Introduction: The Last Asset

The CEO knew it was a bold play, but he was determined to get it past the board.

“Ladies and gentlemen,” he said, “I propose to invest 36 percent of next year’s sales—roughly $5 billion—in a venture I’m confident will produce great gains for the company.”

He knew he had to take the high ground before they started asking questions.

“Let me say at the outset that I can’t estimate a specific return on investment, but we will be able to benchmark our spending against other companies, so I am confident we can manage this venture effectively.”

There was silence.

He was relieved.

They were stunned.

Strange as it may seem, an unspoken version of that dialogue takes place every year in every company from Germany to the United States to Japan. This is what it would sound like if CEOs had to ask their boards for permission to fund all the investments associated with their workforce—equivalent to an average of 36 percent of an American company’s revenue each year.^[1] The question for companies goes like this: Is the return you’re getting on your various human capital investments exceptional, marginal, or negative? Unfortunately, that question seldom is asked and virtually never is answered. That’s why for many companies human capital is the biggest investment about which they know the least.

The reason executives know so little about their human assets isn’t a lack of interest or concern. Indeed, CEOs and senior managers spend most of their time dealing with people problems. The problem has been their inability to measure, assess, and predict the outcomes of workforce tactics in the same way they do with other parts of the business. The tools simply have not been available. They didn’t miss the boat. There wasn’t any boat.

The only good news in this is that there has been parity among companies in their inability to measure and manage human capital factors. The bad news is that this situation is changing dramatically. Measurement and management tools are now available. Companies that adopt them and learn to use them well will gain substantial advantages over organizations that are slow to catch on.

The Last Major Source of Competitive Advantage

Every company has tangible assets (financial and physical) and intangible assets (brands, customer relationships, and people). In the past, tangible assets were prime sources of competitive advantage, but their power to differentiate or confer special power has faded. For example, it was not long ago that executives struggled to obtain the capital they desired to run their companies. Nowadays capital flows relatively easily even during significant economic downturns. In early 2003, in a distinctly down economy, companies continued to get the money they wanted, ranging from the $900 million Volkswagen was putting into new manufacturing facilities in China,^{[2 ]}to $21 million in private financing for Chicken Out, a fledgling restaurant chain in Maryland.^{[3 ]}Access to financial capital doesn’t differentiate enterprises or give a business a competitive advantage over its rivals anymore.

Nor does technology set most companies apart for very long. Until recently first movers with new technologies could establish competitive advantages they could ride for years, as FedEx did with its logistics/ tracking system. Today advantages rooted in new technology are short-lived. What one company has often can be acquired or replicated easily by others, making technology no longer special, just required.

At the same time the competitive landscape is tumultuous. Almost unthinkable things are happening: smaller companies taking on bigger ones, less developed countries going toe to toe with larger ones. The Royal Bank of Scotland, like a latter-day Robert the Bruce, charged into England to buy Nat West, and it’s now expanding overseas. Chile is crating off its counterseasonal produce to northern markets and hooking those markets on its year-round fishery. Lowe’s is chiseling away at Home Depot’s seemingly uncontested market dominance. Big pharmaceutical houses find the performance of upstarts like Forest Labs depressing. China continues its Mao-defying revolution into a new economic dynasty. Nothing can be taken for granted anymore.

Thus, earlier sources of value creation and advantage—access to capital, technology, and economies of scope and scale—have become much less critical. What’s left—the last unexploited source of advantage—is the largest part of most companies’ intangible assets: human capital and the system each company uses to manage it. Nobody has ever denied that people are important. Companies routinely profess that “people are our most important asset” although many behave otherwise. However, in a world where knowledge and connections to customers matter more and more, human capital—a company’s stock of knowledge, technical skills, creativity, and experience—is becoming increasingly important.

A great workforce alone is not, however, the source of advantage. If it were, today’s best-endowed companies would simply outpay all others, staff themselves with the best people, and enjoy a permanent advantage. Obviously, this doesn’t happen. The reason is that the real and competitive advantage comes not merely from the people, but more importantly from the way firms manage them. We call that set of management tactics, policies, and practices an organization’s human capital strategy. That strategy—that system—is the last asset with which companies can gain enduring advantages.

Human capital strategy is the sum of all actions—in both line and staff functions—used to manage people throughout an organization. It is the people analogue to a firm’s business model or strategy.

^[1]Human Capital Management: The CFO’s Perspective. Boston: CFO Publishing Corp., 2003, 11.

^{[2 ]}“VW Plans 1 Billion Euros Investment in China,” Financial Times Information, Global News Wire–Asia Africa Intelligence Wire, March 4, 2003.

^{[3 ]}“Chicken Out Rotisserie Announces $21.25 Million Equity Financing.” Business Wire, October 14, 2002.