A company is only as good as its people and human capital expenditure is a significant factor for many organizations. Although it is commonly agreed that establishing a talented and committed workforce is essential for success, the cost of labor is often viewed as a financial strain on the company and a detractor from business outcomes.
But what do we mean exactly when we say the impact of labor costs and productivity is critical on financial outcomes?
We simply mean that the cost of labor and resulting productivity is not evaluated in terms of generating bottom-line efficiencies for the company. In the new “data-driven” age, we can apply algorithms to understand human capital efficiencies and inform management on how to change or improve human capital decisions that ultimately impact financial outcomes. As for the relevance of labor efficiencies, it’s important to know why this variable is often the difference between an average business and a thriving organization.
Let’s take a closer look at the relationship between human capital expenditures and financial outcomes:
The Importance of Human Capital Expenditure
Human capital expenditure is directly responsible for the level of profitability in a company.
The cost of labor, not limited to salaries and fees, is the most leverageable investment in any business. In fact, these labor costs often account for 60% of expenses with the remaining 40% split between financial capital and property. As the greatest ‘weight’ in this equation, we know the cost of labor directly impedes or nurtures financial growth.
That’s not to say human capital is a blight on the accounts or to take away from the importance of committed employees, leaders and directors. After all, the skills and experience of the labor force is largely responsible for the profitability of any company.
On the contrary, we want to emphasize the “leveragability” of human capital as an investment (not as an expense) and support our belief that most businesses need to pay more attention to this side of their business model.
Measuring the True Cost of Labor
Traditional accounting practices tend to deduct human-related expenditures from company revenues which can often guide decision-makers in the wrong direction. In other words, even though human capital gives such companies a competitive advantage, these costs are most often treated as expenses and not measured or quantified in a powerful way.
At the same time, measuring the relationship between labor costs and return on investment is incredibly difficult without analytics and the right algorithms. In fact, this is precisely where most businesses go wrong as they fail to understand how to make use of critical data related to company performance.
Human Capital should recognize this imbalance of quality and the need for algorithms to assess the true cost AND the impact of human capital expenditure on the bottom-line.
But what exactly can a business do to take more control of these labor-related financial outcomes?
Algorithms and Data Driven Decision-Making
Data-driven decision-making is critical for the success of any business – and it is a common practice to use analytics when considering investments in physical property and the other uses of financial capital. However, the extent to which data-driven decision-making is used to understand human capital investments and efficiencies is almost non-existent. Data-analytics should be used to assess human capital investments in much the same way as it is used to make decisions about other economic inputs to the business model.
Improvements are sometimes very easy to attain. The best news is that small changes in human capital efficiencies will often have a greater impact on investment return than will small changes to property investments or financial capital uses – because of the leverage impact. For example, a reduction in attrition of just 1% can generate more profitability than changes to any aspect of financial capital or property.
With this in mind, there needs to be a rigor in our approach to understanding human capital efficiencies and investment returns consistent with each organization’s unique business model. In this sense, a specific set of criteria can be used to express the business model and improve ROI.
If you’re like me, you think that taking a data driven approach is the most reliable way to understand the signals within your business and market. What’s more, you understand the significance of human capital expenditure to predict and optimize financial outcomes and the importance of tying these two together with specific algorithms and analytical data.
Conclusion: While commonly agreed that a company is only as good as its people, the cost of hiring and maintaining those people should never be a ‘weight’ on its operating outcomes, but a contributor to economic value creation.
Solange Charas is a senior-level human resources expert with 30+ years of experience as a consultant, practice leader, top corporate executive, and board director across all industry sectors. She was the Chief Human Resources officer at Havas Worldwide, Benfield and Praetorian Financial Services Group and held senior-level positions at Ernst & Young and Arthur Andersen. She serves of the boards of 2 public companies, a non-profit organization and a higher-education institution. She is the Founder and CEO of HCMoneyball – a SaaS company founded to provide support for enhanced decision making about spend on people in any organization.
Solange earned a PhD in Management from Case Western Reserve University’s Weatherhead School of Management, an MBA in Accounting and Finance from Cornell University’s Johnson Graduate School of Management, and a BA in International Economics from the University of California, Berkeley. She has authored numerous articles, including “The Art and Science of Valuing People” in HR Director, “6 Ways to Coach Your Company’s Teams to Be Champions” in Entrepreneur Magazine and “Why Men Have More Help Getting to the C-Suite” in Harvard Business Review.