Jul

Human capital – an appreciating asset

Business leaders frequently state that people are their greatest asset – but in reality very few of them have the evidence to back up their claim. A recent Mercer study⁽¹⁾ found that while most executives believe 'human capital' (essentially, the value of people and what they produce) is very important, far fewer of them measure it or have any idea of the return on their investment. There are a number of reasons for the discrepancy – not least the difficulty of quantifying the value of intangible assets and of coming up with a standard approach. But growing pressure in three main areas – cost control, corporate governance and sustainability – will force companies to address the issue. Controlling costs will continue to preoccupy businesses as they strive to do 'more with less' in uncertain post-recessionary economies. As such, they will increasingly be forced to justify spending what typically amounts to between 21 per cent and 60 per cent of their total revenue on things like compensation and benefits, training and development and other people-related investments, by quantifying the return. What's more, analysts and investors view human capital measures as important predictors of a company's future health – not least because of the significant impact we intuitively know individuals have on customer satisfaction, productivity and revenues. Likewise, more and more questions are being asked about whether the high pay many companies award to their most senior executives correlates with superior performance or, alternatively, could be contributing to those organisations' decline. According to Mercer's research, most business executives believe human capital plays a key role in helping their firms achieve results and competitive advantage. Over 83 per cent of respondents think it has a strong impact on customer satisfaction, 77 per cent believe it has a strong impact on productivity and 65 per cent believe it helps increase revenues. Yet this belief amounts to little more than an act of faith: 84 per cent of business executives surveyed admitted to having no more than a moderate understanding of the return on human capital in their organisations. Respondents also saw human capital as the second most important intangible asset, after customer relationships, in terms of its role in creating and sustaining competitive advantage. But while 95 per cent agreed that intangibles should be monitored closely, nearly 60 per cent admitted that intangible assets in their business are not measured properly. One of the reasons human capital is not measured properly is that it is difficult to do. Inadequate data support is a factor: human capital information is often managed on a country, division or business unit level, when what is required is a pan-company system to collate and analyse the information consistently. The technology is available to do this, but it has not been fully exploited. Another factor is the variable ability and enthusiasm of HR professionals to measure human capital. Over half of the business executives responding to the survey believe that human capital measurement is the preserve of HR, but some of them may doubt whether HR is up to the job. And while human capital measurement could borrow from the approaches taken for other intangibles – not least brands – a consistent approach is stymied by the significant ideological differences about how 'human beings' and their contribution should be valued. For example, many academics and practitioners believe qualitative measures – engagement, knowledge and skills, leadership capabilities and so on – are the most pertinent predictors of business health and sustainability, whereas the business executives who responded to the survey believe quantitative measures such as compensation, absence and recruitment costs are equally relevant. A recent government-funded initiative in Germany – the 'Human Potential Index' – sought to create a standard set of measurements that would allow both internal and external audiences to see which organisations were best at managing their people in order to deliver business results. But it foundered because HR opinion leaders and academics believed it was too prescriptive. Another key finding of the research was that most business executives are unwilling to disclose human capital information to external stakeholders, with fewer than 20 per cent on average prepared to do so. Ironically, while they feel disclosure could undermine their competitive advantage, it might actually enhance it, because at present many research analysts don't factor a company's wider human capital assets into their valuations. Mercer's analysis of the way organisations measure their human capital led to a number of recommendations. Establish human capital measures on a company level. These should be relevant for your organisation, and linked to the overall business and HR strategy, but are likely to comprise a mix of qualitative and quantitative measures. Once you have a set of workable measures in your organisation, you could start to benchmark them against peers in your industry. Human capital measures are much more industry- than geography-specific. Prepare yourself to report selected human capital metrics to external stakeholders such as analysts, banks and investors, as doing so can have a positive effect on your company's market value in the long term. While business executives – the chief executive and finance director in particular – should be involved in determining which human capital measures to use, HR should be the driver and owner of the overall process. Establishing a human capital measurement and management discipline represents a significant opportunity for HR to be recognised as a strategic contributor to the organisation. After all, as the adage goes, what gets measured gets managed, so measuring the return on investment in human capital is likely to improve the way it is managed. At that point business leaders may say not just that their people are their greatest asset, but also that they are an appreciating asset. And they will be able to prove it too.