Running head: BLIND INVESTMENT, FINANCIAL ANALYTICS AND HUMAN CAPITAL METRICS 1

Financial Analytics and Human Capital Metrics

Based on a review of
Blind Investment - an article by Robert Grossman

EMBA 7045 Strategic Human Resource Planning

University of Fredericton
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Abstract

In the following paper, I will answer five questions that begin with attention on Wall Street
analyst’s approach to typically not recognizing human capital as an indicator determining a
firm’s value and a need to shift focus to the contribution human capital resources provide.

Financial reports satisfy accounting requirements and related decision making; however, they
lack depth in determining how the human capital is supporting or detracting from production or
profitability. I will discuss the bridging of revenue based companies to a government
bureaucracy and how human capital metrics can be adapted and useful in supporting staffing
decisions and contribute to reporting practices.

In the context of a federal government organization, the HR planning process is outlined by

Treasury Board Secretariat (TBS) process designed to identify human resource gaps based on the
organization’s strategic direction and operational requirements. I will conclude with answering
the final question being my rationale for applied human capital metrics and their relevant
meaning to Natural Resources Canada.
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1. Why are Wall Street analysts not interested in the human capital of a firm?
Analysts focus on the financial evaluation of a company’s potential worth measured in
part by the organization’s stock price. An investor has an expectation of meeting a target rate of
return (ROI). This ROI is directly related to both a “return of” and “return on” dollars invested;
this being confidence that invested funds will be recovered at a point in time and that the rate of
return is compensatory with the risks inherent with the venture. In tandem with this ROI,
investors speculate on the future worth – capital appreciation of their investment. Decision
making can be speculative or analytically supported and in most transaction, a combination of
both. Wall Street analysts recommend buy and sell opportunities to their investor clients and are
compensated for success and penalized for failed investment advice. To invest in a company is
reliant on understanding the past and future anticipated financial performance by applying trend
analysis and ascertaining key performance indicators through ratio analysis. In addition, the
investment decision is augmented by an analysis of the company’s non-quantifiable
characteristics which evaluate opportunity costs, liabilities and the associated industry strengths
and weaknesses that influence investment risk.

One non-quantifiable characteristic is human capital. Unlike ROI, there is an absence of

universally accepted metrics for numerically capturing the value of an organization's human
capital. This is a weakness in many business sectors as there are few established industry-
specific benchmarks to compare one company to another. Despite the lack of standardized
performance indicators, there are five Human Capital Measures which align the relationship
between human capital investment and productivity and profitability (Grossman 2005). Table 1
describes these measures.

Table 1 Five Human Capital Measures

Metric Name Formula Description

Revenue – (Operating Expenses-
(Compensation + Benefits Costs))
Human Capital ROI
Compensation + Benefit Costs
Illustrates the relationship between
human capital investment and
productivity and profitability.
Human Capital ROI is the pre-tax
profit an organization generates for
each dollar invested in regular
employee pay and benefits after
non-human expenses are removed
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Metric Name Formula Description

Looks at how much revenue each
Revenue regular employee generates and is a
Revenue per Employee basic measure of productivity.
Full-Time Equivalent (FTE)

Takes the pre-tax profit an

Revenue – Operating Expenses
Profit per Employee
Full-Time Equivalent (FTE)
organization generates and
attributes this to each FTE. This
measure provides an integrated
picture of productivity and expense
control efforts.

Looks at the percentage of revenue

dedicated to compensation and
benefits costs for regular
employees. This metric provides
Compensation + Benefits Costs insight into an organization’s
Labor Cost as a Percentage of
compensation and benefits
Revenue
Revenue programs. Over time, this metric
can show if the organization is
obtaining a higher or lower return
on dollars invested in people.

Looks at the percentage of regular

headcount that voluntarily left the
Total Voluntary Separations
organization. High turnover may
Voluntary Separation Rate
impact the organization’s stability,
Total Headcount
profitability, and productivity.

(Grossman, 2005)

Financial analysis without the cross-reference to human resource capital narrows the
focused attention to static ratios – data taken from financial statements prepared as at a certain
date. The various financial reports satisfy accounting reporting and associated decision making;
however, they lack depth in determining how the human capital is supporting or detracting from
performance. There is unmeasured value in trained, mature and knowledgeable employees who
contribute significant worth. This is an asset of leadership, culture, ethics and values that define
an organization and is of significant importance to stakeholders.

