Linking Human Capital Measurements to ROI – Part 2

Sixth Entry in the Metrics and Analytics Series

Last week, I published Part 1 of Linking Human Capital Measurements to ROI, setting the stage for the four human capital metrics that track the return on investment in human capital. My source is Kirk Hallowell’s essay in The New HR Analytics book by Jac Fitz-Enz.

As a brief summary,  Hallowell’s four metrics are designed to be event driven (how and when the measurement takes place), clear and easy to understand, and focus on the highest points of leverage for gain or loss of ROI (fewer strategic measures).

So, with that, let’s dig in!

Performance metric 1 – Time to Full Productivity (TFP)

An employee’s time to full productivity (TFP) is simply a learning-value curve that will increase over time as that employee improves their knowledge, skills, and productivity. TFP is a very important metric because it can focus and direct the organization’s investment strategies. In order for this metric to be effective, however, full productivity needs to be clearly defined and quantified in order to properly measure it.

An employee’s competencies and professional relationships will predict the employee’s future performance and contribution to the organizations overall performance.

The primary goal here is for the organization to shorten the employee’s TFP as much as they possibly can. Some of the ways they can do this are listed here:

  • Use an integrated talent development system
  • Hire employees for their competencies and adaptive learning skills
  • Provide competency-based training
  • Deliver a robust and effective onboarding process
  • Identify and address development needs early
  • Deliver timely and effective feedback
  • Provide incentive-based pay
  • Optimize environmental issues (work flow, equipment, support resources, etc.)

Performance Metric 2 – Quality of Hire

The quality of hire is how the employee fits within the organization’s culture and their ability to accomplish their job responsibilities. Different employees will reach full productivity at different rates depending on their skills and experience.  Each employee will have a different starting point, shape, and trajectory on the learning-value curve.

Several variables that can determine the quality of hire are listed here:

  • The employee’s key experiences as they relate to the job responsibilities
  • Their past work and performance
  • A competency assessment
  • Their adaptive learning skills
  • Personality variables as measured by an assessment

Of course, the actual quality of a hire will vary greatly depending on how the candidates are sourced and recruited. Employees with stronger and more developed competencies will achieve their TFP much quicker.

We can also use the quality of hire to justify pay differences between new hires by paying more to those who can show that they are capable of reaching TFP sooner than their peers.  An organization’s decision to invest more in a higher quality of hire will be justified when that new hire reaches their TFP quicker than her peers.

Performance Metric 3 – Quality of Promotion

The quality of a promotion depends on how well the newly promoted manager adjusts and learns their new position. There will be a dip in their learning-value curve after their promotion but if the employee was properly vetted for the promotion and the proper training is administered, the learning-value curve will recover and the employee’s performance will start to provide a solid return on investment.

Most of us can agree that one of the most difficult transitions an employee makes is when they are promoted from a line employee to a supervisor. The employee must shift from being a technical/administrative/functional expert to a management expert.

In addition, when the newly promoted employee becomes the supervisor of people with whom they were peers, they will often fail or struggle for a long period of time. This is where the organization must invest in management training, coaching and effective feedback in order to realize a good ROI.

And this is where the learning-value curve takes a dip.

If the employee’s promotion is successful, their learning-value curve will recover from the dip and begin an upward increase positively impacting their direct reports, systems, and processes.

Performance Metric 4 – Quality of Separation

The loss of good employees can have a tremendous negative impact on an organization’s economic return. Typically, an organization does not measure this impact leaving it a costly and unknown mystery to how serious the impact actually is.

When a good employee leaves an organization, the ROI in human capital is potentially reduced in the following ways:

  • The potential for the employee to add economic value from their performance immediately stops.
  • The organization’s investment in training, experience, and internal networking of the employee is immediately lost.
  • New investments to replace the employee must be made in order to maintain and grow productivity.
  • Loss of potential revenue streams and broken customer relationships may hurt the organization’s profitability.
  • The employee may move to a competitor and take their intellectual capital and customer relationships with them.
  • The remaining employee’s morale and productivity is typically negatively impacted.

The separation costs of a top-performing employee has been estimated to be 75 to 125% of that employee’s annual salary when including lost opportunity costs and adding the direct and indirect costs of hiring, training, onboarding a new employee.

 

The four metrics I just briefly discussed here give organizations the opportunity to apply a dollar amount on the cost or return on investment as they relate to human capital investment as was done above in the Quality of Separation metric above.

