Promoting from within pays off

External hires often paid more but perform poorly: Study
By Sarah Dobson
|Canadian HR Reporter|Last Updated: 07/17/2012

In 2010, 56 per cent of the hires at Mountain Equipment Co-op (MEC) were internal. The following year, 65 per cent were internal. The increase is partly explained by a culture and philosophy that encourages internal promotions, according to Julie Robb, manager of recruitment and training at MEC in Vancouver.

“We strongly encourage hiring managers to promote from within wherever possible. So, if they’re in a situation where they’re hiring and they’ve got an external incumbent and internal incumbent that are bringing comparable skills and experience, we definitely advocate for the internal.”

Also making a difference was a leadership framework rolled out in 2010 that included training and the promotion of a coaching culture, she said.

“Individuals who’ve gone through that training, it’s definitely impacted their skills development to then be ready and able to move into other roles within the organization.”

The majority of employees at MEC also have post-secondary education, so many have the aptitude and skills to step into different roles, said Robb.

Managers are also accommodating if one of their reports decides to apply for another position internally.

“We’ve got a very nurturing, supportive culture at MEC, in terms of internal promotions,” she said. “Also... it really helps increase engagement and, ultimately, retention.”

That kind of focus on internal talent makes a lot of sense, judging by a study in Administrative Science Quarterly that found several downsides to external recruiting.

Many people hired externally receive significantly lower performance evaluations and are paid substantially more — as much as 20 per cent — but have much higher rates of exit from the job, according to the study’s author, Matthew Bidwell, assistant professor of management at the Wharton School at the University of Pennsylvania in Philadelphia.

“The obvious puzzle this raises is why on earth is a company hiring anybody (externally) given that these people do worse and get paid more?” he said. “Doing this study made me a bigger fan of internal mobility, certainly.”

“Paying More to Get Less: The Effects of External Hiring Versus Internal Mobility” was based on the personnel data of 5,000 employees over seven years at an investment bank in the United States. In looking at the mobility of employees, 55 per cent involved promotions, 32 per cent external hires, 10 per cent transfers and three per cent were combined transfers and promotions.

While the performance of promoted workers and new hires converged after two years, that lower initial performance underlines the importance of both firm-specific skills and unobservable attributes in shaping performance, said Bidwell.

“It takes a while when you’re in an organization to learn about how that organization operates and to build the relationships that you need to be effective in your job.”

The culture of a company is something people underestimate when hiring externally, according to Christian Levesque, CFO of consumer technology company Tamaggo in Montreal. It’s not the theoretical learning but the cultural learning that’s the challenge.

“I’ve been at organizations that are truly horrible — there’s the official org chart and then there’s the unofficial org chart, and this really hinders a lot of the performance of an employee,” he said. “Coming from outside, there’s that learning curve that nobody can really teach you.”

External hires are also 61 per cent more likely to leave an employer involuntarily and 21 per cent more likely to leave voluntarily, according to the study. Poor performance issues and dissatisfaction with the job go hand in glove, leading to the departures, said Claudine Kapel, principal of Kapel and Associates in Toronto, a human resources and communications consulting firm.

However, MEC has not seen any performance issues when it comes to external hires, though there is a steep learning curve, said Robb.

“We do quite a thorough job in recruiting practices so, because of that, we are making the best decision when hiring individuals into the organization.”

Employees who are simultaneously promoted and transferred to another group do not perform any better than external hires, according to the study. With a promotion, there’s some continuity in terms of the work, said Bidwell, but a promotion involving a transfer into a new area is a complex move that involves a lot of change at once.

There is definitely a learning curve for internal promotions, along with the cost of training to get them up to speed, said Robb. And sometimes, managers are too keen to support the internal hiring philosophy and end up picking the wrong person for the job, she said.

“In some instances, very few, someone has been promoted and it’s a stretch and too far, or they’re not the right fit.”

But many managers tend to dismiss potential internal employees, said Levesque, adding he once coached an account manager who did very well in a higher position.

“It was quite a good discovery that this guy had a lot of talent,” he said. “People tend to categorize employees too quickly and don’t really understand what they’re all about.”

Higher salaries for outside hires

But when it came to compensation, internal movers received significantly lower salaries and initial bonuses than external hires, found Bidwell.

On average, external candidates are judged by their resumés and these tend to be stronger than those of internal people, which can mean higher pay, he said. And while an employer might promote an employee with a weak resumé because she’s a strong performer, that doesn’t necessarily mean the same bump in pay.

While MEC has a compensation program and salary administration guidelines that managers need to follow, external hires may receive higher pay, said Robb.

“External hires may come into their roles a bit higher than internal but that’s only because, generally, they’re bringing greater depth of experience and skills to the role.”

Delvinia has actually shifted its approach to compensation, according to Adam Froman, CEO of the digital strategy and customer experience design firm in Toronto.

“When we look at internal promotions, we respect that people need to get paid what the market is.”

In the past, long-time employees were given small increases over the years but, during that time, it’s possible their market value shot up 30 per cent, said Froman.

“As an employer, you need to be aware of what the market value of your employees is. If you’re not, then it’s very short-sighted to think you can get away with underpaying an employee and they’re not going to look elsewhere. You have to be pre-emptive.”

People who move around a lot to different opportunities can negotiate increases, said Kapel. And an employer may simply desire particular talent and be willing to pay whatever it takes to secure that talent.

But that kind of strategy can drive up costs, she said, and be disruptive among existing employees.

“The question is: If you feel that you need to be hiring externally in order to get certain skill sets, does that highlight potential gaps in an organization’s own talent management strategy in terms of could they be doing additional things as well to grow their talent so they don’t have to be buying talent as the primary lever of getting the skills they need?

“It’s a call to organizations to make sure they’re not undervaluing talent they have today or the potential for that talent to continue to grow and evolve and meet the organization’s evolving talent requirements.”

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