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Build Human Capital or Buy it?

Build Human Capital or Buy it?

Based on the dissertation research of Amit Chauradia

Hiring the right people is critical for companies to reduce employee attrition and enhance returns from human resources. Companies commonly use two broad strategies to hire — either ‘build’, i.e., recruit novices, or ‘buy’, i.e., hire experienced workers from competitors. Based on his research, ISB Professor Amit Chauradia suggests conditions under which the company can maximise economic benefits from either of the two strategies.

Recruit on campus or hire from competitors? In other words, build human capital or buy it? According to Professor Amit Chauradia, an expert in the Strategy area at the Indian School of Business, most companies choose from these two options when it comes to hiring employees. Companies that choose to go the building route hire novices and train them to enhance their productivity in the company over time. Companies using the buying strategy hire experienced employees from other companies and integrate them into the company.

Regardless of which strategy they choose, companies know that hiring the right people will afford greater economic and financial benefit through higher employee productivity, greater employee retention and low turnover costs. In general, building talent (hiring novice employees) generates value for a firm over the long term, since the short-term learning and development costs erode any potential profits. Buying talent (hiring experienced employees) can increase short-term productivity, but it may be difficult to sustain this for the long term. While both building and buying strategies can generate value (over different time frames), it is more crucial to understand ‘how’ building versus buying generates greater economic and financial benefits for the firm.

Chauradia’s research can help guide companies on these human resource strategy dilemmas. His research highlights four classic human resource problems — company’s reputation, promotion chances in the company, and hiring of external leadership – that companies must effectively address to increase their returns from the human resources strategy.

First, companies face challenges in accurately perceiving and assessing an employee’s quality attributes prior to hiring that employee. This problem is more pronounced in a building approach which involves novices who do not have prior work records attesting to their raw skills, learning abilities and motivation.

Second, why would employees in company X be willing to learn skills that cannot be used in any other company? Companies find it difficult to motivate employees to invest time and effort in company-development efforts when employees are keen to enhance their own development and skills that are not company-specific.

Third, companies need to develop cooperative complementarities where employees can harmoniously work in teams. For successful teamwork, employees must be interpersonally better aligned with the company’s goals. Determining the fine balance between the employees’ goals and the company’s goals is more challenging that one can imagine.

Fourth, how can companies get the incentives right to motivate employees to work diligently? Motivational incentives such as promotions, financial incentives, recognition and autonomy motivate different employees differently; they are not all created equal.

So, how can companies solve these problems? Chauradia points out that the key lies in a company’s ability to leverage reputation, promotion chances, and hiring of external leadership. Using a dataset of over 200 firms from a human capital-intensive industry, he demonstrates that companies with a strong reputation and good promotion chances for employees can benefit the most with a building strategy, while companies that hire external leaders from rival companies will benefit the most with buying strategies.

How to build?

Deloitte, Cognizant, ICICI, Wipro, Accenture, TCS, IBM, and Amazon are examples of some companies that make extensive use of campus recruitments to hire fresh graduates with little work experience, and train them in accordance with the company’s working norms and practices. Campus recruitments constitute a building strategy. A company that uses a building strategy will invest significantly in training, mentorship and job rotation.

The difficulty however, lies in hiring the ‘right’ type of novices who have the desirable skillsets. How can a building strategy attract the right type of novices? Chauradia suggests that a company’s reputation and promotion chances will successfully attract and help in retaining the most talented rookies.

Reputation represents cumulative judgments formed over time based on the firm’s relative success in fulfilling expectations. Companies seen as great places to work attract larger number of high quality applicants. This, in turn, will provide the company a large pool of ‘high quality’ applicants to choose from. Novices typically view working with reputable companies as a chance to develop their resumes and to enhance their attractiveness in the job market by using the company as a strong early platform for their careers. Also, because reputable firms have greater chances of survival, novices tend to effectively invest time and effort in company-related activities and into working in teams by happily imbibing company-specific knowledge, norms and policies.

Likewise, promotional opportunities signal chances of growth and development to novices who are generally eager to rise through the ranks via knowledge transfer and mentoring. While signalling growth opportunities in the organisation, promotional chances motivate novices to work in the interest of the company. The growth of the company is a means to achieve the employee’s own success.

Why are reputation and promotional opportunities not quite so effective with a buying strategy? Chauradia says that although strong company reputation could attract experienced employees, its motivational appeal is very limited. Experienced employees care less about reputation and pay greater attention to immediate monetary rewards and to making immediate viable contributions to the company for fear of being fired. Likewise, seasoned employees may care less about career advancement owing to their already established track records.

How to buy?

Companies that use buying strategies, such as Capgemini, Qualcomm, and HCL Technologies, search for, bid on, and employ experienced and immediately valuable talent from outside. Chauradia notes that external leaders can help in generating better economic gains with a buying strategy. By identifying high quality external employees, external leaders can ensure that the most talented candidates are hired from outside. Thus, he suggests that a buying strategy will earn greater economic benefits for a company that hires senior external leaders.

IT companies, pay attention! Even though the study’s data derives from a United States (US) context, the author has been careful to control for and eliminate US-specific factors. Thus the findings of this study offer generalisable insights for successful employee hiring and retention anywhere in the world. For instance, an IT company can examine its reputation, promotion opportunities and hiring of external leaders and factor these aspects in its hiring strategy to hire the right people. That way, the company can be more confident that its recruitment strategy bears beneficial results. In fact, the findings of this study hold special relevance for the IT sector and the service sector in general, where the quality of the company’s product is closely tied to its human resources. That means that recruiters in human capital intensive industries, such as accounting, consulting, IT, and law, will find Chauradia’s advice particularly beneficial in their endeavours to maximise returns on human resources.

About the Researcher:

Amit Chauradia is Assistant Professor of Strategy at the Indian School of Business.

His profile is here: http://www.isb.edu/faculty-research/faculty/directory/chauradia-amit-jain

About the Research:
Chauradia, A. J., 2014. Three essays on the human capital augmentation strategies of building and acquiring. Ph.D. Dissertation, University of Illinois at Urbana-Champaign.

About the Writer:
Catherine Xavier is a writer with the Centre for Learning and Management Practice at the Indian School of Business.

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