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Thursday, 25th April 2024 |
| The key success factors - what the research says |
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| Nowhere is the war for talent more intense than in the Financial Services Industry. Companies require human capital practices that will result in a more productive and engaged workforce and which in turn will lead to a more loyal customer base and better business performance. Organisations invest large sums of money on HR initiatives in the hope of attracting, retaining and motivating key employees. But what kind of return do they get on this investment? More specifically, which of the wide range of available initiatives will deliver the best return for money? |
By Stephen Lalor.
Nowhere is the war for talent more intense than in the Financial Services Industry. Companies require human capital practices that will result in a more productive and engaged workforce and which in turn will lead to a more loyal customer base and better business performance. Organisations invest large sums of money on HR initiatives in the hope of attracting, retaining and motivating key employees. But what kind of return do they get on this investment? More specifically, which of the wide range of available initiatives will deliver the best return for money?
Watson Wyatt’s Human Capital Index™ shows a clear relationship between the effectiveness of a company’s human capital and the creation of superior shareholder returns. It is a single, simple set of measures that quantifies exactly which human resource practices and policies have the most effect on increasing, or decreasing shareholder value. This is based on statistical research in both Europe and the U.S. that showed a remarkable link between intelligent people management and shareholder value.
The Human Capital Index
In 1999 Watson Wyatt launched the Human Capital Index (HCI) Study in North America. The study found that improvements in 30 Key HR practices were associated with an increase of 30 per cent in market value among participant companies. The study was extended to Europe in 2000, incorporating over 250 responses from 16 countries, including a sizeable portion of Europe and the Worlds’ largest corporations. The results of the European study identified 19 key human capital practices that are associated with a 26 per cent increase in market value.
How do we define increase in market value? The collected data was matched to objective financial measures of a company’s value such as total returns to shareholders and Tobin’s Q. Tobin’s Q is the ratio of a firm’s market value to the replacement value of its physical assets. It captures how the market values a business’s intangible assets or intellectual capital i.e. human, structural and customer capital.
There was a clear link between the companies’ HCI score and both the value of their intellectual capital and their return to shareholders. The 19 practices are grouped into five dimensions:
• Intelligent resource management: 7.1 per cent
• Integrated leadership practices: 4.7 per cent
• Competitive pay and benefits: 3.7 per cent
• Focus on the employee: 3.2 per cent
• Absence of paternalistic environment: 7.5 per cent
The percentages indicated are the expected contribution to shareholder value of a significant improvement in each of the human capital practices above. The Watson Wyatt study rates each of the practices on a scale of 1 to 5. Companies which have achieved the best score (5) in all nineteen human capital practices would have a 130 per cent higher return than companies with the worst score in all of the practices (i.e. negligible or negative HR practices).
How significant is the effect of this return to shareholders? If one takes it that the median capital value of all companies quoted on the Irish Stock Exchange is over ?100 million, a mere 1 per cent improvement makes a contribution of ?1 million to the value of that Company. Non-quoted companies or subsidiaries of multinational financial institutions can usually make a reasonable estimate of their market value. This can be done by making comparisons with other firms of similar size, or by reference to their profit or funds under management using valuation factors which are common to their particular area of operations. This can help to get an indication of the scale of the financial impact of incremental improvements to their HR practices.
Not every organisation will receive the exact same pay-back for a given initiative, but the HCI goes a long way towards indicating the magnitude of the return on investment which a well managed human capital policy should be able to deliver.
Watson Wyatt scrutinised the practises in place among the participant group in order to distinguish the good from bad. Arising from this, the best practices which could be implemented by Irish companies.
• Excellence in recruitment
This is reflected by a 1.5 per cent increase in market value. Recruitment should be effectively planned to support the organisation’s business plan by placing people with ready-to-use skills in the right roles. Investment in the recruitment process can reap valuable rewards. Being an employer of choice is one of the key ingredients in being able to attract people of calibre. Selection should include various means of testing the candidates’ suitability and capabilities, those involved in the recruitment and selection should receive appropriate training.
Where labour markets are tightest (as they are in Ireland) effective recruiting may be even more strongly related to increased market value.
• Focused retention
This is reflected by a 2.7 per cent increase in market value. Many companies recognise that not all turnover is necessarily a bad thing. Having people locked into their jobs can inhibit high achievement. This can be addressed through rewarding performance, dealing with under-performance and promoting by ability rather than tenure.
• Money still matters
The hygiene factors - good basic pay and benefits - do matter. These are essential if a company is to be a player in its market. Above average pay and benefits are associated with an increase of 1.1 per cent in market value.
• Stock and incentives
Stock ownership and incentives drive even more value and together are associated with an increase in market value of 2.6 per cent. Having rewards linked to the achievement of specific goals can be a very effective way of engaging employees with the objectives of the business. Any incentive plan should be of a significant size and benefit to the potential recipient and the criteria must realistically achievable.
Involving employees at all levels as owners of the company is demonstrated to provide good value for investment. There are numerous approaches to employee share ownership and companies can usually select one or more that best fit their particular circumstances.
• Focus on the employee
Another common characteristic of high HCI companies was the time and attention they put into communicating with employees. This is reflected by a 2.2 per cent increase in market value. Internal communication should be a core discipline for all levels of management. It is just as important that communication should be upwards and lateral. The aim being to create empowered and highly motivated employees that will add significant value to their employer. The HCI study does not provide solutions but it is a serious piece of research, the results of which can help managers to identify those initiatives where they might best concentrate their efforts and investment. It is now proven that improved Human Capital practices make a substantial contribution to the company’s prosperity. |
Stephen Lalor is a Senior Consultant in Watson Wyatt’s Human Capital Group. He will speak at the Finance Dublin annual conference in March.
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| Article appeared in the February 2001 issue.
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