INTERNATIONAL

COMPENSATION MANAGEMENT
Introduction: One of the key components of IHRM is the compensation administration in
MNCs. Today, compensation and employee benefits contribute to 40-50% of the total
costs. Compensation is strategically reported and monitored at the broad levels and with the
investors to assess the health of the organization. What is compensation management?
Effective and efficient process of managing the earnings financial and non-financial rewards
of the employees in an organization based on their performance towards organizational goal
is called compensation management.
International Compensation is an internal rate of return (monetary or non- monetary
rewards / package) including base salary, benefits, perquisites and long term & short term
incentives that valued by employees in accordance with their relative contributions to
performance towards achieving the desired goal of an organization. It influences:
Organizational culture
Recruitment and selection of competent employees
Motivation and performance
Objectives of compensation:
Compensation decisions are strategic decisions and play a key
performance and sustainable competitive
advantages for
international firms. Therefore the key objectives are:

role in achieving
national as well as

Attract e m p l o y e e s w h o a r e q u a l i f i e d , e x p e r i e n c e d a n d i n t e r e s t e d i n
international assignments.
Facilitate the movement of expatriates from one subsidiary to another, from home to
subsidiary, and back from subsidiary to home.
Provide a consistent and reasonable relationship between the pay levels of employees at
headquarters, domestic affiliates and foreign subsidiaries.
Be cost effective by reducing unnecessary expenses.
Should be easily understood and easy to administer.
Components of Compensation:
components of international compensation comprises the base salary, incentives, benefits,
allowances, foreign service inducement/ hardship premium, long term benefits and taxes etc.

Base Salary:
Base salary is the amount of money that an expatriate normally receives in the home country.
In the united states, this was around $ 175,000 for upper-middle managers in the late 1990s,
and this rate was similar to that paid to managers in both Japan and Germany. The exchange
rates, of course, also affect the real wage.
Expatriate salaries typically are set according to the base pay of the home countries.
Therefore, a German Manager working for a US MNC and assigned to Spain would have a
base salary that reflects the salary structure in Germany.
The salaries usually are paid in Home currency, local currency, or a combination
of the two. The base pay also serves as the benchmarks against which bonuses and benefits
are calculated.
Benefits:
Alternatively known as indirect compensation,
Benefits c o n s t i t u t e a substantial portion of international compensation (
approx. one third of compensation for regular employees is benefits).
Benefits include a suit of programs such as:
Entertainment, Festival celebrations, Gifts, Use of club facilities, provision of
hospitality including food and beverage, employee welfare, use of health club,
Conveyance tour and travel, Hotel Board and Lodging, vehicles, telephone and other
telecommunication facilities, Sponsorship of children.
Basically an employee tends to join and stay with an org. which guarantees an attractive
benefits program.
Vacation along with holidays and rest breaks help employees mitigate fatigue and enhance
productivity during the hours employees actually work.
Allowance:
It is an inevitable feature of International compensation. The most common allowance relates
to the cost of living an adjustment for different in the cost of living between the home
country and foreign country assignment. This allowance i s designed to provide the expatriate
with the same standard of living that he or she enjoyed in the home country.
Spouse assistance, housing allowance, home leave allowance, relocation allowance
and educational allowance are the popular in expats.
These allowances are often contingent upon tax equalization policies and practices in
both the home and the host countries.

Incentives:
An additional payment (or other remuneration) to employees as a means of increasing
output. Increasingly, MNCs these days are designing special incentive programmes for
keeping expatriates motivated. In the process, a growing number of firms have dropped the
ongoing premium for overseas assignments and replaced it with a one time, lump-sum
premium.
The lump sum payment has at least three advantages:
First, expatriates realizes that they are paid this only once and that too when they accept
an overseas assignment. So the payment tends to retain its
motivational value.
Second: costs to the company are less because there is only one payment and no future
financial commitment. This is so because incentive is a separate payment, distinguishable
from a regular pay, and it is more rapidly for saving or spending.
Third, less chances for pre mature repatriation.
Foreign Service / Hardship Premium:
This is often perceived as an inducement in the form of a salary premium to accept an
overseas assignment. Generally, salary premiums vary from 540% of the base salary.
Actual salaries depend upon the assignment, actual hardship, tax consequences and length of
assignment. In addition, if the work week in the host country is longer than in the home
country , the assignee will be paid for the extra hours worked.
Certain countries are highly hostile to foreigners staying and working. Bangladeshis engaged
in road construction work in Afghanistan, for example, face constant threat lives. In fact, ten
such emigrants got killed in recent times (2006-2007). Expatriates in such environments are
paid 2-3 times more than their domestic salaries.
Long term Benefits:
The most common long term benefits offered to employees of MNCs are Employee Stock
Option Schemes (ESOS). Traditionally E-SOS were used as means to reward top
management or key people of the MNCs. Some of the commonly used stock option
schemes are:
-Employee Stock Option Plan (ESOP)- a certain nos. of shares are reserved for purchase and
issuance to key employees. Such shares serve as incentive for employees to build long term
value for the company.
Restricted Stock Unit (RSU) This is a plan established by a company,
wherein units of stocks are provided with restrictions on when they can be exercised. It is
usually issued as partial compensation for employees. The restrictions generally lifts in 3-5
years when the stock vests

