Earnings and Shareholder Value

To put the whole question of intangibles in context, go through the last ten or fifteen years of your firm’s results and plot (1) earnings and (2) stock price (or total market capitalization) by quarter. This chart will show whether market value is above or below the earnings line—that is, whether the firm has a net positive or negative intangible reputation.

Price/Earnings Ratio Race

How do your firm’s intangibles compare to those of your competition? For ten or fifteen years’ worth of results, plot your firm’s quarterly P/E ratio against that of your most successful competitor. This trend line offers an overall report card on how investors perceive your firm and its leading competitor. Once when we tried this, we found that a firm had a P/E ratio consistently 20 percent below that of its largest competitor. Investors were less confident in the firm’s management team than in the competitors’, and the gap persisted over time. This firm’s market value was about $20 billion at the time, implying that reputation had cost the firm about $4 billion. The management team did not like the insight, but they could not run away from it.

Management View of Impact of Organization and People

Sometimes, making leaders’ assumptions explicit helps frame a dialogue on HR and shareholder value. Give each member of the top management team a blank graph showing shareholder value on one axis and quality of organization and people (HR) on the other. Ask each member of the management team to plot their assumptions. Share the responses and talk about the implications of the slopes of the lines. Some will have a flat line (regardless of HR quality, shareholder value does not go up), but more often we generally find ratios in the 3:2 or 2:1 range (every three points of organization results in two points in shareholder value). With this data, you can lead a discussion about how much HR issues matter in leaders’ perceptions of shareholder value. Without having to “prove the case,” leaders implicitly believe that increasing the quality of people and organization will lead to shareholder value.

Interpretation and Use

To perform an intangibles audit, go through the following five steps:

1. Decide whether the audit should occur in the entire organization, a business unit, region, or plant. Remember that although HR can architect the audit, the unit leadership must own and sponsor it. For example, if you want to audit the entire company, you need the board of directors or senior executives to sponsor the effort. HR would seldom do an intangibles audit without support from business leaders and collaboration of other staff experts.
2. Create the content of the audit (i.e., the dimensions to be audited). Assessment 3-1 lists generic questions that describe each of the four levels of intangible value. Recast these questions into words and phrases that will make sense to people in the organization. Involve those from other staff functions like finance to help you tailor the questions to your organization.
3. Collect data on the current and desired status of the intangibles being assessed. This information may be collected by degrees:
   • 90 degree. Collect data from the leadership team of the unit being audited. This gets quick results but is often deceptive; the leadership team’s self-report may be biased.
   • 360 degree. Collect data from many groups within the company. Such assessments can tell very different stories, depending on how each group sees the information.
   • 720 degree. Collect information not only from inside the company but from outsiders: investors, customers, suppliers, or regulators. These external groups matter because they are the groups who ultimately determine if the organization has intangible value.
4. Synthesize the data to identify the intangibles requiring managerial attention. Create a summary score by averaging the items for each of the four levels to determine your performance at each level. Scores 4–5 suggest that you are doing a good job and need to be sustained; 3 means that you have areas to work on; and 2 or below indicates that your intangibles are detracting value. Look for patterns in the data: for example, do all rating groups consistently rate you low in one area? Pick action items that require leadership attention to deliver strategy goals. Identify which intangibles will have the most impact and be easiest to implement.
5. Share the results with investors. The report will give investors confidence not only in past and present earnings and in the firm’s ability to produce future earnings, but also in the firm’s ability to be self aware. HR professionals who design and deliver these intangibles audits add value for the investment community. Initially, peers in other departments may be hesitant or resistant, but when they see that this information helps create investor confidence, their concerns will turn to support.

Investors and Staffing

What if the investors could vote on individuals hired or promoted in the firm? In some limited cases, investors do so through the surrogate voice of the board. But what if some of the large institutional investors actually participated in interviews for senior officers? What questions would they ask? What leadership and management qualities would they look for? What types of individuals would convince them that the management team was able to make correct decisions? Or, alternatively, what if institutional investors reviewed competence models used as candidate screens in the hiring process? Would an institutional investor focus on the same attributes as the traditional hiring manager? Or would the interview questions be different?

