The Value of Being a Best Employer
Organizations with superior HR policies earned double the stock market average rate of return, according to a recent study. The question left unanswered is whether such HR policies caused the stock performance or whether the performance permitted those companies to enact such policies.
By Peter Cappelli
My finance colleague Alex Edmans has written a
paper
that has gotten
more attention from the human resource community
than anything in recent memory. He analyzed the long-run stock-market performance of companies that were identified by Fortune magazine as "The Best Companies to Work For In America" and compared them to the market average.
In Does the Stock Market Misvalue Intangibles? Employee Satisfaction and Equity Prices, he found that the firms in this category in 1998 earned a rate of return that is double the market average by the end of 2005.
In a world where everything about public companies is driven by stock prices and where investment managers kill for one basis point improvement in portfolios, finding an attribute of firms that predicts a 100 percent gain in shareholder value -- that is 10,000 basis points -- is a truly stunning finding.
And unlike the "flavor of the month" findings from the world of consultants showing the performance effect of using this tool or that tool, these results are carefully done and credible. The question, though, is what do they mean for us?
In particular, what do they mean for people who are interested in human resources, especially for those who advocate that companies spend more time and money becoming better employers?
Here is where we have to move from the reasonably sensible and concrete world of management into the arcane world of finance.
In the world of finance, particularly on its "moon" of investors and shareholder value, the issue is not how well a company performs by any concrete or objective measure. No, here, the concern is predicting future stock prices.
A company that has great performance and everyone knows has great performance will have a high stock price right now. A company that will have great performance in the future and everyone knows will have great performance in the future will also have a high stock price right now.
A company whose stock price rises sharply over time is one whose economic performance rises in ways that investors could not anticipate in the past. The trick for investors is to see whether there are any clues about companies now that help us predict whether performance will rise in the future.
If you could spot those clues early on -- the firm discovers a new product or technology, e.g. -- then you could buy the stock now and make a ton of money later on when other investors see performance rising and bid the price of the stock up.
The trick for investors, therefore, is not to know what predicts performance. It is to find the clues to predicting performance that other investors don't see.
What Alex found in his study is apparently one of those clues, a massively huge clue, it turns out.
But here's the point. Being selected as a "Best Company to Work For in America" doesn't mean that your performance, in terms of productivity or profit performance, is better than other firms. It is a clue that it will be better in the future than investors anticipate now.
If you are an investor, this is very good news because it means that you can make money by buying the stock of companies that receive this recognition. Of course the downside of any great stock-picking idea is that once everyone else finds out about the rule and starts to apply it, the rule no longer works.
If everyone realizes that these companies are going to have good performance in the future, then they will bid the price of the shares up now, and there is nothing to be gained from buying them.
One of the big conclusions from Alex's paper is that investors have not paid attention to the kind of information about employee management that is embodied in a selection like the "Best Company to Work For in America" list.
Why that is raises interesting issues about the orientation of the investor community. (It is no surprise to most of us to find that investment analysts know little about human resources.)
Let's turn to what this means for human resources.
Does it mean that companies can become great performers by doing the sort of things necessary to get on a "best employer" list? That is hard to say, because in Alex's research, he can't really tell whether firms that are already doing well decide to spend the time and money to get on these lists or whether firms that get on the list are just great at all kinds of things and that their other practices drive the better performance.
It is probably true, though, that if investors pick up on Alex's finding, then simply being on the list will be a signal to investors to buy a particular stock. That's the beauty of investors. Unlike academics, they don't care why things work.
Peter Cappelli is the George W. Taylor Professor of Management and director of the Center for Human Resources at the Wharton School of Business.
www.talentondemand.org
.
June 23, 2008 Copyright 2008© LRP Publications
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