Tailored to the Bottom Line People management practices and profitability in manufacturing
People are billed as companies’ most important asset, yet people management practices are more often an afterthought than a core strategy linked to business performance. Recent research suggests that the most profitable large companies share three practice areas that set them apart.
People are billed as companies’ most important asset so routinely that we should be surprised they don’t all sleep nights in a corporate vault. Yet, in the hard-nosed, bottom-line discipline of managing organizations, the “soft skills” of people management practices are more often an afterthought than a core strategy linked to superior business performance. And while manufacturers’ workforce management practices have moved far beyond the personnel office of decades past—with its origins in managing masses of low-skilled workers in a pre-technological age—many have a long way to go to engage their people and connect these practices to shareholder value. Talent management for many manufacturers could be characterized as a less than ideal blend of new aspirations and old tactics. Consistent with a bottom-line approach, it is fair to ask: How do people management practices impact the performance of a company? Have these practices in your company kept pace with the changes in your business? Most importantly, which practices contribute to profitability? The road to useful conclusions is often paved with hard data. In our research,1 we found that answers to some of these questions lay in excellence in specific aspects of people management practices. The data suggest that certain practices help some manufacturers outshine the rest. These companies have developed clear talent management strategies that align consistently with their overall corporate strategy and complement their culture and values in ways that point to improved results.
Survey of manufacturing organizations
In May 2009, Deloitte*, The Manufacturing Institute and Oracle jointly conducted a national survey of manufacturing organizations to assess the current performance of companies with respect to people management practices, as well as the future importance of these practices. They were asked to identify the top drivers of their future business success and to comment on talent shortages experienced today and expected within the next two to three years.
Profile of survey respondents
The survey was conducted via the Web, on an anonymous basis, to which 779 individuals responded. The distribution of respondents was as follows:
Primary industry sector:
- Aerospace & Defense 6%
- Automotive 6%
- Consumer Products 9%
- Energy & Resources 3%
- Industrial Products 43%
- Life Sciences & Medical Devices 2%
- All other 31%
We sorted the respondents based on their self-reported earnings before interest, tax and depreciation (EBITDA) and identified the top quartile and bottom quartile companies based on EBITDA. We tested for statistically significant differences in the current performance of each of the people management practices between the bottom and top quartile EBITDA firms. We performed a similar analysis for gauging the importance of their people management practices.
What sets them apart
Recognizing that larger companies have the scale and resources to develop more comprehensive talent management strategies, we focused our research on the largest 142 companies from our survey. The most profitable large companies share three practice areas that differentiate them from the least profitable companies:
- Defining a clear and explicit people strategy that is linked to the business strategy.
- Performing formal succession planning across the workforce.
- Linking employee pay directly with productivity of the company or to the respective manufacturing plant.
People and the end goal
Any business strategy ultimately depends on people for its successful execution. Acquisitions, mergers, downsizing, offshoring, partnering, you name it – people are central.2 But the people strategy needed to drive and support a high-end, intensive-customer-experience retail company is very different from that needed for a mass merchandise, low-cost discount retailer, and vastly different from a customized, specialty engineering and manufacturing aerospace and defense firm. Yet relatively few employers surveyed have developed an explicit and documented people strategy tailored to their business goals.