I highly recommend you read Hallowell’s essay in Fitz-Enz’s book where he does a great job of explaining the four metrics as they apply to his case study.

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Linking Human Capital Measurements to ROI – Part 1

Fifth Entry in the Metrics and Analytics Series

While looking for ideas for this week’s post and podcast, I came across a very interesting essay in The New HR Analytics book by Jac Fitz-Enz that I feel is very important in understanding how human capital measurements should be made in terms of linking them to an organization’s return on investment (ROI).

The essay is by Kirk Hallowell titled “Roberta Versus the Inventory Control System: A Case Study in Human Capital Return on Investment”.  I’m not going to discuss the actual case study presented in the essay but I want to review the key concepts in the essay as I think they make a great deal of sense in how we should change the way we think about human capital metrics and ROI.

The concepts he discusses identify ways to link an organization’s investments in human capital to their financial returns in the same manner they apply to depreciating or appreciating their tangible assets. Hallowell suggests, and I agree, that accounting metrics and rules need to be modified in order to change the way we think about how we invest in people.

Human Resource costs – recruiting, payroll, benefits, training & development, etc. can typically be a full 70% of an organization’s budget. The fact that most companies don’t have a reliable and consistent method of measuring this much of a company’s budget is concerning to say the least. In addition, human capital costs are always expensed rather than depreciated. This prevents the organization’s leadership from effectively managing and maximizing their human capital return on investment the same way they do with their other tangible asset investments.

When a company invests in their tangible and people assets, they do so with the goal of achieving the same business results but the way the company processes the accounting for each investment is completely different.  Human capital costs are expensed and immediately impact the company’s balance sheet while investments in tangible assets (physical plants, equipment, etc.) are listed as assets and depreciated for up to 30 years.

The result? The tangible assets, which are typically a much greater investment, are recognized as a significantly lower expense on the company’s balance sheet than an initial investment in human capital expenses.

As tangible assets age, they decrease in value and within a certain period of time, they lose all of their value and will need to be replaced. These tangible assets will require maintenance and utility costs to keep them from deteriorating too quickly.

Unlike tangible assets, human capital assets actually increases in value over time. Employees gain experience, expertise, and knowledge becoming more efficient through their work and training. Effective training and management will make the company’s operations more efficient and employees will increase their ability to add value to the organization’s operations. This will happen while the company’s investment in salary, benefits, administration, and training remains more or less consistent.

The return on investment for organizations is always driven by their people but the investment is listed as a nondepreciated expense. Crazy. We have our most valuable asset, our people. We invest in finding the best people we can, train and develop them, and as a result the value of that asset actually increases!  But we treat it simply as an expense rather than an actual appreciating asset!

Hallowell’s solution is to introduce four human capital metrics that will track the return on investment in both the tangible and human capital assets. The four metrics are designed to be event driven, clear and easy to understand, and focus on the highest points of leverage for gain or loss of ROI.

I will explore these four human capital metrics in next week’s post and podcast. This post is a little shorter than usual but if I include the four metrics, it becomes too large of a post so I decided to split this topic into two parts.

Please take this week’s survey, located at the top of the sidebar, about this week’s subject of linking human capital measurements to ROI!

The Five Steps of Analytics

Second Entry in the Metrics and Analytics Series

Next in my series of metrics and analytics, I feel its important to discuss some more of the foundational elements, or the “first steps” as Jac Fitz-Enz calls it in Chapter 2 of his book, The New HR Analytics, in order to better understand the topic.

One of the first things to remember is that it doesn’t make a lot of sense to spend time on metrics that are of very little value to a business. Value comes from the knowledge of things that actually matter and what matters most is a business question, not an HR question. Those of us in Human Resources have to decide what actually does matter to the business and for what purpose.

To help decide what matters, Fitz-Enz introduces five steps of analytics which I will review here:

Step 1 – Recording the work (hiring, paying, training, supporting, and retaining). This is the most basic of HR metrics and were we measure how efficient our organization’s processes are and how we can improve them. This step indirectly creates value for the organization by saving money and/or time, improving production capacity, or improving customer service by coming up with better procedures.

Step 2 – Relating to the organization’s goals (quality, innovation, productivity, service). These four elements, known as QIPS, cover all of the basic goals of most organizations. Goals related to these elements are set by the senior leaders who regularly review the organization’s results as compared to the organization’s goals.

