This article, first in a series, covers how human capital management changed dramatically during this last year. This series of articles is intended to highlight five new principles that need to be understood by anybody working in this field, in order to act with insightfulness.
When times are difficult, the CEO of any company looks at expenses. He or she sits down with the CFO and sees that over 65 percent of spending is on salaries…so salaries are cut by a huge layoff. We have seen many companies announcing important people reductions, from 15,000 at Deutsche Bank to 30,000 at Boeing. But most of the time CEOs are in situations where they have to reduce staff, but don’t really know who to cut and why, and how it will change the future of the enterprise.
The new economy and technology have created new principles of human capital that organizations need to understand and internalize to be a leader either in a downturn or in a growing economy. One of the fundamental new principles of human capital management is: A Skilled Workforce is a Cash Multiplier. What does that mean?
Knowledge Economy
The new economy is often called the knowledge economy. Emerging from an industrial age, this new economy distinguishes itself by having a large amount of the value of the company residing in the head of the employee instead of in the tangible assets of the company.
This realization was made very clear by a 1999 Business Week article showing that the valuation of Microsoft was superior to GM + Ford + Boeing + Lockheed-Martin + Deere + Caterpillar + USX + Weyerhauser + Union Pacific + Kodak + Sears + Marriott + Safeway + Kellogg. Yet, the only value at Microsoft resides in the heads of its employees!
Another way to show the intrinsic value of intangible and human capital is to look at the historical evolution of the ratio of the S&P 500 between the market value and the book value. The ratio of book value to market value was approximately 1 in the early 1980s. In 2000 it had risen to about 6. Among those companies, current employees are now perceived as a key element, along with the ability to attract and retain talent. Faced with this issue, many academics started to review and suggest some new models to give a better account of a corporation’s worth.
Fortune magazine’s “Best Company To Work For” is also a sign of the times showing more emphasis on human capital importance. But more than a tool to attract twice as many applications and make the front page, it has also been shown that those corporations exhibit better financial performance than other companies[1].
Recruiting Excellence
The challenge to any corporation for the recruitment and retention of outstanding talent has never been more profound. High performing employees are the key for corporate success. At the individual level, a study from McKinsey & Company showed how high performers generate more results than average performers; corporate officers they surveyed believe the difference in impact for sales positions is as high as 67 percent[2].
As mentioned on a corporate level, studies from Hewitt, and Watson Wyatt have shown that recruiting excellence brings positive financial results. The Human Capital Index Survey demonstrated that organizations with excellence practices in recruiting have been linked to a greater than 10 percent return in shareholder value. Human capital management strategies make a clear impact on the corporate bottom line.
On a more anecdotal basis, examples such as 3M creating the Post-it® success story out of a failed project to invent a super glue, show that human creativity and fine awareness of business needs can create miracles.
In light of those facts we can see why most financial reports start with something like “Our employees are our greatest assets, and they are the key driver of our future success.” It is also the reason why we see a skilled workforce as a cash multiplier. Most venture capital companies have understood this and repeatedly state “we prefer a B idea with an A team, to an A idea with a B team!”
Value of a Quality Workforce
Unfortunately, by mass layoffs large corporations forget this basic principle and cut A teams on projects that are not yet profitable and often waste the potential to re-deploy the A team on what they determine as their A project. This is the paradox of executive management today.
The key consequence of a true understanding of this principle is an emphasis on a quality workforce. The definition of quality is the ability for an individual to increase the corporate value. Although a discussion of the legitimacy of this definition is beyond the scope of this article series, the strategies to achieve better quality can be understood and applied.
To achieve the positive financial results that occur with recruiting excellence, corporations need to place importance on acquiring a quality workforce.
[1] Are the 100 Best Better? An empirical investigation of the relationship between being a best employer and firm performance. Hewitt Associates LLC, March 2000.
[2] The War for Talent, McKinsey & Company, September 2001.
