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What is human capital efficiency and why is it so important?

Discover how measuring human capital efficiency can propel your business forward. Learn actionable insights that directly relate to profitability, especially for SMBs. It's not just about the costs; it's about maximizing the value your workforce brings.

Human capital efficiency: what does this crucial workforce metric mean to you? If you’re an SMB employer or HR professional, understanding and improving human capital efficiency is essential as it directly ties your human capital (i.e. your employees, skill sets, experience, and so on) to your bottom line.

Workable CHRO Rob Long knows. “It’s a top 5 metric that we track at Workable,” he wrote in LinkedIn. “When it’s high enough, you can do incredible things – things that other companies cannot do. It’s a huge competitive advantage.”

So what is human capital efficiency? Let’s take a look and learn.

What is human capital efficiency?

In short, human capital efficiency refers to how well a company uses its human capital – the skills, knowledge, and experience of its workforce. It measures the output and business impact generated per dollar spent on employee-related costs.

With today’s tight talent market and competitive hiring landscape, human capital is more precious than ever. Maximizing your workforce’s contributions relative to their cost is essential for SMB success.

Why human capital efficiency matters

High human capital efficiency means your workforce is delivering substantial value in relation to what you spend on compensation, benefits, training, and other employee costs. The higher your HC efficiency, the better your return on human capital investment.

For SMBs, improving HC efficiency can lead to:

  • Increased productivity and revenues without expanding headcount
  • Ability to pay team members more competitively by boosting revenue per employee
  • Reduced costs via streamlined operations and automation
  • Better identification of skills gaps to target training and recruitment
  • More accurate performance measurement to reward top talent

“It’s like an ROI on all the human elements that go into your company,” Rob adds. “When you’re operating a business, you’re making investments in it to make it run more smoothly and bring greater return. Your employees are a huge part of that – you’re investing in your people so they can bring their best to the job.”

So how do you invest in your people?

Rob answers: “Salary is the obvious one. But there are also other investments: benefits, perks, learning & development, all-hand retreats, lunch & learns, even team dinners and social outings. Any and all of these can tie back to employee productivity and a direct impact on revenue. That’s human capital efficiency in a nutshell.”

Calculating your human capital efficiency

So how do you calculate human capital efficiency? Easy – it’s simple math. Take your total revenue or net income, and divide it by your total employee expenses for a given period.

Let’s say your company generated a million dollars in revenue last quarter, and spent $200,000 on employee costs. That means your human capital efficiency would be $1M / $200K = 5.

This means for every dollar you spend on human capital in the last quarter, your business earns $5. The higher the ratio, the better.

You can track this metric over time to monitor what’s going well and what’s not – and benchmark against competitors in your industry to see how you stack up against them.

You can go deeper. Here are three other, more specific ways to calculate human capital efficiency:

1. Human Capital Value Added (HCVA)

This method calculates the economic value added by employees, beyond any material, overhead, and other operational costs.

HCVA = Operating Profit − (Capital Charge × Capital Employed)

Where:

  • Operating Profit is the profit generated from operations before interest and taxes.
  • Capital Charge is the rate of return required by capital providers.
  • Capital Employed is the value of all the capital used in the business.

Then, to get the Human Capital Value Added per employee:

HCVA per Employee = HCVA / Number of Employees

2. Human Capital Return on Investment (HCROI)

This metric measures the rate of return on the investments a company makes in its workforce.

HCROI = Operating Profit / Total Employee Costs (Salaries + Benefits)

A higher HCROI suggests that a company is getting more return from its investments in its people. Conversely, a lower HCROI might indicate inefficiencies or that the company is not realizing the full potential from its human capital.

3. Revenue Per Employee

While simpler and more direct, this method offers a quick gauge of how much revenue each employee contributes to the company. It’s particularly useful for comparing efficiency across different firms in the same industry.

Revenue Per Employee = Total Revenue / Total Number of Employees

This method, although straightforward, is a gross measurement. It doesn’t take into account the nuances of capital structures or the specific roles and responsibilities of employees within different departments. Nor does it give you an indication of how much you’ve invested in human capital.

“We’re always thinking about ways to optimize the work we do at Workable,” Rob says. “When we’re making a decision on people, we’ll ask ourselves; ‘Will this grow our human capital efficiency? And how?’ And that’s our needle for success right there. We want to move that needle in the right direction. These formulas help us measure our progress on that.”

Strategies to boost HC efficiency

Once you know your starting point, here are some proven tactics to maximize human capital efficiency:

1. Analyze revenue per employee: Which employees, teams, or departments are generating the highest revenue relative to their cost? Determine what makes them successful and replicate across your organization.

2. Identify automation opportunities: Can any manual processes be automated to reduce labor costs? Do repetitive administrative tasks take up time that could be spent on high-ROI activities?

3. Review skills utilization: Are employees operating in their strongest skill areas? Are any skills being underutilized that could drive new revenue streams?

4. Invest in training and development: Targeted training to close skills gaps can greatly increase productivity. Offer development opportunities to boost engagement and retention.

5. Reward top performers: Incentivize and retain your standout talent. Be cautious not to overpay low performers.

6. Track performance rigorously: Tie individual goals to company objectives. Maintain clear metrics to identify low and high performers.

7. Promote knowledge sharing: Collaboration and documentation prevent knowledge loss when employees leave.

8. Seek cost-effective hires: Hire for culture fit and train for required skills. This expands your talent pool.

Making the most of your human capital

For SMBs facing stiff competition for talent, maximizing your workforce’s impact is vital. Boosting human capital efficiency allows you to extract more value from your employee investments.

“If you don’t have this metric in your OKRs, you need to add it,” Rob emphasizes. “Your company is nothing without its people. Investing in your human capital is crucial to your success – and so is the return on it. It’s how you can get ahead of others.”

So, as Rob stresses – take the time to calculate your current human capital efficiency, identify problem areas, and capitalize on opportunities to grow this ratio. Your closest business advisors – your employees – are your number-one asset. Optimize their output through calculated input, and your SMB will reap the rewards.

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