A kaleidoscope of tradeoffs

Expat compensation packages are a fine balancing act in talent management

International compensation strategies and decisions are important for multinational companies because it not only directly affects the cost and benefit of their performance, but also critically influences their talent attraction and retention in different socio-economic contexts.

But between home and host countries, the differences of pay policies, working environment and the nature of tasks all pose significant challenges for multinational companies to prepare appropriate compensation package to motivate expatriate employees.

One of the key challenges is to choose the pay policy and manage perceived equity among local and expatriate employees. Most multinational companies apply two basic approaches to design their expatriate compensation such as the "going rate approach" and the "balance-sheet approach".

Both approaches have some disadvantages. The going rate approach is often based on local market rates and selected compensation surveys. It is simple to implement and communicate, which is helpful to increase perceived equity among local and international employees. However, such an approach can hardly incorporate variations between assignments in different countries for the same expatriate, nor can it embrace variations between expatriates of the same nationality in different countries.

On the contrary, the balance-sheet approach attempts to equate an expatriate's purchasing power in his or her home country. To balance the compensation received in the home country versus the host country, multinational companies usually provide additional salary that adjusts for differences in taxes, housing costs and the cost of basic goods and services. Goods and services usually include items such as food, recreation, education, home furnishing, transportation and medical care.

The balance-sheet approach generates greater pay and status disparities between expatriates of different nationalities as well as between expatriates and local staff. It is also more complicated to administer. All of these disadvantages often result in conflicts and confusions that directly or indirectly affect expatriate performance and local employees' commitment.

Despite the challenge of choosing appropriate pay policy and managing perceived equity problems, multinationals also need to balance between pay and performance.

A recent report in Fortune on doing business in China reported that hiring a local Chinese manager with 15 years of experience would cost less than $180,000. According to the same data, an American expatriate would cost $600,000 while for a British expatriate it would be $550,000.

Even with such a high cost, multinationals often encounter expatriate performance failures that cost even more to the firms. Professional and academic literatures have documented expats' high failure rate typically due to their personal, socio-cultural and technical adaptations to the local environment.

The top reason for terminating assignment is that the spouse failed to adapt to local environment or other problems with the expat's family. Furthermore, expatriates usually report that they have problems in handling conflicts with local employees. It is not surprising that pay disparity and other cultural miscommunications will decrease the local team's commitment to their foreign leadership.

Noticeable and often poorly communicated pay disparities among multinational team members will weaken team performance by distracting local team members from key tasks and interrupting the flow of information. Perceived inequality in pay will decrease local employees' motivation to help their foreign managers even though they are more knowledgeable on and closely connected to the local customers and other resources. Pay disparity, which often implies social status, might also promote conformity, silence, suppression of team creativity and withdrawal.

Multinationals are thinking of solutions to overcome these challenges. One trend is to hire managerial talent from the local market with international standard training.

Ambitious young talents who want to advance their careers usually seek postgraduate education in the US and Europe business schools. They now can find alternatives in their home country.

Some companies also adopt a more flexible and practical compensation policy. The pay policy is consistent with the global people strategy, structure and business needs. Meanwhile, the compensation design also should help facilitate the transfer of the traditional expats into the most cost-effective managers for the firm.

Experts also suggest focusing more on intrinsic motivation. Despite the calls from some consulting firms that "pay whatever it takes" to attract and retain the brightest people, firms need to carefully avoid falling victim to an "extrinsic incentives bias".

That is, do not overestimate how much employees care about extrinsic incentives, such as pay, while underestimating intrinsic motivations.

The author is associate professor of management at the China Europe International Business School. The views do not necessarily reflect those of China Daily.

(China Daily 05/17/2013 page7)