Wednesday, January 28, 2009

Social and Market Norms in the workplace, OR How to play with fire with payroll costs

I've been reading Predictably Irrational: The Hidden Forces That Shape Our Decisions by Dan Ariely. It's an outstanding book that looks at why people act in irrational ways.

Predictably irrational gives fascinating insight into some of the forces that cause people to act against what an objective observer might judge to be their best interests.

Each of the chapters is excellent, but one that really struck a chord with me is the one regarding social and market norms. In this chapter Ariely cites an example from Freakonomics [Revised and Expanded]: A Rogue Economist Explores the Hidden Side of Everything by Steven D. Levitt, the one where an Israeli daycare provider found that issuing fines for parents picking up their children late had an effect that is contrary to the providers' intent.

Nutshell synopsis, daycare provider wants parents to pick up their kids on time. Daycare provider issues a fine to late parents. More parents are late after the fine is imposed.

What happened? Levitt and Ariely believe that the parents felt obliged to pick up their children in a timely manner because social norms influenced their decision. When the fee was imposed, the parents felt that they no longer had a social obligation to pick up their children on time. Instead, they could evaluate whether their time is worth the fee. What is more surprising is after the fine is revoked, there was no noticeable decline in late parents. The genie was let out of the bottle. Once the relationship moved to a market relationship, the social norms went out the door.

Social norms are truly a powerful force. Social norms are the social rules that we observe because we feel it is the right thing to do. Often, social norms coincide with other rules. For example, there are legal and social rules that strongly discourage murder.

The interesting thing about social norms and market norms is the social norms are more effective than the market norms for motivating people, but once the market norms are introduced into the equation, the social norms lose their value.

Take occupations like teachers for example. Relative to other professions, teachers aren't particularly well compensated. Any teacher who got into teaching because of the money, probably shouldn't be teaching. Not because they aren't doing it for the benefit of educating children, but because getting into education because of the money brings to question serious deficiencies in one's ability to make sound decisions. Who knows what kind of crazy things such a person would try to teach children.

I digress. It's fair to say that money is not what drives our teachers to do what they do. If teaching were about financial compensation and only about financial compensation, there would be a shortage of good teachers of crisis proportions. Either the median salary of teachers would need to rise or the quality of education would continue to dwindle to make up for the difference in the market.

It's also fair to say that there must be significant social benefits that our teachers receive. There just isn't a logical explanation for why so many well qualified, capable, and intelligent individuals choose a profession that does not compensate them competitively. The same can be said for other professions, such as police officers and fire fighters.

What Ariely postulates is that introducing more market norms to the equation will introduce a negative effect. By adding incentives for getting students to reach higher test scores or meet other performance metrics, the focus of educating will no longer be on educating children, but on meeting those performance metrics.

What would the net effect of nullifying social compensation and increasing market compensation? I predict that more good teachers will leave the profession and the quality of our children's education will continue to decline. Plainly put, if you make the job about money and meeting performance metrics the job will only be about money and meeting performance metrics. Considering what is at stake in our education system, any decline is a tragedy.

How does this affect the rest of us? We all receive social compensation for our work. We often do not realize it, but it is real and it is powerful. Social compensation is fragile.

You Can Do It, We Don't Care

Take a look at Home Depot. People who worked at the Pre-Nardelli Home Depot say that the environment of that business was about helping people and following the motto "Do the right thing." Many retired tradespeople chose to work at Home Depot because they enjoyed the job and they enjoyed helping people. By most accounts I've heard from people who worked at Home Depots, they all claim that they didn't want to leave until Nardelli came in.

There isn't enough room to discuss all the things Nardelli did to change Home Depot, but one thing that did change was the atmosphere. Cutting the number of people on staff and changing their focus from customer service to other tasks does more than reduce costs, it completely changed the personality of the store. In short time Home Depot changed from a store where a do it yourselfer could go in to a store and not only get good service, but also good advice on how to do a home improvement project to a gigantic store that is staff anemic and lousy with automatic checkout lanes.

