfaction without competing with other employers” (1997: 383). Decisions around base pay are not simply market and cost concerns, and these decisions may relate to competitive advantage through human capital value creation and capture (i.e., respectively, increased use value and decreased costs associated with human capital, as defined by Chadwick, 2017).