Salary Increase vs. Cost of Replacement

When a company needs to “tighten its belt” for any reason (e.g., COVID impacts, financial losses, rising labor costs, etc.), one of the first things to suffer is the merit increase budget.  Many companies declared a moratorium on increases last year, just to get through the economic uncertainties posed by the pandemic. It is very easy for employees’ salaries to fall behind because of an off year.  One year without a meaningful increase can have compounding effects on those who remain loyal to a company.

So, picture this scenario. Company employees did not receive a merit increase one year due to economic reasons. But hiring new employees requires a salary reflective of the current market.  The salary required to hire a new candidate is $80,000 in a particular job, but current employees with proven performance are earning, on average, $75,000. If a merit increase of 3%, or even up to 6%, is granted for the current year, then those employees are still earning less than the newly hired employee. Despite proven performance and organizational contributions, their earning potential has decreased. This happens all too often and can have a discouraging effect on the company’s existing workforce.

What Can HR Do to Help Retain Employees?

Asking employees to remain loyal to the company and ride out the economic waves, to do more with fewer people, and to take on more responsibilities − all without necessarily compensating them − is the norm. Consequently, employees often start to search for external opportunities that will reward them competitively.  Business Insider reports that “job openings exceeded available workers…for the first time since the pandemic recession began” and that “businesses have raised wages at the fastest pace in decades to attract workers amid the shortage.” An August 2021 SHRM article reports, “The BLS report comes amid employers reporting that difficulty finding workers to fill open jobs continues to hold back hiring. Evidence shows that many employers are increasingly desperate to hire, offering higher pay, signing bonuses and more flexible working hours to attract applicants, a shift in power that has given job seekers the upper hand.” In general, if compensation is fair in comparison to the employee’s contributions, then individuals will remain with an organization. However, the stronger, worker-centric hiring climate today means employees who do not feel well compensated may be more willing to look for a better-paying job. High performers who contribute significantly to the success of the organization’s mission and strategic goals, with essential critical skills and qualifications and perhaps in difficult-to-recruit positions, are worthy of proactive review. Employees leave organizations for many reasons. While many factors contribute to turnover, competitive pay can be the difference when it comes to retaining skilled talent.

Armed with the leverage of an external offer, quite often, the employer’s response is to offer a retention bonus to match it. But what message does it send to the employee and to the entire organization? The message is that the company is not willing to pay your worth unless there is a chance that they will lose you and need to go through the expense and process of recruiting. This can have a negative impact on engagement, contributing to low morale issues, greater absenteeism, and loss of productivity not only to the employee (who may be distracted looking for meaningful compensation elsewhere), but to the entire team.

Organizations would do well to engage employees in conversations about retention, or “stay interviews,” to gain an understanding of the factors affecting why employees stay and why they leave. While not all positions are considered critical and, not all turnover is regrettable, the costs in time, money, and productivity associated with external recruitment are significant. Considering the cost of replacing an employee is crucial to an overall business strategy, but with an effective retention policy, employers can minimize employee turnover.

Cost is one of the biggest challenges of hiring new talent. SHRM estimates that “the cost of directly replacing an employee can run as high as 50 to 60 percent of their annual salary, and total associated costs of turnover can rise to 90 to 200 percent.” Considering the costs of hiring a replacement, orientation, and training compared to investing in proactive retention strategies that include base salary increases, it would be wise for organizations to make provisions in their budget proactively. Salary benchmarking can save hours of headache and can help reduce employee turnover.

Total rewards define an organization's strategy to attract, motivate, retain, and engage employees, resulting in satisfied, engaged, and productive employees who, in turn, create desired business performance and results. Increasing base salary, matching an external offer, or giving a retention bonus are not the only ways to keep employees. Offering opportunities to grow and develop, as well as flexibility for work/life balance, are all important. For more information about finding the true cost of retaining vs. finding a replacement, as well as methods for how you can prevent employees from leaving, visit ERI SalaryExpert’s blog, which covers a range of topics related to HR and compensation.

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