The Home Depot changed from a warm friendly store to, well just go to one and you'll see. Friends of mine who used to work there said their return policies were so generous that enterprising fraudsters would take items off the shelves and go directly to the customer service counter to return them. They wouldn't even bother shoplifting and the store would give them cash. When was the last time a business was that willing to provide an outstanding customer experience?

When Home Depot had these policies and staffed helpful people who had time to be helpful I used to almost exclusively shop there for my home improvement needs. It was great, I couldn't look at a shelf full of products without having someone ask if I had any questions. When the staffing was cut at Home Depot it really changed how I viewed the shopping experience. We went from having copious help to insufficient.

I remember one experience where my wife and I waited a good twenty minutes in a nearly empty store to order some blinds for our windows. We waited because the one person working there was juggling helping the customer who was there before us, and answering drive by questions by other customers. The person did the best she could, but still our experience wasn't very good. Without the service value I began comparing my experiences shopping at Home Depot with my experiences shopping at Menards.

Save Big Money

Menards is cheaper. Menards doesn't have exceptionally knowledgeable people working there, but they know their products. There are also quite a few people working there. I've never had trouble finding someone to help me. The inventory at Menards isn't as high end as what I see at Home Depot. There are some cheap things at Menards, but there are also some good things there too. The inventory isn't always as organized as it could be, but there's a lot of it. The Menards stores in my area have done a good job improving the way that their items are organized. There are still the occasional areas where you need to hunt through the displays to find what you want, but it's been a while since I've seen a pile of mixed plumbing fittings in an area.

After comparing the two stores I prefer Menards. If I can get what I need there I'm happy to do it. The Home Depots just don't give me anything extra that I want.

What happened there? At one point I was willing to ignore the allure of lower prices, and a shorter drive to shop at the Home Depot instead of Menards. The value of good service outweighed the price and convenience. Once my perception of Home Depot changed through my own experiences and some of the Nardelli era snafus I saw no advantage of shopping at Home Depot over Menards. Once my perception that my business was unimportant to Home Depot, they couldn't compete.

I have friends who worked at Home Depot during the pre Nardelli times. They look back on it fondly. My friend Keith, a retired electrician, said that a single sentence directed them back then: "Do the right thing." He laments that it was all about helping people, back then the customers were happy, the employees were happy, and the stores were doing well.

Now, when I see a Home Depot commercial that shows customers getting hands on help from a Home Depot employee it has an effect that is what I think is the exact opposite of what the commercial makers' intent is. I imagine that the images of a friendly and ethnically diverse group of helpful, clean, and competent Home Depot employees thoroughly explaining and educating a couple of delighted customers would create a positive image in my mind of what shopping at the Home Depot is. It's funny though. I think about how much the commercial misrepresents my experiences at Home Depot. I think about how the commercials are not a factual representation of my experiences or their reputation. In fact, their reputation is the opposite image from the commercials.

The net effect on me is I believe that not only is the assertion that customer service at Home Depot is the opposite of what I see on the commercials, but everything else asserted with the commercial is also equally inaccurate. Why the hard feelings? I think it's a natural reaction of my emotions. The Home Depot used to sell itself, and deliver, on the fact that doing business with them is more than just doing business. They played with social norms. It feels personal. The company chose to no longer continue selling the social norms and it feels like we lost something. It's like an old friend is trying to cheat us. It hurts.

Social Norms in the Workplace

How does this apply to the workplace? Well, a lot of the same forces are in play in the workplace. Many of us do not view our employment as strictly a professional endeavor that is devoid of any personal interaction. We form relationships with our colleagues, our managers, and our subordinates. We form friendships, romances, and acquaintanceships through the workplace. It happens, we're social animals. Different companies have different cultures, but the vast majority of them try to define their culture as being more than just a 9 to 5 job.

There are many advantages to selling the social benefits to a job. Defining a corporate culture is a way to displace workers demands for higher pay. Look at Google and Apple. Both of them have a reputation for bringing in some of the most talented people in their fields. Nobody can compete with Apple's industrial designers. They make beautiful functional products. Google's web applications are world class. Would it surprise you to hear that the base salaries isn't that great at either of these companies? The reputation is that most people take a pay cut to go work for Apple or Google. There are the exceptional few who got in early and made millions from the companies, but there are also the many who are simply doing well. Why do people choose to work for Apple and Google, the interesting work is one big reason, but I posit that the allure of the cultures at Apple and Google is just as attractive if not more.

