Building a Successful Business through People

Several years ago my spouse and I built our second new home. It is a process that we greatly enjoy in spite of the fact that it can be more than a little stressful. When building a new home there are a lot of decisions to be made. These decisions include selecting a builder, a floor plan, the type of exterior you want (brick, siding, stucco, for example), selecting your flooring, fixtures, and lighting, and on and on it goes. Some people prefer to buy an existing home because they find this plethora of decisions overwhelming. However, my spouse and I prefer making these decisions ourselves so that we can get exactly what we want and so we can watch our empty lot be transformed into a home.

One of the advantages to building your own home is that you can directly and easily observe the quality going into it. Our first area of concern is the foundation. After our foundation is poured we look at it to assess whether it looks level and is free of any defects. We all know that a good foundation is critical. Without it, the quality of the rest of the construction can be irrelevant. Once we have a good foundation in place, we continue to monitor the construction. We take note of the quality of the materials being used as well as the quality of the framing job, plumbing, drywall, etc. Once the construction is completed and the buyers move into the house, the builder’s job is finished but the homeowner’s job is really just beginning because the house has to be maintained.

Building a business is similar to building a house in that your organization needs to begin with a strong foundation. We’ve probably all known of businesses that were lacking in this crucial factor. The first heavy storm that comes along wipes them out. Although a good foundation is vital, alone it is insufficient for business growth. The quality of our products and/or services is also important. However, we can have a great foundation, a great product or service, and still fail to thrive. Why? Because there is another essential element. What is it?

People.

In an article titled “Putting people first for organizational success,” published in the Academy of Management Executive, Jeffrey Pfeffer and John Veiga discuss the imperative role that people play in business success. Over a decade’s worth of studies within and across disciplines has shown that enormous economic returns are obtained through the implementation of practices that put people first. Their review of these studies has led Pfeffer and Veiga to conclude that an irrefutable business case can be made that the culture and capabilities of an organization, derived from the way it manages its people, are the real and enduring sources of competitive advantage. They recommend that managers take seriously the often heard adage that “people are our most important asset.”

According to Pfeffer and Veiga, some organizations in today’s competitive market, rather than putting their people first, have sought solutions to competitive challenges in places and means that have not been very productive, treating their businesses as portfolios of assets to be bought and sold in an effort to find the right competitive niche, downsizing and outsourcing in a futile attempt to shrink or transact their way to profit, and doing a myriad of other things that weaken or destroy their organizational culture in efforts to minimize labor costs. However, there is a substantial and rapidly expanding body of evidence that demonstrates the strong connection between how firms manage their people and the economic results they achieve. Pfeffer and Veiga report that this evidence is drawn from studies of the five year survival rates of initial public offerings; studies of profitability and stock prices in large samples of companies from a multitude of industries. They report that substantial additional profitability and stock price gains, on the order of 40 percent, can be obtained by implementing high performance management practices.

In his book, The Human Equation, Jeffrey Pfeffer answers the question of how substantial benefits in profits, quality, and productivity can occur simply by implementing high-commitment management practices. He identifies three reasons for the connection between how people are managed and profitable results:

1. People work harder, because of the increased involvement and commitment that comes from having more control over and say in their work.
2. People work smarter; high performance management practices encourage the building of skills and competence and facilitate the efforts of people in actually applying their wisdom and energy to enhancing organizational performance.
3. High commitment management practices, by placing more responsibility in the hands of people farther down in the organization, save on administrative overhead as well as other costs associated with having an alienated work force in an adversarial relationship with management.

High performance management practices do not work because of some mystical process, rather they work because the set of practices is grounded in sound social science principles that have been shown to be effective by a great deal of evidence.

This fact was demonstrated in an award-winning study conducted by Mark Huselid. The study included almost a thousand senior human resources professionals from all major industries. Two scales were constructed from the survey responses. The first was called “employee skills and organizational structures,” and included a broad range of practices intended to enhance employees’ knowledge, skills, abilities, and to provide mechanisms through which employees can use those attributes in performing their roles. The second scale measured employee motivation and was comprised of practices designed to recognize and reinforce desired employee behaviors. These practices included using formal performance appraisals, linking those appraisals tightly with employee compensation, and focusing on merit in promotion decisions. The study assessed the effects of management practices on turnover, sales per employee (a measure of productivity), and the firm’s ratio of stock market to book value. Huselid also included in his analysis a large number of potential alternative explanations for the results, such as size, capital intensity, concentration ratio of the firm’s industry, research and development expenditures as a proportion of sales, among others. He used statistical techniques in order to better assess the direction of causality in order to determine whether performance was driving management practices or management practices were affecting performance. In addition, Huselid employed statistical procedures to overcome sample selection bias.

