How Paying Employees More Can Increase Profits

17 Oct How Paying Employees More Can Increase Profits

Many small business owners are concerned about the changes to the overtime rules that will come into effect in December. Currently employees who make an annual salary of less than $23,600 are eligible to be paid overtime if they work more than 40 hours a week. Beginning in December, the annual salary threshold increases to $47,476 – resulting in upwards of 90,000 additional employees in Arizona to qualify for overtime pay.

As discussed in a recent Phoenix Business Journal article “Overtime pay issue brings businesses to lawyers” there hasn’t been changes to overtime regulations since 2004, prompting  the Obama administration to take action. Business owners understandably think about how this additional cost will impact their bottom line. I don’t think many realize how these low salaries have been costing their businesses dearly.

The article mentions a single mother (Elizabeth) who was paid $24,000 per year as an assistant manager in a sandwich shop in Tucson. For this salary, she was required to work 50+ hours a week.  This means she’s making on average about $9 per hour – a whopping $0.90 per hour more than the State minimum wage.

Let’s stop and look at Elizabeth’s financial needs. According to the Economic Policy Institute Family Budget Calculator, the annual income needed to attain a modest yet adequate standard of living in Tucson, AZ for a family consisting of one adult and one child is $45,593. This is almost double what she makes! How can anyone reasonably expect this woman to come to work enthusiastic, motivated and wanting to make the customers and her staff happy when she’s either struggling to pay her bills, or living a substandard lifestyle? Yet as an assistant manager of a store, wouldn’t you want your employee to bring their best?

In an Inc Magazine article “How Paying Employees More Can Make You More Profitable” MIT professor Zeynep Ton states that companies who pay their employees above market rates reap the benefits of their appreciation. While many small business owners may argue that this only applies to larger companies who have the profits and resources to do so, we may end up playing the chicken and the egg game. The fact is good salaries are the catalyst to strong profits and to see this we have to look beyond the basic math of

              Current profits – Higher salaries = Lower profits

Let’s take some key factors that come into play when employees are paid well.

Employee attitude

Let’s put ourselves into Elizabeth’s shoes. Imagine working 50+ hours a week and earning $24,000. By the time you get home after work, you have little time to spend with your child(ren). You’re tired and stressed about money. The gratitude you feel for having a job slips into bitterness for having to work so many hours for so little pay. This affects your attitude which will inevitably come through in your interactions with customers and staff. Your attitude could ultimately get your fired or affect your relationship with team members to the extent that you see people finding new jobs.

The cost of employee turnover is real – and significant. They can run anywhere from 50 – 150% of the employee’s salary. There are hard costs like advertising the position, the time to recruit and train, as well as intangible costs such as the impact on the morale of the employees.

The cost of hiring a new assistant manager would cost Elizabeth’s employer at least $12,000.

Employee motivation

If you were Elizabeth, would you feel motivated to do great work? Would you feel proud to be an employee or be excited to make the company look good to the customers? I probably wouldn’t. If I was in this type of situation, I would probably be looking at the clock a lot, waiting for the day to end; spending time focused on all the personal things not getting done; and counting down to my next paycheck. (I hope this isn’t making you think of certain employees!)

Motivation can be severely reduced when a person doesn’t feel that they are being paid fairly. It is hard for me to believe that Elizabeth is highly motivation to do a great job and bring her best effort to work every day.

The motivation level is a real cost to a company. Think about an employee who loves what they do. They are excited to come to work and end up getting more done in a day than their peers. They provide a bigger bang for the buck! This person is actually producing more value than what they are being paid for.

The opposite is true for unmotivated people. They perform below expectation and even when you lower their salaries to reflect this, their performance never meets expectation. These people can produce 50 – 75% of expectation. Therefore, if you pay them $24,000 per year, you’re probably getting $12,000 – $18,000 worth of effort.

Elizabeth’s employer could be losing upwards of $12,000 of productivity/labor.

Customer satisfaction

Have you ever been served by an employee who was obviously unhappy at work? I think we all have. It’s an uncomfortable and sometimes unbearable experience. It’s an experience that makes you think twice about doing business with the company again and guarantees you won’t be referring them any new business. Companies are at a higher risk of losing customers because of low satisfaction, not to mention they have zero chance of getting any business referrals.

I don’t have any statistics on the percentage of customers lost due to a poor customer experience, however research shows that it costs 6 times more to generate new business through marketing than through referrals. If a small business pays on average $500 – 1000 per month in marketing, by paying their employees well and having their happiness impact the customers’ likelihood of referring others, this marketing budget could be reduced significantly.

Annual savings on marketing costs could range from $5,000 – 10,000 per year for small businesses.

In this brief example if the sandwich shop raised Elizabeth’s salary from $24,000 to $40,000, the overall improvement to profits would be:

              Savings from employee turnover             $12,000.00

              Savings from improved productivity          12,000.00

              Reduction of marketing costs                      10,000.00

              Additional salary                                          (16,000.00)

              Total                                                                $18,000.00

Maybe small business owners aren’t doing the math properly. Maybe they need to look beyond the basic number of pure salary increase and look at all the other factors that come into play when people are paid well. It has been proved that the benefits that come from good salaries far, far outweigh the expense. This is a fact that the lawyers will never tell them!

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