How salary benchmarking improves your compensation strategy

Published: May 23, 2024 | by Natasha K. A. Wiebusch, Brightmine Marketing Content Manager

How much should you pay an employee? The answer depends, and it’s one of the most, important answers HR must answer on a regular basis.

Because pay continues to be a top priority for employees — often the number one factor in their decision to accept a job offer — how much you pay can make or break your talent strategy. To properly answer the question, employers need salary benchmarking insights.

In this article, we review what salary benchmarking is and how you can use salary benchmarking insights to improve talent outcomes and business performance.

Defining salary benchmarking

Salary benchmarking is the process of collecting and analyzing comparative salary data to gain insights into the organization’s pay practices. Salary benchmarking can be internal (internal salaries are compared against each other) or external (internal salaries are compared against market competitors). It can be used for a variety of purposes, such as:

• Ensuring competitive salaries.
• Affirming or adjusting the compensation strategy.
• Determining the total cost of payroll.
• Evaluating total rewards.

Key components

Compensation leaders conduct salary benchmarking through a salary benchmarking exercise. These exercises include certain key components:

The benefits of salary benchmarking

Salary benchmarking provides many strategic and compliance-focused benefits. It ensures pay decisions are objective, increases visibility over labor costs and supports compliance with pay-related legal requirements.

Additionally, the insights gained from salary benchmarking help improve your compensation strategy. Specifically, they ensure pay is competitive and build alignment with the greater business strategy.

Salary benchmarking ensures competitive pay

The most prominent benefit of salary benchmarking is that it helps ensure pay is competitive by allowing you to compare your organization to market competitors and across the entire market. Having visibility over the organization’s pay also supports more creative efforts to produce competitive compensation packages based around total rewards.

Market position

At the outset, salary benchmarking helps ensure competitive pay by revealing and helping you monitor the organization’s market position.

Generally, there are three common market positions your organization can adopt when considering the market during benchmarking and salary comparisons:

• Leading the market. Leading the market means paying above the median salary range.
• Matching the market. Matching the market means that pay is at the 50th percentile, or the median market pay rate.
• Lagging the market. As expected, lagging the market means paying below the median salary range.

On a per-job-role basis, your organization’s market position is usually measured by the market ratio, which compares the average internal pay for a particular role to the average market rate for that same role.

Organizations should begin by choosing which strategy would work best for the company and then establishing a target percentile. Whichever of these three strategies (mentioned above) you choose will depend on a few factors, including your compensation philosophy, budget and talent goals. For example, an organization may choose to lead the market by paying in the 65th percentile (15% above the median) to attract and retain top candidates.

Organizations that lag the market may have invested in other benefits to attract candidates, such as robust flexibility, training programs or unique healthcare benefits (e.g., generous fertility and parental leave benefits).

Regardless of the approach, understanding your market position provides a starting point from which you can build a compensation strategy and ensure your pay — or total rewards — is competitive.

Metrics that matter

In addition to helping the organization understand its market position, salary benchmarking also enables compensation leaders to compare key metrics internally or externally, including the following:

• Bonus pay percent represents the size of a bonus as a proportion of base pay (e.g., a bonus pay percent of 10% of $100,000 in base pay is $10,000).
• Compensation ratio (compa-ratio) compares an employee’s salary to the median salary for that position and other similar positions in the organization or the market.
• Merit increase is an increase in pay given to an employee, usually based on performance. Merit increases are generally calculated as a percentage of base pay.
• Pay differential (or salary differential) is additional pay an organization offers for additional skills, certifications or unique working conditions, such as weekend or overnight shifts.
• Salary bands are pay ranges for a particular position or job role. They’re based on required qualifications for a given position (knowledge, skills and abilities).

These metrics offer insight into how exactly your organization is paying employees at the global, market and team level. Comparing these metrics to the market helps ensure competitiveness by confirming pay is fair, equitable and aligned with the organization’s compensation strategy.

Leveraging salary benchmarks to build alignment

Salary benchmarking insights also enhance the compensation strategy by providing an objective way to ensure alignment with the greater business strategy.

From the cost perspective, salary benchmarking data helps you understand the total cost of compensation. It also helps you understand how you distribute pay across the organization. You can also leverage benchmarks to better understand which organizations are your biggest competitors for key talent. This is particularly important if you’re in a market that requires highly skilled individuals.

From a performance perspective, salary benchmarking allows you to evaluate whether the compensation strategy is resulting in desired improvements to key performance indicators (KPIs). This includes:

• Employee engagement.
• Pay equity.
• Increased recruitment success rates.
• Retention rates.
• Decreased turnover.

These and other metrics can help HR adjust either pay or other factors to improve talent and business outcomes.

A final word

With the right expertise and high-quality data, salary benchmarking can lift your compensation strategy to new levels. However, because pay rates continue to change, it is not a one-time exercise…or investment. To get the most out of your salary benchmarking, be sure to treat it as an ongoing, continuous process.