Making the Business Case for HR: Talent Management Aids Earnings

In the first-ever attempt to link talent management with financial performance, Hackett connects the dots for HR and C-suite leaders. Gains of $400 million to the bottom line are a compelling reason to pay attention to talent.

by Andy Teng

When Steve Joyce, senior business advisor at the Hackett Group , and his team found a remarkable correlation between good talent management and a company’s financial results, even some colleagues at the benchmarking firm expressed skepticism. That’s because the numbers were simply astonishing and even caught Joyce off guard.

“The surprise was the skepticism from some of our internal folks, particularly those with finance backgrounds,” he recalled.

What Joyce and his team discovered in a recent study released by Hackett was that top-performing talent management organizations—those that really get the purpose of strategic workforce planning, workforce development, and organizational effectiveness—posted earnings before interest, taxes, depreciation, and amortization (EBITDA) that are 15 percent higher than peer companies. For the average Fortune 500 company with $19 billion in revenues, the savings amounted to a whopping $400 million. Similar gains in return on assets and return on equity were also revealed.

More importantly, according to Hackett, leading organizations didn’t spend more on talent management than their peers. What differentiated their efforts was how they used their resources, with outsourcing emerging as one way to more efficiently leverage their spend. This finding, along with the earnings revelation, confirmed what many have suspected all along—investments in strategic HR activities such as talent management lead to greater value for the organization.

“We came away convinced that this is an important finding, and the data supports it,” said Joyce, who also cautioned that HR leaders shouldn’t jump to the conclusion that superior talent management is the only reason for higher earnings. Nevertheless, the data support a strong correlation.

THE METHODOLOGY
Joyce said Hackett decided to examine the role that talent management has on the bottom line to confirm the theory. After hearing from a number of HR leaders that their CFOs wanted concrete data to support greater investments in talent management, his organization set out to do just that—show a strong connection between the two. The challenge, however, was to quantify amorphous data subject to interpretation, and Joyce conceded that critics may still dispute the findings. However, he added, this seemed to be the first effort to correlate human capital with earnings with data.

As a starting point, Hackett first defined talent management as four process groups— strategic workforce planning, staffing services, workforce development, and organizational effectiveness. By developing metrics that rated companies’ effectiveness and efficiency in those process groups, Hackett divided its base of companies by quartile. Only those ranking in the top quartile in both efficiency and effectiveness were considered top performers.

Using a base of S&P companies, Hackett compared the leaders with their peers on a three-year average performance basis for four financial benchmarks: EBITDA, net profit margins, return on assets (ROA), and return on equity. To eliminate industry bias, Hackett also compared top performers with their peers in the same industry. A final comparison of those companies was made against Fortune 500 businesses.

Against both Hackett’s own database of companies and the Fortune 500, top talent management performers scored better in all four categories. EBITDA as a percent of revenues was 16.2 percent for top performers; it was 13.5 percent for Hackett peers and 14.1 percent for the Fortune 500. Net profit margin was 7.1 percent for the top; 4.5 percent for Hackett peers and 5.8 percent for the Fortune 500. Similar disparities were reported on returns on asset and equity (see Fig. 1).

Joyce said this information can help HR leaders win resources in their talent management efforts. At a time when CFOs are searching for more ways to reduce costs on every front, this information gives HR ammunition to ask for greater resources, Joyce said.

“Many clients are asking to reduce costs but also saying, ‘How do we ensure we are striking the right balance with investments?’ What we’re trying to get at is providing tools and information to help HR executives to drive information in their organizations,”
Joyce added.

But top talent management organizations don’t need more resources to achieve their status, according to the report. In fact, they spend less on HR per employees than peers. Hackett reported that leading companies spend $1,885 per employee while peers averaged $2,014, a six-percent difference. They also spend less on HR process costs (see Fig. 2).

How do they accomplish with less? Hackett revealed that leading organizations spend 31 percent less on transactional process—a pivotal driver behind just about every major outsourcing deal to date—and 16 percent less for the overall employee lifecycle. They do, however, spend eight percent more in workforce development and 18 percent more in workforce planning.

Other telltale signs of a leading talent management organization include higher investments in HR function management (a five-percent premium), a more likelihood to have a formal HR strategic plan (57 percent), twice as likely to hold strategic workforce planning discussions with senior management, and 50 percent more likely to link learning and development strategy to the organization’s strategic plan. In other words, Joyce noted, these organization are putting HR to work to support business plans.

Joyce said it’s clear that C-level leaders are cognizant of their need for good talent management. An advisory council of business leaders recently formed by Hackett voiced that talent is one of its top three concerns.

While Joyce said the initial findings were important, he also cautioned against using the data as the sole basis for determining earnings results. He said there is no market consensus on which processes are involved in talent management and that some of the benchmarks used are weighted toward efficiency and less on effectiveness. To better understand the correlation, Hackett said a new generation of benchmarks is needed.

Although Joyce said he expects skepticism about the study’s findings—Hackett plans to conduct additional research in this area—he said they do provide a foundation for HR leaders to become more strategic, which may mean outsourcing highly transactional processes and retaining core functions. If nothing else, it urges HR to at least begin strategizing talent management.

Posted May 10, 2007 in Talent Acquisition

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