HR professionals should seek ways to engage targeted investors in hiring and promotion decisions. Using investor criteria and participation in the staffing process brings a rigor and discipline that is often overlooked. In addition, if investors participate in the selection of the management team, they may be more committed to this team’s decisions and choices.

Investors and Training and Development

Assume someone representing your largest single investor sat through the last five-day leadership program your firm offered. What would be their investment response (buy, hold, sell) at the end of the week?

This question imposes a new filter on what is taught, how it is taught, and what participants in training leave with at the end of the week. We predict that most investors would be more positive if participants focused on real business issues within their firm rather than case studies of other firms; faced competitive realities in candid conversation; and, as a result of the training experience, left with a vision of clear and specific actions to take. That sort of training would show investors that the leadership team knows what needs to be done, understands strategic choices, and is willing to make and implement bold decisions. In addition, we predict that investors would relish candid dialogue and disagreement before reaching consensus on what to do. Many of the training dollars currently spent would not lead to “buy” recommendations, because the link between training activities and business results is obscure at best.

Investors and Appraisal and Rewards

Many firms already tie management behaviors to investor-focused rewards. Putting a larger percentage of total compensation into stockbased incentives (grants, options, and the like) links management actions to investors. Many claim that CEO pay relative to average employee pay is excessive. Such arguments are less tenable when CEO pay is linked to long-term stock price. The boundary between managers and investors is removed when managers become investors through stock ownership programs. In addition, the wider and deeper the investment mindset throughout a firm, the more managers act and think like investors.

We had a chance to work with a firm going through a leveraged buyout. To keep their jobs, managers were required to invest from $100,000 to $5 million cash in the new firm. The changes in mindset and action patterns were dramatic. The new owner-managers stopped flying three people to visit a customer when one would do. Instead of holding conferences at five-star hotels, they used company facilities. Instead of making visits to plan visits, they used phones and faxes for preliminary work. Literally thousands of decisions were made differently under the new regime. When managers act as both owners and agents, they respond differently.

Institutional investors might examine the firm’s compensation philosophy and practices. In theory, board members act on behalf of the owners, but institutional investors might become more active by reviewing standards set in performance appraisals, compensation practices used to change behavior, and feedback mechanisms used to share information.

Investors and Governance and Communication

Investors in publicly traded firms have traditionally been hands-off. They do not participate in teams, help develop processes, or set and accomplish strategies. However, when investors realize that the intangibles predict as much of the shareholder value as financial performance does, their interests may change. They will start looking at how well the organization makes decisions, allocates responsibilities, and meets commitments. Peter Lynch, the savvy and well-known investor, has suggested smart investors recognize firms that provide customers what they want (such as Toys “R” Us).

As these and other HR practices are applied through an investor filter, investors gain confidence in the organization’s ability to deliver future earnings.

Up-Selling and Cross-Selling

Gaining customer share means selling additional products and services to existing customers within the domain of the firm. For example, Disney cross-sells products in its theme parks and stores—that is, employees in the theme parks recommend Disney products, and employees in Disney stores recommend Disney theme parks. HR professionals charged with orientation and training can help employees know and discuss the array of products offered by a firm and help them understand how to sell its full range of products or services.

Constant Customer Feedback

To please customers, employees need to know how customers react to their experience with your firm. HR can step in and work with marketing specialists to help develop ways to identify, gather, and distribute concrete customer data. At one retail chain, for example, HR was part of the team that designed a system to track customer experience by asking purchasers these questions:

• Overall, how satisfied were you with your shopping experience?
• How reliable was the employee who helped you?
• How responsive was the employee who helped you?
• How much empathy did the employee who helped you demonstrate?

These items then formed an index of overall customer satisfaction. In addition, each sales receipt identified the employee who worked with the customer, and the retailer prepared a monthly customer experience score for each employee. Despite occasional efforts to bias the results (by urging customers to give positive answers), the index provided useful information on employee performance. For the first six months of the system’s operation, the data was simply shared with employees each month; then it became part of the formal performance review system.

Another firm asks executives to work a couple of hours a month at the 1-800 service call center. Participating executives not only see summaries of call data but actually answer calls, giving them a firsthand sense of the patterns of customer responses. Other mechanisms for creating a constant flow of customer feedback include mystery shoppers in retail, customer follow-up surveys or phone calls, and customer focus groups.