If a company can get excellent people to work for 10% less than their market value by spending 1% of their market value on expenses that define a corporate culture: e.g., free meals, corporate outings, onsite speakers and events. If you can get away with hiring an exceptional engineer who could make upwards of $200,000 for $180,000 plus spending $2,000 a year on free onsite meals doesn't it make financial sense? That's an $18,000 savings.

Obviously it makes sense, many successful companies do this. The people who made the decisions to provide these benefits may not be aware of the sociological explanation for why defining a culture through perks and benefits makes financial sense, but they do see value in it. The real value is the social relationships and the connections the people feel through the culture. That's what displaces the difference between the actual and market values for the employees. The stronger the culture, the wider the gap can be between the market and what people will be willing to enthusiastically accept.

Salary is the most expensive benefit. Salary can make up for a lack of culture or a negative culture, but it's very expensive.

There is a catch to displacing salary with culture. If the social compensation is reduced, subverted, or eliminated it can have a catastrophic effect. The effects are not only damaging to morale, but they can actually raise payroll above market rates.

Consider the following two points: Once people think about their work in market terms, they tend to ignore social benefits. People tend to be satisfied with what they have if they are not thinking about what their external options are. Both of these points are covered in Ariely's book, and are backed with sociological experiments.

Think about them this way: we're happy to help people for free. We're happy to help until we find out the the other people helping are getting paid. If we're getting paid to help, we're happy with it until we find out that everyone else is making more than we are.

One of the seemingly obvious opportunities to cut expenses is to discontinue the seemingly unnecessary 'perks'. The 'perks' have a value and an ROI. The value can be measured by subtracting the salary of each employee from the perceived market salary of each employee. If the employees aren't constantly issuing ultimatums for more money, the value of the perks/culture can be defined as the difference.

That's All Well and Good, but Money Doesn't Grow on Trees

It is not surprising that perks tend to get cut during down economies. The obvious reason is that perks are perceived to be unessential expenses. When funds are tight, people would rather have jobs than free coffee. This only works when groups of companies are cutting costs. People are willing to make sacrifices to preserve their social compensation.

It's difficult to differentiate the essential from the ceremony in what defines social compensation. Cutting perks, may only remove the ceremony, but preserve the essence. Conversely, it may kill the social compensation.

The perks aren't the social compensation, they just facilitate them. That's the thing about the perks, the real value is how they bring people together and form relationships.

To ignore the value of social relations, culture, and how they relate to perks and social compensation is to misunderstand people and to neglect an asset.

If highly skilled workers find themselves not only without the social benefits that they to which they became accustomed and valued, and making less than their market value; consider the situation. The worker feels that they not only lost something they enjoy, but also they feel like they are not being fairly compensated. Should that employee procure an employment offer, it's safe to assume that they will find something at or near their market value. To keep that employee the employer would need to match or, more likely beat the market offer. This isn't the end though, there are two side effects that further move to increase the cost of employment: 1) the social norms are gone for the first employee, he will likely continue to court other potential employers. The employer will find the act of matching offers a more regular occurrence. 2) Other employees will find that they can be in the situation of the first employee. Before long, most of the employees will be thinking about their job in market norms and looking to upgrade.

Providing culture as compensation is like playing with fire. An employer can reap tremendous value by providing perks and benefits that facilitate or spawn social compensation. An employer can also lose that value and more by subverting foundations of the social compensation.

My advice to those employers who find themselves in a position where budget cuts need to be made is this: the goodwill that is generated through the social compensation can be preserved if the market norms are not introduced into the equation. The perks can be removed so long as the culture is maintained. If a 'We're all in this together.' attitude is sincerely projected from an employer, the employees will sacrifice and stay loyal through tough times. A wise leader, will demonstrate that those at the top are sacrificing as much as those below them, if not more. That will preserve or grow the culture and the social compensation.

It's only when the employees feel that they are sacrificing disproportionately to the managers that the social compensation is eroded.

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