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Beyond resilience: the value of human capital

26 October 2020

8 minute read

How companies manage employees in response to COVID-19 is likely to have a major impact on their business value. New research reveals that investors are paying careful attention.

The world is bracing itself for a wave of mass unemployment in the wake of the COVID-19 pandemic.

The number of people in paid work in the UK has already dropped by 695,000 between March and September 2020, according to official government data1. Although precise estimates vary, most economic experts predict that joblessness will continue to increase for some time to come. For example, accountancy firm KPMG forecasts an average rate of 8.2% in 2021 (if a vaccine for the coronavirus is approved in January), compared to 3.8% in 20192.

This trend is global: the Organisation for Economic Co-operation and Development (OECD) predicts that, by the end of this year, the average unemployment rate in its 37 member states will be higher than any previous historical peak at 9.4%. What’s more, those most likely to be impacted by this are the low-paid, women and young people3.

But long gone are the days in which companies could afford to cut costs by laying off staff, without considering the fall-out for their reputational and business value. Burgeoning consideration for ESG (environmental, social and governance) factors means investors are increasingly scrutinising the way businesses treat their employees as they try to navigate their way through the crisis.

This is revealed in Investing for Global Impact: A Power for Good – a new report sponsored by Barclays Private Bank. The findings show that 61% of respondents claim to integrate ESG considerations into all, or the majority of, their investment decisions, while a further 35% say they are a factor in at least some of their decisions. Only 3% said they weren’t a factor at all. In addition, more than two-thirds (69%) of investors either “agreed” or “strongly agreed” that the way in which companies behave during the COVID-19 crisis will determine their investment attractiveness.

“That’s really profound in terms of demonstrating that investors are now thinking a lot more about companies’ practices than they were in the past,” says Damian Payiatakis, Head of Impact Investing at Barclays Private Bank.

Furthermore, he argues that the material effects of good human capital management (HCM) in businesses where it has always been a large contributor to their value – such as financial services, accountancy firms and consultancies – are likely to carry even more weight than previously.

“It's not that these factors have never been considered,” he explains. “It's just that they have usually tended to be around certain industries or at certain points in time or during certain crises. The current context has definitely brought this into the light more, so that people are more aware of it and are looking at it more. Therefore, now more than ever, investors may benefit from identifying those risks and opportunities related to HCM, for their portfolio.”

As the effects of the global pandemic began to bite in March, there was a heightened need to build an understanding of which businesses’ management teams were demonstrating the right capabilities to deal with the changing situation. Companies’ approach to human capital was particularly important.

Kenneth Warnock, Senior Portfolio Manager of Global Equities at Barclays Private Bank, concluded that the majority of businesses were responding in the right ways when it came to ‘doing the right thing’ for both their people and wider stakeholders. But he highlights the long-term risk for those who are not.

We think that people will remember for a long time those that neglected their social responsibilities in favour of short-term profit

Kenneth Warnock, Barclays Private Bank

“We appreciate these are very trying times for businesses but most are, thankfully, acting responsibly and doing what they can to protect the health and finances of their employees and customers,” he says. “Sadly, there are some who are not. We think that people will remember for a long time those that neglected their social responsibilities in favour of short-term profit.”

Creating business and societal benefits

However, are those looking for a good return on sustainable investments correct to draw a link between responsible human capital practices and shareholder value?

There is a growing body of evidence, brought sharply into focus by the catalytic effect of the COVID-19 pandemic, to suggest that the way in which companies treat their employees is materially linked to positive long-term performance.

Global consulting firm McKinsey have applied years of painstaking research to examine the link between good human capital management and financial results, and have reached some clear conclusions. In an article drawn from their acclaimed book Beyond Performance 2.0, McKinsey Senior Partners Scott Keller and Bill Schaninger claim that ‘organisational health’ – which is strongly influenced by how well employees are treated by the businesses they work for – has a direct impact on the bottom line.

“Companies in the top quartile of organisational health had total shareholder returns three times greater than bottom-quartile companies, and their returns on invested capital were two times higher. Companies in the bottom quartile for health didn’t experience any growth in sales; top-quartile ones averaged 24% sales growth,” they write4.

The link between ‘organisational health’ and high performance may seem like a chicken-and-egg situation, where it’s uncertain as to which one leads to the other. However, Keller and Schaninger demonstrate clearly in their extensive research, through the use of control groups, that the former has a profoundly positive effect on the latter.