2. Why should they be?

GE’s former CEO Jack Welch is quoted in the article Blind Investment as saying “a
variety of experts agree that as much as 80 percent of a company's worth is tied to human
capital” (Grossman, 2005 p.1). According to the article, companies that manage their human
capital are successful in part by hiring and training employees with the right skills. Retention is
supported by compensation systems that reward the right behavior and performance. Attracting
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the right people is part of building strong teams. Maintaining strong teams requires culling out
those resources that do not contribute, thus eliminating the wrong behaviour and poor
performers.

Wall Street analysts should understand and validate the management strengths and
weaknesses of an organization and the leadership characteristics that are fundamental to a
company’s success or failure. These c-suite qualities are reflected in human resource dynamics
as companies seek individuals, both as leaders and followers, with comparable values and
promoting talented individuals with a similar passion for what the company stands for. As
companies strive for excellence in their products and services, a culture of excellence resonates
within their workforce. This is the fluidity of an organization and not a static financial indicator.

3. Which of the five human capital measures would you use to measure HR’s effectiveness
for your organization?

Natural Resources Canada (NRCan) is not revenue-centric thus limits the application of
the human capital measurement ratios where profit and revenue are components. The
bureaucratic structure is focused on expense management and administratively weighs the
efficiency of program delivery against the expense of human resources. Controlling and
managing staff to a minimum level that maintains an acceptable delivery standard is a primary
focus.

Applied metrics substituting “expense” for “revenue” would provide meaningful ratios in
a government structure. Modification of the ratios will allow for an application of all five as
listed above.

The exception is Voluntary Separation Rate which is an indicator that is applicable

without modification. This one ratio is most applicable and would compliment exit survey
results that is a part of the current human resource information system. The challenge is
acceptance by senior management that these performance metrics represent opportunities for
improvement in human capital reporting and forecasting.
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4. Why?

NRCan reports its performance to parliament annually. This reporting captures the key
program deliverables and how the appropriated federal budget funds are managed and accounted
for. Chart 1 defines the HR reporting of expense forecasting for 2018-2019. The department
does not report further human capital measurements. In order to meet the required HR planning
process, it is necessary for the department to delve deeper into its workforce needs.

Chart 1 - Spending and human resources

NRCan Departmental Plan (2018-19) pg.41

NRCan is a federal government department and like all departments, the HR planning
process is outlined by Treasury Board Secretariat (TBS) as a five-step process designed to
identify human resources gaps based on the organization’s strategic direction and operational
requirements, and to develop plans to fill those needs, both in the long and the short-term.

According to an audit published in October 2018, the process functions are A) Review
business goals – develop a clear understanding of where the organization is headed. B) Scan the
environment – identify external and internal factors that could affect the organization’s capacity
to meet its objectives. C) Identify the gaps – determine the organization’s current and future HR
needs. D) Develop a plan – determine the major HR priorities and strategies to be used to
achieve the desired outcomes. E) Measure progress – constantly measure, monitor and report of
progress, responding to changing circumstances (Audit of Human Resources Planning, 2018).
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The audit identified strengths as well as opportunities to improve how NRCan forecasts labor
needs. The audit’s conclusion is that “ while the HR planning process is carried out in some
sectors, there is no comprehensive approach in place to address business needs and meet
workforce requirements (Audit of Human Resources Planning, 2018)”.

5. What is your rationale?

A significant emerging issue facing NRCan executive is retention and engagement. How
does a government department recruit and retain top skilled expertise? Committees can be useful
however some do not function well and end up being counter-productive to the executive’s
vision.

Having standardized metrics that are industry norms - federal government department
benchmarking - would promote a business strategy and set performance targets that are realistic
and achievable for the long term. Measuring performance will ultimately create increased value
for all stakeholders. The metrics would delve deeper into the human capital equation than
simply reporting on an expense line.
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References
Audit of Human Resources Planning - AU1807 (October 11, 2018). Retrieved March 4, 2019
from https://www.nrcan.gc.ca/audit/reports/2018/21600
Grossman, Robert J. (2005, January). Blind Investment. HR Magazine, Volume 50 (No.1), pages
1 to 5.
Natural Resources Canada (2018-2019). Departmental Plan. retrieved March 5, 2018 from:
https://www.nrcan.gc.ca/plans-performance-reports/dp/2018-19/20665