- Employee Stock Purchase Plan (ESPP) This is a plan wherein the company sells shares
to its employees usually, at a discount. Importantly, the company deducts the purchase price
of these shares every month from the employees salary
Hence, the primary objective for providing stock options is to reward and improve
employees performance and /or attract / retain critical talent in the Organization
Taxes:
The final component of the expatriates remuneration relates to taxes. MNCs
generally select one of the following approaches to handle international taxes:
1. Tax equalization: Firms withhold an amount equal to the home country tax obligation of
the expatriate, and pay all taxes in the host country.
2. Tax protection: The employee pays up to the amount of taxes he or she would pay on
remuneration in the home country. In such a situation, the employee is entitled to any
windfall received if total taxes are less in the foreign country than in the home country.

Taxes

Salary

International
Compensation
Incentives

Allowances

Long term Benefits

Fig. components of International compensation

Benefits

Factors influencing these components :

Remuneration or compensation varies country to country and one MNC to another.
Mainly based on two factors: External and Internal.

Domestic

Remuneration/
Compensation

International

External Factors

Internal Factors

-Labour Market
-Cost of living
-Labour Union
-Govt. Legislation
-Society
-Economy

-Business strategy

-Parent Nationality

-Goal orientation

-Labour
market characteristics
-Local Culture
-Home and
Host
Countries Governments
Roles
-Industry Types
-Competitors

-Capacity to pay
-Competitive
Strategy
-Org. Culture
-Int. Workforce
composition
-Lab. Relations
-Subsidiary role

-Job Evaluation and

Performance
Appraisal
-The employee

However, these factors can be classified in five categories:

1. Prosperity & Spending Power Of the company (a related factor is the different Tax
and social security System in the country.
2. Cultural Difference
3. Policy & Strategies (in productivity and Performance evaluation)
4. Situations on the relevant Labor market & labor capital ratios
5. Institutional Frameworks within which wage Bargaining takes place
Compensation Philosophy:
Since compensation is a crucial factor, having its bearing on performance and satisfaction, it
is advisable that international business should have a clear cut compensation philosophy

Now the question comes what is Compensation Philosophy?

Compensation philosophy is the set of values and beliefs that an organization has with regard
to monetary and non-monetary benefits payable to employees.
Any compensation philosophy should cover the following aspects:
Goals of the organizational compensation system
Percentage of compensation linked to individual performance and base salary.
Role of performance appraisal in disbursing compensation
The p o s i t i o n i n g o f c o mp e n s a t i o n of e m p l o ye e s r e l a t i v e to market
Therefore, Compensation philosophy or the set of values and beliefs combined with a set
of guidelines that further assist in compensation administration of MNCs.
Theories of compensation:
There are (generally) 4 theories in the context of international compensation:
1. Contingency theory.
2. Resource based theory.
3. The Agency theory and
4. Equity theory
1. Contingency theory (most popular) : Expats compensation should be based on particular
contingencies or situation prevailing in a host country. The compensation Phil, in every
organization is normally de centralized and allows units to localize the compensation
structure
2. Resources based theory: Human resource is the greatest asset of the MNCs in its
competitive advantage needs good pay and st. salary band for cont. motivation. The
organizations follow this theory, remain market sensitive and are constantly reviewing
compensation to retain their position in the hiring and retaining the talents
3. The Agency Theory: This theory focused on the divergent interests and goals of org.s
stakeholders and the way that employees compensation can be used to align these interests &
goals. According to this theory, there exists a principle agency relationship between the
MNCs HQ and its Subsidiaries for Expats Compensation.
4. Equity Theory: Equity theory suggests that there should be a fair balance between an
expatriates contribution to an MNC and what he / she receives as compensation. Of late, the
equity principle is sought to be compromised with a new approach to compensation
Person based rather job centric.

Compensation practices in different countries: The overall compensation package

often varies from country to country due to legally mandated benefits, taxes, cost of living,
cultures and employee expectations.
What is Cost of living?
An inflationary indicator that measures the change in the cost of a fixed basket of
products and services, including housing, electricity, food, and transportation. The cost-ofliving index is published monthly, also called cost-of-living index, also called Consumer
Price Index (CPI).
Hourl
Hourly Wag
Wages in Differe
Different Countries*
COUNTRY

$/HOUR

Norway
Germany (former West)
Switzerland
Belgium
Sweden
United States
France
Britain
Japan
Australia
Canada
Italy
Spain
Israel
Korea
Portugal
Taiwan
Brazil
Mexico
China
Sri Lanka

31.5
31.25
27.87
27.73
25.18
21.97
21.13
20.37
20.09
20.05
19.28
18.35
14.96
11.73
10.28
6.23
5.84
2.67
2.48
0.63
0.49

However, as we observed, there are, some common elements in compensation package

including base salary, benefits, allowances, incentives and taxes; let see the compensation
systems in the different countries:
Criterion
America
Japan
Russia
Middle East
Orientation