Figure 1. Top three differentiators
Of the largest companies that participated in the survey, 55 percent of those with top quartile profitability rated themselves “high” in linking people management strategy to business strategy, while only 30 percent of bottom quartile profitability companies reported similar performance (figure 1). Among all the survey respondents (regardless of size), the figures stand at 44 percent for the most profitable companies and 36 percent among the least profitable. In many organizations, the HR function does not participate in the strategy development process nor does it have complete visibility into corporate or business unit strategies. As a result, corporate strategy and people strategy are developed independently and people management practices may be misaligned with corporate objectives. For example, an industrial products company may develop a strategy to increase its service revenues by 20 percent over the next three years, but if it fails to measure and improve service orientation among employees, it will likely fail to achieve that objective and may also find its employees demotivated. The most profitable companies, the data would suggest, align people practices to corporate strategy. According to GE’s vice president of human resources for Australia and New Zealand, Sam Sheppard, rather than being an administrative function, HR initiatives, actions and priorities must be aligned with the business plan. “There is no point being an add-on function, a reactive partner for the business,” Sheppard said. “It’s very easy sometimes to get sidetracked on what we would like to be doing, but if we can’t translate that into a bottom-line impact for the business, then that lessens our value to the organization.”3 After struggling with lack of focus and losses in the billions in the early 1990s, Sears Holdings Corporation likewise overhauled its strategy implementation process. A senior management team incorporated the full range of performance drivers into the process. Then, they articulated a new vision: For Sears to be a compelling place for investors, the company must first become a compelling place to shop; and for it to be a compelling place to shop, it must become a compelling place to work. Sears validated the vision with hard data, designing a system to objectively measure each of the three “compellings.” The team extended this approach by developing a series of related competencies that employees were required to hone and identified behavioral objectives for each of the “compellings” at several levels through the organization. These competencies then became the foundation on which the firm built its job design, recruitment, selection, performance management, compensation and promotion criteria. The company also instituted the Sears University to develop these competencies.4 Recognizing that it is important for HR managers to be familiar with the broader aspects of the business, Coca-Cola rotates top-performing line managers into HR positions for two or three years to build the business skills of its HR professionals and thus make the function more credible to the business units. At Procter & Gamble, an HR manager is expected to work in a plant or work alongside a key-account executive to learn more about the business and its needs.5
Formal succession planning across the workforce
Well-defined succession planning takes a long-term view of talent within the organization. It develops talent to step into key roles on a timeline consistent with anticipated—and unanticipated—vacancies. Lack of rigorous succession planning can hit companies hard. It takes them longer to replace critical talent and often at a higher cost from external sources. Among the largest companies in our dataset, 45 percent of companies with top quartile profitability exhibit high ratings in formal succession planning while only 30 percent of bottom quartile companies performed similarly. Looking at all respondents (regardless of size), 36 percent of the highly profitable companies rate their current capabilities in formal succession planning as “high,” while only 20 percent of the less profitable companies rate themselves similarly. A majority have yet to establish an effective succession planning process. Many organizations struggle when it comes to grooming successors for key positions. Succession planning, as traditionally conceived and executed, is narrowly focused on identifying employees who are ready for promotion, usually only at senior executive levels. A long-term talent management strategy should look beyond the C-suite to prioritize succession of all critical positions based on specific organizational needs and strategic direction. According to Johnson & Johnson, the ability to groom future leaders is crucial to removing a potentially significant constraint to its future growth. Each year J&J’s CEO launches the talent review process with a letter addressed to executive vice presidents reinforcing the importance of leadership development and also highlighting a new area of focus for that year to emphasize succession management priorities. J&J uses bottom-up succession reviews to discover and grow talent first at the operating company level, then at the group level, and finally at the corporate level. As a result, talent review now takes place in every aspect of J&J’s business planning with continuous examination of capabilities and development needs of executives in the context of larger organizational needs.6 Colgate-Palmolive also developed an innovative way to ensure that all levels of management make succession planning a priority. It instituted a program that mandates that all senior managers must retain 90 percent of their staff who have been designated as “high potential” or risk losing part of their compensation.7
Linking employee pay to productivity
Among the largest companies in our survey, 58 percent with top quartile profitability ranked high in linking employee pay to productivity, while only 36 percent of bottom quartile companies performed similarly. Considering all respondents (regardless of size), 55 percent of highly profitable companies rate their current capabilities in linking employee pay to productivity as “high” compared to only 41 percent of the less profitable companies. Organizations are increasingly placing emphasis on rewards management programs and performance-based pay. Deloitte’s 2010 Top Five Total Rewards Priorities Survey reports that 66 percent of respondents plan to make changes in the design of compensation plans, with particular emphasis on performance-based pay and performance management tracking and administration.8 Siemens successfully transformed its employee compensation system as part of its value-based management program. Before launching the program, performance-related pay was a small proportion of total compensation, even for the most senior executives. After the launch of the program, approximately 60 percent of the remuneration of the top 500 executives became performance-related. Siemens based this on current share price and investor expectations of the improvement in economic value added over the next year.9 At Nucor Steel, employees involved directly in manufacturing are paid weekly bonuses based on how much their work groups—each ranging from 20 to 40 workers—produce. Typically, these bonuses are calculated on anticipated production time or tonnage produced, depending upon the type of facility. The formulae for determining the bonuses are non-discretionary, based upon established production goals. This plan creates pressure for each individual to perform well and, in some facilities, is tied to attendance and tardiness standards. Nucor department managers earn annual incentive bonuses based primarily on the return on assets of their facility. Senior officers receive no profit sharing, pension or discretionary bonuses. Instead, a significant part of each senior officer’s compensation is based on Nucor’s return on stockholders’ equity, above certain minimum earnings. If Nucor does well, the officer’s compensation is well above average, as much as several times base salary. If Nucor does poorly, the officer’s compensation is only base salary and, therefore, significantly below the average pay for this type of responsibility.10
Building current strengths, managing future priorities
Manufacturing companies need not only take stock of their current people management practices, but also to plan for the future importance of those practices. They should identify practices of continued high priority and those in need of improvement, given future business realities, while recognizing how certain practices are more impactful to their enterprise value. Apart from the top three differentiators, our research identified several other people management practices to which the most profitable companies assign moderate to very high importance in the future and for which current performance levels suggest room for improvement:
- Conducting formal orientation of new employees including familiarizing them with corporate values.
