Must HR report to the CEO?

“I need some reasons why HR should be independent – not focusing on our issues, but literature, best practices, etc. Is there anything you can send to me – even bullets?”

I received this plea in an email last night from a treasured client. As CEO of a highly successful global consultancy, she needed support for an organizational change she and the board have agreed upon in principle, but are struggling to enact. How would you answer the question, ‘Must HR report to the CEO?” For this organization, there are several context-specific, tactical reasons for making the change. More important are the strategic reasons – those grounded in issues of materiality.

I shared the following thoughts with her and her board:

Macro environment

In 1975, 90% of the market value of the S&P 500 was comprised of tangible assets – buildings, materials, equipment, and inventory. In 2020, 90% of the market value of the S&P 500 is attributable to intangible assets – people, know-how, brand recognition, customer relationships, intellectual property, etc.

Your organization’s currency is its people. Business value for the organization is vested almost entirely on the capability of its employees, contractors, and consultants – making them the single most important asset of the organization. That being the case, people and culture are the most significant strategic imperative. The care and keeping of your talent by necessity must be in direct control of the CEO and requires expert HR/Human Capital oversight and direction.

Micro environment

The market for talent is and will continue to contract, especially for high-level, experienced, expert talent. The Conference Board recently reported on US labor market trends through 2022. Baby Boomers and early Gen X employees make up the greater majority of your organization’s talent pool – these workers are exiting the labor market faster than all other generational cohorts combined. This results in extremely competitive hiring and retention circumstances. Your staffing model, hiring approach, and retention programs may not be effective. What has ‘always worked’ will no longer suffice.

These monumental shifts in labor markets and requirements for high-quality work environments (pandemic-related concerns, attention to DEI and pay equity, career development, and on-boarding requirements, shifting labor and employment compliance requirements, etc.) are compelling reasons to invest in people and culture leadership at the senior/executive level.

Further, research conducted by Alex Edmans at the London School of Business demonstrates that organizations with high levels of employee/people engagement produce higher returns for their shareholders. A study of the businesses appearing repeatedly on the Fortune 100 Great Places to Work list outperformed the S&P 500 (measured in stock returns) by 2.3%-3.8% per year for every year they were on the list – compounded returns exceeded 120% (this study covered the period 1984-2011).

Value creation, especially in a world-class consultancy, is a function of how well people perform. They perform better and produce higher levels of customer satisfaction when they are attended to with strategic and operational regard and expertise. Leadership and oversight of this function is not a popularity contest, it is of the highest organizational priority. Your people are the currency upon which business trades and the mechanisms by which it produces products. For you and your board, it is a question of materiality. There are no other alternatives but for this function to report to you, except for clients and investors to choose your competition.

Stepping away from my response, it’s important to unpack what materiality is and why it matters?

At its core, materiality seeks to tie items and issues of significance to qualitative and quantitative measures and metrics, which can be used by various stakeholders to determine their importance to stakeholder decision-making. Specifically, this principle is aimed at helping investors understand what is financially important (or material) to an organization.

In the case of a consultancy, it is easy to see why people are material. Were it not for the employees and consultants, the business could not exist. Robust people management capabilities, internal structures, and technologies designed to support the process of consulting, investments in professional development, and other aspects of people and culture all contribute to the value of such an organization.

Ask yourself this question, “If I had $1000 to invest in a consulting company, which of the following is likely to be a better investment?” Assuming all other criteria to be equal, Organization A offers little employee on-boarding, no professional development, turnover typically runs at about 40% per year, employees are constantly overworked and their employee engagement scores are in the bottom quartile of their peers. Organization B has experienced employee retention rates above 85% for the past 5 years (including through the pandemic) and client retention rates exceeding 90% for the same period.

Organization B’s employees are offered tuition reimbursement and are encouraged to participate in ongoing professional development. Their employee engagement scores are in the top quartile for their peer group and there is little need for employment advertising – employees love the organization so much that most hiring occurs via referral and word-of-mouth.

Where will you invest your $1000?

The official launch of People Economics: Defining and Measuring the True Value of Human Capital is happening now!  In it, you will learn more, read stories, gain insights and find practical approaches to addressing materiality and building organizational value. Order your copy here.

If this message resonated with you, please share.

In gratitude, Laura

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