HR gets credit for market value

By David Brown
|Canadian HR Reporter|Last Updated: 06/17/2002

HR can generate wealth for shareholders, but its contributions are greatest when human capital practices are aligned with the company’s market orientation, according to new research.

Many factors contribute to the difference in market value between two companies, but the study conducted by Andersen consulting attempted to determine how much of the difference could be attributed to HR. The answer? Almost half.

“We learned that human capital practices explain as much as 43 per cent of the difference in the market-to-book value of one company compared to another,” states the report

Creating shareholder value through people: The human capital barometer study

. (Market-to-book value is a ratio of enterprise market value divided by book value of assets. It is considered an indicator of a company’s ability to create value above and beyond physical and financial assets.)

For HR to affect financial performance this much, human capital (HC) practices and strategies must be aligned to market orientation.

Most organizations fall into one of three market orientations: product innovation, customer intimacy or operational effectiveness. It is possible for organizations to demonstrate all three orientations but the best companies emphasize just one, and align management and HC practices around it. “Our research shows that companies that tailor their human capital practices to their market orientation reap financial rewards,” states the report.

It used to be HR departments would hear about best practices and try to apply them to their organization without considering if it made sense in light of how the organization functioned, said Graham Brown, manager of people strategy with Andersen’s human capital group in Toronto.

“Companies really need to think through their practices based on how they create value, rather than just adopt best practices, which used to be the way HR did things,” he said.

“That it is still common today. Companies will ask what is the best practice in this area and my response is what is the best practice for you. Just pulling in practices can actually have a negative impact.”

Many people in HR believe that everything they do is either beneficial or neutral, said Brown. But the study found that some HR practices can drive down shareholder value.

For example companies that focus on product innovation perform better when they are willing to pay top performers more than other people in similar positions in the organization. However those organizations that focus on operational excellence will be hurt by such a practice because in these settings teamwork and discipline are more important than individual contributions.

“Teamwork may be threatened with the introduction of new team members perceived to be more highly compensated because of their qualifications or individual contributions,” states the report.

Some of the findings of the study were expected but others challenge conventional wisdom, said Brown. For example, according to the research, organizations that focus on operational excellence performed better when they emphasize skill development, rather than productivity standards as might be expected. The most likely explanation is that operationally excellent companies tend to be very process oriented and often those processes have to change. Organizations with people who can learn quickly will execute the changes better. “The team can change faster if the individual can change faster,” said Brown.

In the past, when advising organizations that sought operational excellence, he would not have recommended rewarding the ability to develop new skills quickly, he said.

Another study, conducted by HR consulting firm Watson Wyatt and released late last year, identified 43 HR practices that create shareholder value. For example, by making a significant improvement in total rewards and accountability programs, organizations could potentially see market value increase by 16.5 per cent (for more information see www.hrreporter.com, click on “search” and enter article # 1533).

For a profession still searching for credibility with corporate decision-makers, research that proves HR can create shareholder value is a useful tool.

These are macro-level findings and every HR department needs to do its own measuring, said Brown. But the study reveals trends and should get companies asking themselves how these practices affect their own organization. “This research is allowing us to go into these companies and say this is what we found, what are you finding?”

Sidney Bennett, director of HR for Winnipeg-based Crocus Investment Fund, said capturing value is not easy but it is still incumbent upon HR departments to come up with measures proving their tangible contributions to the organization. “If HR isn’t adding value to the bottom line you ought to can it,” he said.

He also agreed it is essential for HR departments to think carefully before adopting other organizations’ best practices.

A member of three provincial HR associations, Bennett said he talks to other professionals and reads journals to learn what other organizations are trying but won’t simply jump on the bandwagon for popular HR practices without understanding the differences between his organization and the others.

For example, six years ago, while working with a forestry products company, he took a group to Tennessee to study how Saturn was conducting its business.

Some of their HR practices at the car manufacturer could be adopted in whole and others needed only some modification, but others just would not have worked, said Bennett.

One clear example was the Saturn practice of guaranteeing a job for life. It was widely heralded as being a best-in-class practice, he said. “But it was never something you could do in the forestry products industry unless you wanted to go out of business.”

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