- Explicitly defining technical competencies and evaluating these while hiring.
- Measuring and recognizing strong performance using clear metrics and methods of evaluation.
- Willingness to pay top performers significantly more than average employees.
Emphasis on core values and corporate culture will remain important in the future. The majority of the most profitable companies already excel in that aspect. In addition, those companies will sustain their efforts with regard to:
- Considering future talent needs in the recruitment process.
- Evaluating problem solving skills during the recruitment process.
- Explicitly defining non-technical competencies and evaluating these in hiring.
- Sharing profits across the workforce.
- Using a defined contribution approach to the employee benefit program.
These high-priority practices fall broadly into three categories: people strategy and culture, talent acquisition and development, and performance management.
People strategy and culture
High-performing companies align people management practices to the corporate culture (“cultural fit”) and to the business strategy and long-term objectives of the organization (“strategic fit”).11 This tight coupling of internal practices, culture and strategy remains unique for each organization and is difficult for competitors to imitate. While rivals can poach a few employees or can try to mimic some strategic moves, rarely will they be able to penetrate the lattice of internal fit, cultural fit and strategic fit. Our research suggests that higher percentages of highly profitable companies excel in focusing on core values and corporate culture and on orienting employees to that culture (figure 2).
Figure 2. Emphasis and orientation on core values and culture
Companies that inspire employees can expect significant discretionary effort from their workforce, who in turn can help win and retain customers.12 The Nokia Way defines Nokia’s core values. Nokia reviewed and refined these values in 2007 to engage employees and to reflect how the business evolved and changed. It asked employees to explain what was most important to them to help create a new set of values that define Nokia. Over 2,500 employees from around the world took part in 16 regional events to come up with the key themes for new values. Involving employees at every stage of the process helped Nokia embed a strong values culture throughout the business. The new values, an evolution of the previous Nokia values, are:
- “Achieving Together,” which reflects that the company increasingly works in networks.
- “Very Human,” which builds on Nokia’s previous value of “respect.”
- “Engaging You,” which includes all company stakeholders and not just customers.
- “Passion for Innovation.”13
Nokia now communicates these values to all its employees through videos and other information on its intranet and as part of its communications on company strategy. In May 2007, around 13,000 employees registered in the Nokia Way Jam, a 72-hour online discussion to decide on values and debate future business strategy. The collaborative nature of the Jam was an expression of Nokia’s culture and the value it places on “achieving together.” Nokia analyzed the results of the Jam and identified several key corporate initiatives to be included in future plans and several initiatives within its business groups. The Jam prompted new activity and changed some of Nokia’s business priorities.14
Talent acquisition and development
Highly profitable companies do a better job in their recruiting process by thoroughly analyzing technical, non-technical and problem solving skills. These companies consider recruitment as a dynamic process that is closely linked to the people and corporate strategies. Thus, they work with the businesses to identify future needs in terms of skill sets and proactively recruit such people ahead of the competition (figure 3).
