Embedding human capital

analysis in the investment

process: A human resource
challenge
Shakti
Prasad
Biswal
(UH15086)

Shikhar
Verma
(UH15095)

Pritish
Routray
(UH15093)

Sambit
Prasad
Sethy
(UH15065)

Ananya
Mohapatra
(UH15069)

Sai Aditya
(UH15102)

Contents
Introduction
Objectives
Forces for changing the research products of securities
analysts
Challenges
Qualitative and quantitative research
Research evidence & various models
Skill base of securities analysts
Conclusion
2

Introduction
Media, investing public, regulatory agencies & politicians concern
with the credibility associated of brokerage firms & their security
analysts
Human capital analysis has implications beyond the field of HRM
It is essential to the work of security analysts
Current analytical techniques rely heavily on analysis of financial
data to create models
Most models use lag indicators of past performance rather than
lead indicators of future performance
Human capital analysiss role in future analyses of the intangible
drivers of the value of a firm
3

HUMAN CAPITAL
It refers to the sustainability of people management
systems which are likely to have an impact
on the share price of a firm
Sustainable human resource management systems
are those which are internally consistent, consistent
with the firms corporate strategy & consistent with
the broader context in which the firm is operating

Objective
To establish the correlation between the use of
analytical techniques to be adopted by security
analysts to provide a clearer picture of organizations.
These techniques are needed in order to analyze
human capital which is linked to future financial
performance.
To establish the benefits from embedding human
capital analysis alongside financial analysis

Securities analyst
Employed by brokerage firms, banks or investment banking
institutions
Occupational knowledge-intensive specialists
Elite of the Equities business in terms of knowledge base & intellect
ROLE:
To conduct thorough research investigation into all aspects of the
current & prospective financial condition of publicly-listed companies
To provide analysis in the form of a research report, which serves as
the basis for making an investment recommendation
Involved in continual cycle of data collecting on an industry or
individual company from customers, suppliers, & management

Forces for changing the research

products of securities analysts
Growth in ethical and social investment funds has been considerable and may prove
a significant force for change in the product and process of securities analysts.
12 of the 17 socially and environmentally screened mutual funds with US$100
million in assets earned high ratings from investment tracking firms.
Ethically screened funds bettered the non-screened funds by up to 2%.
For example, Amcor floated its paper manufacturing division into a separate entity
known as Paperlinx.

There are profits to be lost in bad ethics.

Financial markets are starting to appreciate the limitations of purely financial
measures as an indicator of future performance.
New measures focusing on intangible assets like customer capital and structural
capital are appearing.
The move to triple bottom line accounting can be seen as a better indication of
viability and sustainability.
7

1970s: Fundamental Analysis

Firm and its context are considered to be part of the process of share price valuation.

1980s: Securities Analysts same as business

journalists
With the advent of CAPM( Capital Asset Pricing Model) and portfolio theory to forecast
future earnings stocks are seen through the lens of risk and return, and the beta
factor, the volatility compared to the market sector.
Uniqueness of each stock is minimized.
Recent increase in the earnings model has led to more extraneous data available to
investors without any additional analysis. This has been termed as noise by
Bernstein(2001).
The trend of generating more information on stocks is akin to observational reporting
rather than pure analysis.
8

Systems theory
The fundamental analysis approach is consistent with the systems view of
the organization.
A firm is seen in context of its broader environment, internal and external
connections and interdependencies.
Most complex systems respond to their environment, adapt and often become
even more complex as they continue to evolve.
Standard quantitative analysis does not account for this increase in complexity.
Organizations can be seen as having elements of both closed and open systems
and being interdependent with the community and the context in which it
operates.
Some value creating capabilities of the organization do not appear in traditional
financial analysis by securities analysts.

For knowledge intensive firms

Intellectual
Capital

Non-thinking
capital

Human Capital

Competenc
e

Average
duration of
employme
nt
Hours of
training per
employee
IT literacy

Attitude

Leadersh
ip index
Motivatio
n index

Intellectua
l agility

Savings
from
employee
Suggestions
of
diversificati
on index

Relationsh
ips

Customer
retention
Length of
supplier
relationshi
p

Internal
efficiency
Revenues
from
patents
Processes
complete
d without
error

Renewal
and
developme
nt
Percenta
ge of
business
from new
products
Training
cost per
hour per
employe
es 10

Challenges
Measuring knowledge in an organization is more than number of hours in training
sessions or number of patents held.
They are mistaken for knowledge itself, but, knowledge genuinely exists only
when it is used in context of communication processes between people.
Hence, qualitative human capital tools need to be used in conjunction with
quantitative financial tools in order for the observer to understand and see
organizational culture as a variable in predicting future performance of the firm.
This requires a high level of understanding of organizations cultural issues such
as interpersonal communication, both formal and informal.
In a regulatory environment, such as Australia, companies are compelled to
provide continuous disclosure of share price sensitive information.
In such a competitive environment for securities analysts, it is important that nonfinancial data must be accessed and analysed in a systematic and valid manner
in order to make more transparent recommendations.

