Human capital: Meaningful metrics
In theory, it should be possible to put a figure on an employee's value to the bottom line but attempts to establish generic measures have failed. Lauren Mills reports on current thinking.
Directors need to transform the airy cliche about people being their greatest asset into a guiding principle of business strategy." This was the no-nonsense warning former Monopolies and Mergers Commission deputy chair Denise Kingsmill first issued to business in 2003.
Her comments were made in her capacity as head of the Government's ambitious Accounting for People Taskforce (AFPT), set up to try and establish a set of generic people metrics for company reporting. But despite these grand aims, 10 months on (and £277,000 later), the AFPT was disbanded, concluding it was not, after all, possible to create a common set of human capital metrics (HCM).
This government snub has proved strong enough to keep the subject swept under the boardroom carpet ever since. Five years on UK public companies are still not required to report on human capital in any financially meaningful way. Those that include information about their workforce do so under sections in their annual reports such as corporate and social responsibility, rather than their operating and financial reviews (OFRs).
Yet as recent stock-market chaos has revealed, traditional company valuations are more and more meaningless, and some believe the idea of valuing a company by its people (and their skills and knowledge), should be revisited. Human capital is a well-defined economic idea, with research linking investment in the skills and education of people with their prospective economic worth. Should it not, in theory, be possible to measure an employee's value to the bottom line?
Royal Bank of Scotland's former chief executive, Sir Fred Goodwin, recently helped put HCM on the group's business - not just HR - agenda, when he became possibly the only CEO to have briefed City analysts on the results of the group's annual staff survey. Centrica, Vodafone and Tesco have also included information on people strategy in their annual reports.
Yet most stop short of publishing metrics that reveal the value of their employees to the bottom line. Dilys Robinson, principal research fellow at the Institute of Employee Studies (IES), believes that unfortunately it is the sort of information most companies would rather keep to themselves. "Many companies have proved the engagement-performance link but they do not want to publish the detail because it gives them a competitive edge they don't want to lose," she says.
Peter Cheese, managing director of talent and organisation performance at Accenture, says: "It is a huge paradox as people broadly understand there is an immense amount of value in putting a number on human capital." He estimates 70% of a company's market value cannot be explained by traditional measures. "A huge proportion of this is around human capital - quality of the workforce, leadership and so on."
Yet there is little evidence investors and financial analysts are interested in the worth of people to a business either. Anna Marie Detert, head of human capital at Buck Consultants, says it took 10 to 15 years to get brand value on the balance sheet. "We are in the same boat with HR metrics," she says.
The City, however, is notoriously shallow and short-term in the way it assesses company performance. Andrew Lambert, director of the Corporate Research Forum, believes this has to change "A lot of investment measurement is about share price movements. But this can be quite destructive. As we have seen recently, panic can set in and a healthy organisation like HBOS can be shafted very quickly," says Lambert.
He highlights the fact most accounting figures are historic and backward looking, while human metrics are lead rather than lag measures and can therefore be predictive of performance. "They are not absolute predictors, but the more people understand cause and effect the more interesting this data becomes," Lambert adds.
One of the problems is that different HR directors tend to use different measures. Karan Paige, chief people officer at Ceridian, is uncertain as to whether it is possible to come up with meaningful measures that could be applied across the board. "It's probably true there is not a consensus on what to measure and how," she says. "For me the answer is the proof of the link between people capability, motivation and engagement with business performance."
Extensive research has concluded that for an employee to be profitable they should generate double their gross salary in income for the business. Nikos Bozionelos, professor in organisational and human resource management at Durham Business School, dismisses such an approach. He points out that an employee's ability to generate value depends on many external factors, "starting with selection, followed by training and development, and leadership and motivation throughout the employee's time with the company".
And these are areas in which HR departments are already closely involved. So perhaps it is down to them, in collaboration with finance directors and senior management, to translate what they already know into meaningful numbers that could appear in OFRs.
"HR should investigate the links between people and performance," says the IES's Robinson. "That way they can demonstrate how people affect the bottom line. By doing so, HR becomes a valuable partner to the business."
Cheese thinks there are already moves across the HR industry to develop generic measures but warns that it will be impossible to come up with a one-size-fits-all approach. "There are huge differences between industries,' he says. "But there are some areas that produce hard numbers - productivity, headcount and retention rates."
Given the recent events that have rocked the financial world, it is only a matter of time before analysts and investors look for more robust measures of a company's value And while HCM may not be an exact science, well-measured and properly communicated data showing the value of the workforce would be another source of comfort during unstable economic times.
THE INVESTORS' VIEWS - AXA INVESTMENT MANAGERS
Raj Thamotheram, director of responsible investment, AXA Investment Managers, is convinced human capital is increasingly important because it can improve productivity in organisations when pricing power is weakening. He says: "Good human capital management is perhaps the most important driver for productivity. We believe market efficiency would be improved by better corporate reporting of material HCM performance, allowing analysts to take these issues into account more routinely."
Jean-Marc Maringe (pictured), who runs the group's newly launched AXA WF Human Capital Fund, goes a step further. He firmly believes there is a link between good HCM and the financial performance of a company. "Good HCM, which includes things like quality of working conditions, career development and training and reward systems, as well as employment growth, creates competitive advantages for companies and investors. Productivity factors are becoming major competitive advantages," he says.
In a bid to persuade companies that HCM should become a more mainstream issue, AXA's new fund aims to identify European companies that combine a strong financial profile with well-developed HCM practices. The fund takes a highly innovative approach in that it cites human capital as its primary criterion for investment. Companies it has so far invested in include Serco, the UK facilities management group, Sodexo, the French food services company, and Novozymes, the Danish biotechnology company.
THE HR DIRECTOR'S VIEW - MEL FLOGELL, HEAD OF HR POLICY, CENTRICA
Centrica, the FTSE 100 energy company that owns British Gas, takes HCM more seriously than most public companies. In 2005 the organisation launched the Centrica HCM programme as part of its HR Transformation policy. To Centrica, HCM is about the value people bring to the organisation, the way people are managed and the alignment between an individual's performance and the organisation as a whole. It also believes in measuring what is important, rather than what is convenient.
While Centrica includes considerable HCM data within its annual report, Flogell believes it is unlikely companies will be required to include people metrics in their operating and financial reviews (OFRs) in the future.
"The way companies measure them can be very different. And that is why reporting people metrics has not become mandatory - because there would be different assumptions and interpretations," she says.
She adds that investors remain primarily concerned with the efficiency and effectiveness of a workforce as a component of the overall competitiveness of a company. "Only HR issues that could directly affect a company's operations may provoke an investor's interest," she says.
However, Flogell believes this may be changing as more people realise an engaged workforce delivers value to an organisation. "Talent management is now at the top of most CEOs' agendas," says Flogell. "Ensuring staff are performing to their full potential is how organisations will secure their competitive edge. Investment in people is imperative for delivering the business strategy, and shareholders are going look for evidence of this."
Furthermore, Flogell is convinced money devoted to measuring human capital is cash well spent: "Measuring less tangible information provides HR with a more complete picture of the overall health of its workforce. Publishing this information can add value to a company's CSR and HR objectives. The company becomes more transparent, which helps its reputation in the City and positive HCM figures can also assist in recruitment and retention."