The results were both statistically significant and substantively important for both scales assessing management practices. The magnitude of the returns for investment in high performance work practices was substantial. A one standard deviation increase in such practices was associated with a 7.05 percent decrease in turnover and, on a per employee basis, $27,044 more in sales and $18,641 more in market value and $3,814 more in profits. A subsequent study of 702 firms, using a conception of the human resource management system that was even more comprehensive, found even larger economic benefits with a one standard deviation improvement in the HR system index being associated with an increase in shareholder wealth of $41,000 per employee. Similar results have also been found in firms operating outside the United States.

So, we know that investing in people is an effective way of building our business and increasing profits, but exactly how is this done? In his book, Pfeffer identifies seven dimensions that characterize most of the systems producing profits through people. They include:

1. Employment security.
2. Selective hiring of new personnel.
3. Self-managed teams and decentralization of decision making as the basic principles of organizational design.
4. Comparatively high compensation contingent on organizational performance.
5. Extensive training.
6. Reduced status distinctions and barriers, including dress, language, office arrangements, and wage differences across levels.
7. Extensive sharing of financial and performance information throughout the organization.

Although some of these may seem contradictory to conventional wisdom, research and experience have found they can be very effective in increasing profits. However, as with any type of effort to improve organizational effectiveness, these have to be implemented in the right way. Take for example, employment security. No matter what the perceptions are of upper management, if for some reason employees do not perceive their jobs as secure, any measures in place to provide security are ineffective. Providing extensive training is another potential problem area. Numerous training opportunities may be available, but are they the right opportunities? Is the company offering the type of training employees need to be more effective at their jobs? How can upper management know the answers to these questions?

Research.

Let’s return to our home-building analogy. Once construction is finished and the homebuyers moves in, it is up to them to maintain the home and property. Think of research as part of a maintenance process. Whenever organizations make changes in order to increase effectiveness, it takes some time to see results. Let’s say we are looking to changes in profit margins to determine whether our measures are effective. By the time we are able to obtain this information, we may have been proceeding with ineffective strategies for quite some time. Conducting employee research can help us to much more quickly determine whether we are on the right track. Getting regular feedback (I recommend once a year) from employees can enlighten you as to their perceptions regarding whether they feel secure in their jobs, believe they have access to the training they need to do their jobs well, and many other variables. This information can be used to tweak processes put in place or may reveal the need to develop new programs if results indicate some are ineffective.

In addition, it is important to keep in mind that employees are not the only “people asset” of our businesses, our customers are also key. It is essential to keep current on the perceptions of your customers to ensure that their views of your products and services are favorable. Once again, I recommend surveying at least once a year, but the top producing companies I work with typically survey their customers quarterly. By staying aware of the current perceptions and attitudes of employees and customers, you can become aware of potential problem areas before they have a negative effect on your profits and make a preemptive strike to correct your course.

The National Business Research Institute (NBRI) has been assisting companies from all over the world with their employee and customer surveys since 1982. During this time NBRI consultants have personally witnessed the positive impact of conducting surveys regularly and acting on the results. Unfortunately, these same consultants have also witnessed what happens when an organization conducts surveys with employees and customers but then fails to follow through with action plans based on these results. One example of the former is a gaming company who conducted customer surveys, took action on the results, and in only one year saw an 18 percentile rank increase in the customers’ intent to return! However, a transport company that has been conducting employee surveys for several years, but not taking action on the results, watched their overall ranking decrease by about 10 percentiles in only a few years when benchmarking their results against their industry. It is obvious from these examples and the research discussed earlier that taking care of our human assets is not optional when it comes to business success.

If you would like to learn more about how NBRI can help your company become more knowledgeable about your human assets in order to make changes that lead to increased profits, contact us now at 800-756-6168.

Terrie Nolinske, Ph.D.

Research Associate

National Business Research Institute, Inc.