Figure 3. Talent acquisition and development
These companies measure return on investment (ROI) in the recruiting function and use metrics and analysis to optimize the most effective sources, programs and methods. Uncertain business conditions make workforce planning a tightrope walk for most organizations. To conduct robust planning in such uncertain conditions, some profitable companies borrow techniques from supply chain management, where the overall task is similar to workforce planning. These companies have shifted from forecasting to simulations. One large global chemical company started using standardized data from its enterprise resource planning system to produce manpower estimates for each location that could be aggregated for the company as a whole. Then it sought a university to develop an even more elaborate model, one that used the standardized data to generate estimates for each business unit. The simulation-based models incorporated a wide range of site-specific factors such as estimates of the political and business climate in each of its countries of operation, changes in labor and employment legislation, and business plans for the operating unit, which include targets for operating productivity. Those forecasts were then aggregated into companywide estimates. This helped answer “what-if” scenarios: What happens to forecasted headcount if the economy slides below assumption or if new competitors enter a market? Simulation allows business leaders to see the implications of different strategies for talent, to anticipate how talent constraints could impact those strategies, and in some cases, to adjust their business plans if the talent requirements are too extreme.15 To ensure the availability of highly skilled professionals, Caterpillar, its dealerships, and community and technical colleges work together to educate and train high school graduates to become Caterpillar dealer service technicians. The two-year “ThinkBIG” program—combining classroom work with hands-on learning in labs and in the field—teaches students how to service Caterpillar equipment using diagnostic and maintenance systems, advanced technologies and tools.16 Caterpillar tests candidates applying for operations jobs on well-defined criteria like numerical abilities, mechanical comprehension and information matching skills. After passing these tests, candidates are interviewed to obtain further information on their achievements and qualifications.17
An effective performance management system helps to develop the capabilities of individuals and teams to deliver sustained organizational performance. By systematically evaluating and effectively rewarding high performance, the most profitable companies succeed in retaining top talent. They are also able to align behaviors and competencies of both the team and individuals with that of the organization to drive strategy execution (figure 4).
Figure 4. Performance management
The most profitable companies design performance management as an ongoing process, enhancing employee skills, competencies, knowledge and experience over an extended period of time by regularly evaluating performance and capability. A key challenge that organizations face while designing total rewards programs is managing the trade-off between satisfying employees’ rewards preferences and working with limited resources. Given resource constraints, companies can boost total returns by emphasizing total rewards elements that increase commitment among critical workforce segments – employee groups whose retention and motivation drive a disproportionate share of company success. These are the people a company can least afford to lose, whether outright to a competitor or indirectly through lack of commitment, effort and productivity. Because of their disproportionate impact on the value chain, the specific views of these critical workforce segments should be weighed heavily in order to maximize the ROI on reward programs.18 Procter & Gamble has used its business and people strategies as the basis for reviewing its long-term incentive (LTI) program for employees. The company has applied two fundamental compensation principles in guiding the review: to pay competitively and to support the business strategy. When P&G revisited its LTI program, it carefully examined its people strategy to ensure that the revised LTI plans would reflect the company’s build-from-within approach to talent management and the need for mobility of key people across the organization. P&G looked at the employee value proposition (EVP) around work content, career, direct and indirect financial benefits and affiliation. It analyzed the impact of different LTI designs on diverse aspects of EVP across groups of employees with different salary bands and located in different key growth geographies. It ensured that the LTI designs adhered to a clearly articulated rewards strategy and that the strategic business rationale for the compensation plans, including thorough analysis, was shared with employees. For analyzing the financial impact, P&G looked at impact on cash flow and unwanted turnover. Then P&G leadership analyzed the sensitivity of the LTI designs under different business performance scenarios. For example, if performance were to exceed expectations, they determined the permissible maximum possible payouts and total payout costs to the organization. Thus, P&G was able to fully appreciate the implications of different LTI designs on the organization and on critical workforce populations. Finally, P&G was able to design an LTI which balanced the financial implications with the non-financial components of EVP.19
Create an integrated talent strategy
An effective talent management strategy is rooted in facts, not hunches or blind guesses. The starting point is understanding the organization’s critical workforce segments – jobs that drive a disproportionate share of key business outcomes, have the greatest impact on the value chain, and are in short supply from the respective labor market. These segments of the workforce must be protected and developed. This requires a workforce plan that analyzes and forecasts the talent needed to execute the business strategy and then defines specific plans to fill the expected gaps.
No two companies—even those in the same sector—will have identical formulae for talent. Certain talent management capabilities are table stakes that are required just to keep the company operating smoothly. Others can differentiate a company from its competitors and provide a sustainable competitive advantage. Once a company has identified its critical workforce segments, it must pay special attention to the preferences of people in those segments by investing in tailored programs to develop and retain them and help them achieve a high level of productivity.20 Manufacturers are facing unprecedented long-term business and talent challenges, a situation that offers tremendous opportunities for individual companies to separate themselves from the pack. Our research suggests that certain people management practices can help some manufacturers achieve superior profitability. Through talent strategies that are innovative, forward looking and closely aligned with the company’s overall strategy, a manufacturing organization can address its short-term challenges while positioning itself for long-term success.21