11

Qualitative and quantitative

research
Choosing between quantitative financial data and qualitative data.
Quantitative research alone may impede true analytical understanding of
an organization's performance.
Quantitative financial research minimizes data on practices, complexity,
variety pertaining to individual.
On the contrary, qualitative data offer analysts patterns available in human
capital data.
Traditional equity research offers forecasts typically expressed as numeric
estimates that may capture some aspects of human capital of a firm but are
not analyzed as systematically as financial capital
12

Continued
Qualitative analyses adopt many organizational techniques including
interview of management staff, focus groups surveys, archival and
documentary sources.
Qualitative research tend to highlight complexity of issues surrounding the
drivers of the value of the firm.
Security analysts adopting multiple sources of evidence increase
transparency of any research products.
Ethical or social investment funds.
Sustainable people centric practices encourage organizational membership,
attract and retain talent which in turn drives financial performance

13

Research evidence linking human capital to

financial performance

Importance to
intrinsic
motivation

Hewitt employee
engagement survey
was completed by
139 private sector
companies and 25
public sector
organizations and

Concern that
employees
ideas are
valued
Best
Employer
s
Employees feel
an integral part
of the
proceedings

Real concern for

people

Hewitt and
Associates(2003)
examined
philosophies,
policies programs
and practices
influencing the
management of
people.

14

Comparison
Best employer companies

Others

-44%
Average profit growth
21%

7%
Revenue growth
13%

-50%

-40%

-30%

-20%

-10%

0%

10%

20%

30%

This is a part of wider study that covers over 25 countries, 350 companies
and 125000 employees for a period from 2000-2002.

15

In a Boston consulting group study of 100 companies in Germany, covering ten

industrial sectors over the seven year period 1987-1994, found that those companies
that produced greater shareholder return, particularly, emphasized on:

urs Employe
e
contribu
tion

Fle capac
xibl ity
e
wor
k
ho
Buildi
ng
empl
oyee

16

Prom
otion
oppo
rtuni
ties

Exp
endi
ture
per
em
ploy
ee

Inno
vativ
e
HRM
prac
tices

Continued
A study by Collins(2001) compared companies in the same industry using
methodology which was a combination of traditional financial analysis and a
selection of qualitative approaches.
He screened companies using fortune 500 data, then CRSP data, then by industry
and was left with 11 companies which demonstrated long term sustainability of
both financial and human capital.
Visionary companies invested heavily in management practices and human capital
like training, recruiting and professional development of staff, R&D and property
and plant, and they outperformed their no visionary counterparts on all key
financial measures.
A major study by Turner and Crawford (1998) of 243 case studies in Australia and
new Zealand to determine the capabilities that drive corporate renewal found that a
specific cluster of competencies affect performance including business
technology, market responsiveness, performance management,
engagement and development of employees, which are all examples of
performance related capabilities.
Researchers such as Royal(2000), Collins(2001), Dunphy(2000), Turner and
Crawford(1998), Watson Wyatt worldwide research(2002) use rigorous qualitative
17
techniques to provide evidence for their findings on the positive relationship

Watson Wyatt Human Capital Index

51 organizations were surveyed in 1999 and 2001, and were divided into
low and high in terms of overall HCI scores using the organizations fiveyear total returns to shareholders (RTS).
Low HCI averaged a 21% total RTS
Medium HCI averaged 39% total RTS
High HCI averaged 64% total RTS
Result was a much larger positive correlation between 1999 HCI scores &
2001 financial results, indicating that it is more likely that superior HR
practices will improve financial results than that financial results will lead to
improved HR practices.
HR practices are shown to be a leading indicator of business success.

18

Model for analysing human capital

Studies carried out by Royal(2000, 2002) in the investment banking industry, used
the following qualitative research techniques for human capital analysis.

Structured and semi structured interviews

Content analysis of interview data and documentary
sources
Industry performance analysis
Survey instruments(application of statistical analysis)
Media analysis
Archival and historical analysis
Focus groups
Oral histories
Corporate ownership analysis
Participant observation

19

Organiz
ational
historica
l context
and
future
anticipat
ed
trends

Market
valuation

External influences

Historical trends
Economic environment( Resources,
Supply and demand for skilled labour)
Institutional factors,
alliances/competitors
Product/market
Technological change
Cross cultural factors
Costs (search, recruitment, salaries)
Exogenous variables

Performance
( Financial,
Human,
Environment)

Sustainable
people
management
practices

Internal influences

Employment relations
Cultural integration
Corporate governance
Costs ( Training and development,
carrier systems, performance
management and reward systems,
general overhead costs)
Workforce skills
Need to secure commitment
Workforce value
Insider-outsider relations

Manageria
l beliefs
and
perception
s

Managerial
strategy

20

Skill base of securities

analysts
Strongly geared towards quantitative financial analytical techniques

General pre-requisites include: formal qualifications in finance,

accounting, economics and commerce
Other competencies required to meet the demands of the analysis
of human capital include formal training in :
1. Sustainable Human Resource Management
2. Organisational change/ Organisational behaviour
3. Qualitative research techniques
21

Continued..
Creating a complementary equity research product will result in
more transparent investment recommendations to minimize
the risk of miscalculating earning estimates.
Implementation of the above approach can be done in three
ways:
1- Undertaking additional former degree qualifications in
human capital analysis.
2- Brokerage firms could buy competencies and skills
from external labour market.
3- Brokerage firms could buy a qualitative complimentary
research product from independent research services firm.
22

Continued..
To increase the quality of information available to investors
more emphasis should be kept on Human Capital Analysis.
Sophisticated skills in qualitative research aids analysts to
systematically access non-financial data in making earnings
forecasts.
Also, Securities analysts should have high levels of
competency in non-traditional analytical techniques to assess
share price sensitive areas.

23

Conclusion
Theorists such as Delery and Harris and Ogbonna emphasise the
importance of understanding the mediating variables between
strategic human resource management and performance.
Valid data on human resource management practices is to be
provided to securities analysts in order for Human Capital Analysis to
be effective.
Evidence indicates that qualitative research is currently not
systematically adopted by securities analysts.
Truly transparent stock recommendations require both qualitative
human capital analysis and traditional, quantitative financial
analysis.
24

Than
k
you
25