It is important to align the results of our employee’s work to these goals which are related to QIPS. It shows the value of each employee’s work and how it aligns to the organization’s goals.

Step 3 – Comparing results to other organizations (benchmarking). This step compares the organization’s results to those of other comparable organizations. Some examples are comparing the turnover rate between branch stores in a large department store chain, or comparing sales results with organizations within your organization’s industry.

Of course, the more detailed data available from that comparable organization or group, the better the value of the benchmarking as there can be a great deal of variance between the different branch stores or other companies within your industry.

Step 4 – Understanding past behavior and outcome (descriptive analytics). This step is where the actual analysis begins to happen. This is where we start to look for and describe relationships among the data. It doesn’t, however, give meaning to any patterns. We start to see trends from the past but it’s important to remember that its very risky to accurately make predictions about the future from these trends as the marketplace is always volatile and rapidly changing.

Step 5 – Predicting future likelihoods (prescriptive analytics) This step compares what happened in the past to what will probably happen in the future. This is predictive analytics. This is were we start to see meaning to the patterns we see in the descriptive analytics described above. Some examples are when banks predict credit worthiness and insurers predict patterns of accident rates. HR can apply prescriptive analytics to decisions on things like the expected return on hiring, training, and planning of human capital.

As you probably already guessed, these five steps increase in value going up from Step 1 to Step 5. Step 1 is where organizations typically start by collecting basic data like cost, time, and quantity. Step 2 is an easy next step where we simply relate that basic data collected in Step 1 to the organization’s goals. Step 3 is where we compare the data from Step 1 to a comparative organization or group to see how we stack up.

Steps 1 through 3 deal with what are known as metrics as I defined here last week:

…metrics are informational and focus on tracking and counting past data. Metrics look at tangible data that are easy to measure and usually of lower value. Metrics tell us what happened.

Steps 4 and 5 are where the actual analytics begins to occur. I defined analytics here:

Analytics, on the other hand, are strategic and look at both past and present data using mostly intangible data that are difficult to measure and of higher value. Analytics are very helpful with gaining important insights and predictions. Analytics tell us why it happened.

In order to be able to negotiate resources for your HR department’s programs and projects, you need to know and be able to explain why, what, and how your department contributes value to your organization. You need to be able to defend and explain the value that you produce to the organization in order for them to justify the funding you want and need. If you can explain the value by using the language of the business, metrics and analytics, you will have a much better chance of earning the funding and/or keeping your programs and projects.

That’s smart business and HR must learn to think this way. That’s why I love Jac Fitz-Enz’ books and that’s why I’m working on this Metrics and Analytics Series. HR needs to fully embrace metrics and analytics and learn how to comfortably speak the language of business. That’s the only way we will be taken seriously by senior leadership and have a positive impact on the organization’s financial and business objectives.

A simple and common example would be to look at the quality of a hire measurement once we fully understand the cost per hire and time to fill data. The question is, however, how do we measure the quality of a hire?

Another great example is with training programs and how relevant is training to an organization? Are the trainees doing a better job because of the training they received? How do we measure this?

We have to be able to figure out how measure these things because putting value on work without any supporting data is ineffective and dangerous. Training programs are often the first programs to be cut when there is an economic downturn because there was no data supporting their value to the organization.

That concludes this week’s entry in the series. As I continue this series I will explore the methods measuring things such as quality of hire, quality of training, and many more that are important and relevant to HR.

Introduction to How HR Adds Value to Investors

As a student of the HR profession, I’m currently reading Ulrich and Brockbank’s book “The HR Value Proposition” and am gaining a lot of very useful and valuable information from it.  As I stated in this post, I am going to explore how HR can add value to strategic business decisions that the CEO and Exec team can use when planning.

My first post will be the introduction of a series on how HR can add value to the company’s investors.  Since I am also involved in Investor Relations, this topic was very interesting to me so I want to start and spend some time exploring it since it blends both my responsibilities.

Investors mostly care about the price of the stock since it represents how the marketplace values the current and future value of the company.

Ulrich and Brockbank list six actions that HR must do in order to show they can have a direct affect on shareholder value:

  1. Become investor literate
  2. Understand the importance of intangibles
  3. Support HR practices that build intangible value
  4. Highlight the importance of intangible value to total shareholder return
  5. Design and deliver intangibles audits
  6. Align HR practices and investors’ requirements

Future posts will explore each one of these actions.

This is re-posted from www.RichBoberg.com