Performance
- oriented

Seniority - based

Job level
based

Nationality group
and job level
BS, HA,AA, FA,
AF/VT, SF, VB
Incentives.
Moderate Linkage

Components

BS,VB,LTI,
CBC, VBC

MW ( BA+OT),
VB

BS,
FB, NMB

Link
with
performance
Basis
of

Excellent linkage

Moderate linkage

Poor
linkage

Annual
merit increase

Seniority and
age, performance

Increase
Influencing
Cultural
variables

Achievement

ratings, spring
Hierarchy;
Patience
wage negotiation

Seniority
in

Job Level

Job level
Material

Material Possessions

Possessions

Status seniority

orientation
BS- Basic Salary, VB Variable bonus, LTI Long tern incentives, CBC Compulsory
benefit contributions, VBC-Voluntary benefit contribution, MW Monthly wage, BA
Basic Allowance, OT Overtime, FB Fixed Bonus, NMB
Non monetary benefits)

Approaches to expatriate are compensation:

Working within the components described above, MNCs seek to tailor remuneration
packages to fit with the specific siuation. For example, senior level managers, in Japan
are paid four times more than their juniors staff members. This is sharp contrast to the US,
where the gap is much higher. Many senior level managers in Europe are paid much less
than their US counterparts.
In designing an expatriates remuneration, firms generally follow a number of approaches.
The most common are two:
1. The Balance-sheet or Home net system
2. The local Going rate system or localization system
Balance-Sheet Approach:
Which involves ensuring that the expatriates is made whole and does not lose money by
taking the foreign assignment. The basic objective is to maintain the home country living
standard, plus offer some financial inducement
Thus, it links the salary of expatriates and TCNs to home country salary structure.
The key assumption is that foreign assignees should not suffer financially due to transfers.
The salary package is divided into four parts:
GOODS AND SERVICES FOOD, PERSONAL CARE, CLOTHING, HOUSEHOLD
FURNISHING, RECREATION
HOUSING: Major cost associated with host country
INCOME TAXES Parent country and Host country income taxes
RESERVE CONTRIBUTIONS TO SAVINGS, PAYMENTS FOR BENEFITS,
PENSION CONTRIBUTIONS, INVESTMENTS, EDUCATION EXPENSES, SOCIAL
SECURITY TAXES
When costs associated with the host country assignment exceed equivalent costs in the
parent country, the firm and expatriates, together meet these costs to ensure that parent
country equivalent purchasing power is achieved.
For example, if US national is posted in Bangladesh and suppose the dollar exchange rate is
$ 1 = Tk. 50/- and COLA Index is 5, then the breakup of the annual pay will be :

Item

Amount in $ per
year in US

Paid in $ in BD

Paid in Tk. In
BD

Base pay

1,00,000

60,000

20,000,00

Cost
of
living allowance
Overseas allowance
Hardship allowance
Housing deduction
Income
tax deduction
Total pay

10,000

Nil

5,00,000

20,000

20,000

Nil Nil Nil Nil

Rs. 25,00,000

5,000

5,000

-10,000

-10,000

Advantages:
Expatriate is guaranteed his home country spending power.
Easy to communicate to employees
Disadvantages:
Three problems faced in applying this system are:
1. Recalculating the salary from gross to net and vice versa.
2. In grossing up the net income in the host country, there should be strictly identical
items (same car and housing). This is the difficulty.
3. Can result in disparities between expatriates of different countries
2. Going Rate Approach:
In this, expatriates are paid according to the host country salary structures.
Based on local market rates the base salary is linked to the salary structure in the host
country.
Base pay and benefits may be supplemented by additional payments for low- pay
countries.
Advantages
Equality with local nationals
Simplicity
Identification with the host country
Equity among different nationalities

Disadvantages:
Variation between assignments for same employees
Variation between expats of same nationality in different locations ( Bangladeshi
expatriated to the US may be compensated better than those assigned to a developing
country)Potential re-entry problems ( on return to home country, the expats. finds that his
or her compensation is lower than that of the host country.
The Standard Policy of Compensation management required:
A)
The knowledge of employment and taxation laws: customs, cost of living
index, environment, employment practices of various countries.
B)
The knowledge of labor markets and industry norms regarding benefits and
compensations.
C)
The knowledge of foreign exchange rate fluctuations and monitoring
inflation or cost of living Index in different countries.

rate of

D)
The knowledge and clear conception about the vision and mission of the
company, its corporate philosophy regarding managing human resources, its corporate
strategy of growth or stability and strategy of its business units regarding cost, leadership,
differentiation and innovation
Conclusion:
Higher basic salary with lower benefits and incentives or
Lower salary with higher level of benefits and incentives , may not motivated the
expatriates and therefore, required high degree of expertise / standard policies for MNCs
specially in the field of compensation management.
The policy decisions should be consistent with the overall strategy structure and business
needs of the multinationals.
The policy should be attract and retain the best staff in those areas where the firm has
greatest needs and opportunities and where its core competencies.
The policy must facilitate the transfer of international employees in a cost effective
manner.
The policy should give due consideration to equity case of administration.