HR professionals can participate in the design teams for all these types of customer feedback efforts. In the process, they should pay particular attention to how the customer data translates into changes in employee behavior patterns and corporate policies.

Tailored Customer Value Proposition

Mass customization gives each customer a personal value proposition. For example, by combining size and style variants, Levi Strauss has about 1.5 million options for a pair of pants. The company makes it possible for customers to order based on their own measurements and style choices rather than choosing from the necessarily limited selection of ready-made product, boosting their chance of having pants that fit and look the way they want. As a result, they are more likely to buy most of their current and future pants from Levi Strauss.

HR professionals can help create a mass customization mindset through communication programs about the importance of tailored customer service; by monitoring customer data and making sure it translates into employee behavior; and by designing customization into performance management programs.

Employee Accountability for Customer Share

When each employee feels responsible for customer share, customer share goes up. HR programs should include the satisfaction of target customers as one of the indicators of employee performance. In addition, they should offer rewards and recognition for outstanding employee service. The more effective these measures are in getting the message across, the more powerfully they will instill accountability for customer share.

Staffing and the Customer Value Proposition

We once asked a senior executive team, “If the customers could hire twenty officers to run the firm, would they be willing to hire the twenty of you?”

Someone answered, “How could they do that? They don’t know who we are.”

We suggested they think about this comment, pointing out what was going on inside the firm might not be well enough connected to what was going on outside it. Customer values, after all, should permeate all phases of talent flow, beginning with the criteria for hiring and promotion. What would a customer want to see more of or less of in behaviors of employees in the firm? What skills, values, and norms would customers want key employees to have? If the criteria that brought the executive group to their current positions included the things that target customers value, then, yes, they could all be reasonably sure that the customers would find them acceptable.

Training and the Customer Value Proposition

If customers attended a training event, how would they feel about the content being taught? Would they say that the training event helped employees gain value-adding skills? Would they be willing to pay for the event? In essence, customers do pay for training, albeit indirectly. Yet too often, training and development experiences are created without careful consideration of customer criteria.

Measures and Rewards and the Customer Value Proposition

Standards for what employees should be, know, do, and deliver need to reflect customer expectations and enhance customer experiences. Too often, however, standards are focused inside and not outside the organization. If customers were to review one of your firm’s performance appraisal forms, how would they react? Would meeting the explicit standards and measures mean that employees will have provided good customer experiences?

Rewards can also be aligned to customer expectations. Employee bonuses, for example, may be tied to customer experience ratings (loyalty, satisfaction, customer share). And don’t limit the process to financial rewards; nonfinancial rewards may well have more lasting impact. For example, consider allowing customers to honor exceptional employee service—as defined by the customer.

Communication and Governance and the Customer Value Proposition

The best brand is the one that works both inside and outside the company, sending consistent messages about what the company stands for. One high-tech firm went so far as to encourage employees to share its core values with target customers—integrity, respect for individuals, teamwork, innovation, and contribution to customers and the community. That may sound somewhat generic, but the firm also encouraged employees to ask customers to define what employees should do to embody these ideals—and to bring the replies back so that procedures could be designed to accommodate them. The quality of employee and customer communications may be measured by the percentage of both employees and customers who feel that the company hears and responds to their needs.

Governance (i.e., how the organization is organized, allocates resources, and makes decisions) should also be tailored to customer requirements. Some customers want a single contact point; others prefer being able to work with each subunit of the firm separately. Likewise, some customers will want (and pay for) personal contact; others will be more comfortable with an online interface. Ideally, a firm should be responsive to differences in individual customer preferences.

And in each of these cases, HR practices should reflect and reinforce target customer value propositions. As the keeper of the system, HR is ideally placed to institutionalize customer value into the organization.

Customer Involvement and Staffing

An airline attempting to make flying more fun screens flight attendant résumés, then invites job finalists to audition interviewees in front of a panel of frequent fliers. A restaurant selecting a chef invites target customers to taste the selections of the finalists and to offer their vote on which chef they would prefer. A hospital invites physicians, third-party payers, and investors to interview potential administrators.