Barclays’ Payiatakis sees a similar connection. “How companies treat their employees, their suppliers, and wider stakeholder combined with all the social aspects of labour management, working conditions, product safety, diversity, addressing human rights and so on, are fundamental factors in how well they perform on a financial basis,” he says. A key reason for this, he adds, is that it significantly affects their ability to attract and retain top talent.

Businesses may face tough decisions

However, a large number of businesses – even the most socially-responsible – are now faced with no choice other than to reduce headcount to cut costs. This may be painful, but there is a right and a wrong way to go about it, says Annabel Sweet, a leading HR consultant who has held senior roles at Tesco, TK Maxx, Telefonica O2 and Global Media and Entertainment.

“For example, one of the things that's fundamental for the people affected is communication and support,” she says. “And it doesn’t have to be financial support, because clearly many businesses right now don’t have the cash. But if you keep communicating with people, and you support them in other ways through that redundancy journey – for example by creating ex-employee networks where they can keep in touch and receive help in finding another job – they won’t like the fact they've been made redundant, but they will feel OK about a company.”

It's easy to be nice to people when you've got lots of money and you've been successful, so the way businesses treat their people in bad times is a more important indicator than how they treat people in good times

Annabel Sweet, HR consultant

Getting it right, especially in the toughest of climates, can have a positive long-term impact for the business too, she believes. “The way businesses treat people through redundancy makes a difference to that individual but also makes a difference to the people who are staying behind,” she says. “It's easy to be nice to people when you've got lots of money and you've been successful, so the way businesses treat their people in bad times is a more important indicator than how they treat people in good times.”

The main benefit, she argues, is reputational. “It takes a long time to build a good reputation and only takes a few minutes to lose it,” she says. “And having a good reputation means businesses can reduce their costs – so when better times return, they won’t have to spend so much on marketing as an employer because their reputation precedes them, and their churn will be lower so they will need to do less recruitment anyway.”

Walking the talk

So, to what extent are business leaders responding to growing investor scrutiny? A gap between leaders’ ambitions and their business’s readiness to deliver on it is revealed in research from the accountancy and consulting firm Deloitte. In the 2020 Human Capital Trends report, some 71% of organisations say governing changing workforce strategies is “important” or “very important” for their success over the next 12 to 18 months, but only 8% say they are “very ready” to address this trend5.

What’s more, in the same survey, 75% of organisations say ethics related to the future of work are “important” or “very important” for their success over the next 12 to 18 months, but only 14% say they are “very ready” to address this6.

Dr Sarah Pass, a Senior Lecturer in the Department of Human Resources at Nottingham Business School, sees similar patterns emerging in her research. She points to a kind of ‘disconnect’ that often exists between senior management, who frequently have good intentions, and employees who aren’t feeling the benefit of this. “Often the policies and the practices are there at board level, but then not filtering down the organisation,” she says. “It’s great to say, ‘We have all these schemes in place’, but the question to ask is, ‘How are they being used in practice?’”

For her, a lot of this boils down to employees feeling they are genuinely being listened to. “Employee voice is one of the key elements of engagement,” she says. “And it’s that active voice where you feel that you’ve been heard – and then something's happened as a result.”

This also means having the kind of structures, procedures and management in place that allow management to act flexibly, she argues. “The most successful organisations are the ones that enable things to be adapted to a particular team or department.”

This is the time where the difference between businesses that walk the talk, and those that just talk the talk, comes out

Damian Payiatakis, Barclays Private Bank

Being visibly able to flex to strategies that protect and empower employees also sends an important broader message to investors. 

As Barclays’ Payiatakis points out: “Executives who are doing a good job looking after their staff, and thinking about risks and adapting to the issues raised by the pandemic, should in general be more capable of managing other risks, such as those related to climate change, geopolitical, or technological risks.” (Find out more about Barclays Private Banks’ approach to the environmental aspects of sustainable investing.)

Therefore, he adds, when it comes to ESG considerations, how companies are reacting to the consequences of the COVID-19 pandemic is a true measure of their calibre. “This,” he says, “is the time where the difference between businesses that walk the talk, and those that just talk the talk, comes out.”

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Sustainable Portfolio Management 2020 report

From COVID-19 to climate change, we’re seeing global, social and environmental issues impact client portfolios. See how their investments make an impact.

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