WHAT IT'S ALL ABOUT...
Why the importance of salary planning?
Given the current climate, the idea of a set-in-stone salary & compensation budget seems hopelessly outdated. Organisations still require a compensation strategy to inform their budgets. But if it’s to match reality, this strategy demands new levels of flexibility.
"What will our staffing requirements look like in 6 months time?"
In normal times, HR managers need an answer to this type of question to plan ahead, to source and recruit the right people at the right time. Likewise, your CFO requires this knowledge in order to set a realistic people budget.
From the outset, effective salary planning usually involves a three-way conversation between department heads, HR and finance. Departments assess what skills they will need to have on board in order to achieve what’s expected of them. They convey this to HR - who then liaises with finance to determine whether the plans are feasible in light of the organisation’s financial plan. There’s very often a degree of give and take before a plan of action is arrived at.
But what happens when organisations are simply unable to answer this question?
The OBR recently published a scenario pointing to a fall in UK GDP of 35% in the second quarter of 2020, followed by a relatively rapid recovery. The scenario indicates a possible rise in unemployment by more than 2 million to 10% in the same period. Around a quarter of this unemployment rise is expected to unwind in each of the subsequent two annual quarters, with further gradual recovery thereafter.
Currently, the idea of salary budgeting for next month might seem optimistic, let alone setting a forecast for the next six months or beyond.
From a salary planning perspective, a few points stand out:
Salary budget uncertainty: scenario planning is key
Whether it’s sector-specific demand predictions or data on labour market conditions, it is common for organisations to factor in external forecasts during the salary planning process.
But if you have looked at assessments from the likes of KPMG, Bloomberg and other commentators over recent weeks, you may have noticed a distinct change in tone. As the OBR was at pains to point out in its most recent release, “This was a scenario rather than a forecast”. With everything up in the air, forecasts just do not work. This shift provides a useful clue as to how individual organisations should approach their own salary planning and budgeting strategy.
Forecasting and scenario planning each have a vital role to play in managing risk. But it’s important to appreciate the differences between the two.
Forecasting involves predicting what will happen in the future by relying largely on data from the past and present. Let’s take a 12-month salary budget forecast, for instance. You could take past data on employee churn, absence rates, organisational growth trends, along with factors such as upcoming planned wage increases and likely bonus payments to make a reasonably accurate budget calculation for the next year.
A basic forecast is at its most useful when your variables stay constant, or when they change incrementally. But what happens when a whole new set of variables emerge - and when a previously unforeseen set of circumstances may (or may not) come into play?
The higher the level of uncertainty, the more valuable scenario planning becomes to your organisation. This approach allows you to test multiple combinations of variables and to gauge their financial impact, including whole new events that you have not included in previous financial models. The end result should be a much greater level of flexibility and preparedness for what may be around the corner.
Dynamic salary scenarios: questions to ask
Here are just a few possible scenarios to examine and assumptions to test at present:
What will a monthly organisation-wide absence rate of 20% (or higher) have on our salary budget for the quarter/year?
In terms of financial impact, what will be the difference between furloughing a cohort of Scale 1, Scale 3 or Scale 5 employees?
What will be the financial impact of the government's furlough support scheme remaining in place over a range of different timeframes?
What will be the impact of a range of proposed staffing retrenchment models to match plant capacity reductions/workplace distancing requirements?
In anticipation of a rapid rebound in market demand, if we maintain the staffing budget at its current level, at what point will the impact on cash flow become critical?
We have recently received a large order for the provision of an essential service. How will various models for overtime/additional recruitment impact cash flow?
Equpping your organisation for agile planning
Given that personnel represents the most significant overhead for most organisations, the failure to adapt a people strategy to events on the ground can very quickly give rise to critical cash flow problems. But an excess of caution and an over-reliance on worst-case scenarios is risky, too. Not least; cutting back too far and too quickly will mean that businesses will be ill-equipped to capitalise on improving market conditions if the economic bounce-back is a rapid one.
Organisations need to move away from rigid forecasting in order to make the right decisions. Yet as one recent survey shows, when most employees require access to data to make a business decision, only 3% have instant access to it. For 60%, getting that data takes hours or days.
Salary planning needs to be an everyday process. You need the ability to create models with ease, to anticipate possible combinations of drivers, and to react to actual events as they arise. To this end, sandboxed models pre-populated with base numbers, the ability to quickly adjust inputs, and to add or remove variables: all of these capabilities are crucial.
To avoid your budgets being rendered perpetually out-of-date, a move away from legacy systems, unreliable spreadsheets and slow processes is a must. To discover how the likes of IBM Planning Analytics and other world-leading tools can help your salary planning strategy, speak to MHR Analytics today.
Financial Performance Management Specialist