Customer participation in staffing can increase the quality of decision making. Observing teachers teach and soliciting data from students in the class helps boost the quality of teachers hired. Asking customers to define competencies of first-line supervisors creates a dialogue about what matters most to customers and how that translates to internal managerial behaviors. In addition, customer participation in staffing tends to increase customer commitment to the person hired as well as to the business.

Of course, hiring is traditionally the most closely held of organizational prerogatives, and many executives—inside and outside HR—may worry about letting the fox guard the henhouse. However, it isn’t necessary to let go entirely—giving customers a voice is enough. They don’t need or want the only voice.

Customer involvement can include sharing talent. For example, a utility firm that wanted marketing experience for one of its executives arranged a three-month exchange with a major customer, who was equally interested in quality control experience for a similar rising talent. The two participants learned more than concepts as they worked on projects for their loaner management; they also forged relationships across boundaries.

Customer Involvement in Training and Development

GE’s Crotonville training center opens many of its programs to customers, particularly in emerging markets. By including key customers and thus educating the value chain in its language, management philosophy, and decision processes, GE finds it can shape how customers think and act—thereby redefining the rules of engagement and succeeding quickly in new markets.

Few companies take full advantage of the opportunities their own training programs offer. Most internal courses draw students only from within the company, even though the payback may be often huge and the incremental costs of adding a few outside participants are diminishingly small. Consider the advantages of identifying customers who would be well served by the content of a course, inviting them to attend, and building relationships with them during the program. One company now requires 10 percent of the seats in all its courses to be open to customers and encourages sales and marketing to promote the benefits of course attendance as part of the sales package—a special offer that valued customers welcome.

It can also be valuable to offer programs designed primarily for customers. In one case, a firm that repaired railroad cars cut its in-process time from twenty days to ten, but rather than reacting with the expected delight, customers yawned. The repair people met with customers to explore this disappointment, and learned that they’d barely dented the total downtime, because the cars were also out of commission about ten days on either side of the repair itself. They held a customer productivity workshop, sharing the technology and processes they’d used internally. By focusing on the total time a car was unavailable, they were able to reduce the original forty days to about fifteen.

Another useful move is to enlist customers as presenters—and not just on technical topics. Customers are often willing to share candid observations about why they do or do not purchase. For example, an electronics company invited three customers who had recently gone with a competitor to attend an officer meeting and talk about their decision processes. Collectively, these three lost customers represented a major account erosion, and officers at the seminar not only listened but committed to act upon what they learned. The customers were, at the very least, disposed to see if management succeeded, and the insights the company gained helped reduce further erosion.

Customer Involvement in Appraisal and Rewards

Customers in the appraisal process? Some companies are giving customers a voice in allocating rewards based on quality of employee service. This yields a double benefit: customers grow more committed to employees, and employees to customers.

For example, one airline sends its best customers this annual letter: “We know you are one of our most frequent fliers. We are committed to excellent customer service. Because you travel our airline so often, we assume you know how to define customer service. Enclosed with this letter are ten coupons, each worth $50. When you experience exceptional service from an airline employee, ask for the employee’s name, sign the coupon, send it to the company, and we will pay the employee $50.” This program uses part of the regular bonus pool to create a clear line of sight between customers and employees.

Customer Involvement in Governance and Communication

The task forces most organizations use to design and deliver systems and services usually consist only of employees—and even gathering members from multiple functions often seems like a stretch. But as the railroad car repair company found, enlarging the task force to include more of the supply chain invariably improves its results.

And task forces are only the beginning. Both public communications (i.e., newsletters, videos, and the like) and personal contact can help transfer knowledge. The benefits can be emotional, as when Medtronic invites recipients of its implants to talk to employees about what the company’s product means to their lives. Or the benefits can be directly tied to day-to-day production, as when Wal-Mart connects its electronic system to its supplier network to provide immediate information about what is selling and what is not selling so suppliers can adjust their production accordingly.

Customer Summary

What employees do inside the organization affects customers outside the organization. When HR professionals define target customers, make the customer value proposition explicit, align HR practices to customer values, and involve customers, they create customer experiences that build loyalty and add value.