Whether you have lived it, watched it, or just heard about it, no final decision maker wants to be the one who made a bad hiring decision. They cost you a bit of your pride and ego, and generally more time than you really want to admit. But more than that, hiring mistakes also have a dollar figure attached to them that are significantly greater than you even realize.
There are definitive costs associated with bad hiring decisions. Some of them you most likely can anticipate, but others maybe not. And the real surprise may just be when you consider the individual factors as a whole.
In 2008 Geoff Smart and Randy Street, authors of WHO: The A Method For Hiring, said that studies done with their clients revealed “the average hiring mistake costs fifteen times an employee’s base salary in hard costs and productivity loss.” After compiling the possible cost factors here, that multiplier may be low.
The point of this post isn’t to bring you down with a litany of cost draining business mistakes, but rather to impress upon you the importance of your hiring process. This is especially true since most hiring mistakes can be avoided. Keep reading to learn the compounding costs of bad hires, why bad decisions are often made, and how to avoid them from the start.
The Cost of a Bad Hire Today
The cost of a bad hiring decision has a compounding effect. This is because the effects of these bad decisions don’t just impact one area of your organization. One problem triggers another issue which impacts yet another challenge, each one with a price tag attached. Before long a single bad hiring decision can lead to one cringeworthy final tab. Let’s break this all down so you can see just how quickly the cost of a bad hire adds up.
Your baseline costs start with the salary or hourly rate of a new hire. Now add your related costs associated with new hires for your company. These likely include benefits, technology, office furniture or equipment, company swag or uniforms, parking fees, and probably other incidentals. Be sure to add anything else you would normally need to acquire for a new employee. This figure is your baseline compensation cost.
When you look at that number, it’s clear to see why the larger category of human resources consumes such a large percentage of overall business costs. And since it can take a little time before most organizations fully realize whether a new hire is good, average, or truly bad, you may be paying this baseline cost for a bit of time. If paying the compensation costs of a bad hire for a month feels frightening, imagine paying that for an extended period of time until you are able to make a change.
An opportunity cost refers to the loss of a potential gain when one alternative is selected over another. In this case, we are talking about the loss of the benefits and revenue gains your business could have realized by hiring a great employee vs. the bad hire currently in place.
Take a look at your best employees. What do they bring to the table for your organization? A top producer in a sales role can mean bringing in larger and more revenue generating client accounts.
Frank L. Schmidt and John E. Hunter offered two methods of calculating opportunity costs in their 1998 whitepaper, The Validity and Utility of Selection Methods in Personnel Psychology. One method they detailed was the Dollar Value Output. This approach conservatively estimates that the standard deviation of employee output is about forty percent of the average position salary. In their example they referenced a position paying $40,000 annually, placing the deviation at $16,000. Given a normal distribution range with some superior employees and some below average employees, top performing employees could produce $16,000 more per year than average performers, and $32,000 more per year than those in bottom percentile.
If we change the position though to something more realistic for today the difference is more pronounced. A sales position with a base compensation of $100,000 would place the standard deviation at $40,000. Meaning that a bad hiring decision could be costing you at least $80,000 per year just in opportunity costs.
Company culture costs
The reason company culture is such a growing topic of conversation and focus is because it has a huge impact on the wellbeing of your current employees, as well as the attractiveness of your company to future employees. A good company culture doesn’t happen overnight. It takes time to build and cultivate. However, one bad seed can quickly sour whatever gains your organization has made on this front.
Is employee morale decreasing? Are the attitudes of your personnel starting to decline? What about engagement levels, are employees who were once the first to volunteer, now declining opportunities to get involved? Do you have great employees who decide to leave your organization as a result of contagious problems caused by bad hiring decisions?
Gallup found that organizations with engaged employees experienced 21% higher profitability than organizations with disengaged employees. You may not be able to attach an exact number to this cost, but you will definitely feel the costs of bad hiring. What’s more, your other employees will tell you by their behavior, work performance, and commitment to your organization.
Regardless of how formal your onboarding process is, someone needs to pause their usual routine to train and integrate your newly hired employee. If your hiring decision was good, this is time well spent to ensure new employees quickly become acclimated, develop a sense of belonging, and learn the ropes of what is expected of them. Not so with a bad hiring decision.
Not only are there hiring, training, and other onboarding costs, but now whomever is managing this individual will likely experience a loss of productivity as well. Poor performing employees require more time to manage, retrain, supervise, correct, and that’s assuming there weren’t additional costly mistakes like lost or damaged work products.
Talent acquisition costs
So far we have covered the typical costs accrued once a new employee has started with your company, but there are plenty of costs even before this point. Someone will need to spend time creating the job postings, sourcing candidates, reviewing resumes, conducting interviews, and running background checks. That means you are paying someone’s salary to manage and perform these tasks. That also means if your recent hire doesn’t pan out, many of these costs will be incurred again for the next hire.
External business costs
The final category of costs you need to factor into bad hiring decisions are external business costs. Companies spend a great deal of time and money on building and maintaining a strong brand name and reputation. Bad hires can damage that reputation and create a public relations nightmare to resolve.
Similar to the calculation you did to understand the opportunity costs of a bad hiring decision, think for a moment about what it would cost your company if you lost a current customer. What if it was your best client? Would you be able to get that client back? If not, how long would it take to replace them and bring them up the same level as what you just lost?
So what will a bad hiring decision really cost you and your business? It’s hard to say exactly. The U.S. Department of Labor is often quoted with a figure of about thirty percent of an employee’s first year earnings. This estimate is calculated solely based on compensation costs, and clearly leaves quite a bit out of the equation like lost opportunities, the impact on your company culture, lost productivity, declining employee engagement, talent acquisition costs, negative business impacts, and more. The cost of a bad hiring decision is, without a doubt, substantially more than first year earnings and likely a bit more than Smart and Street’s baseline of fifteen times that figure.
So instead of trying to figure out the exact calculations, let’s look at why bad hiring decisions often happen in the first place and what you can do to avoid them going forward.
Why Companies Make Bad Hiring Decisions
Here too, there likely isn’t a single reason why bad hiring decisions happen. Rather, those bad decisions are likely a combination of several missteps in your overall hiring process. The following are what we have typically seen.
Undefined hiring process
Sadly many organizations don’t have a defined hiring process that is repeatable for each open or newly created position. When your process is undefined, always changing, or is even different between various departments, you have a recipe for problems.
A lack of consistency not only removes the ability to adequately compare candidates, but it also means you could be missing key steps that can uncover potential problems before that candidate becomes an employee.
Poor candidate qualification standards
Speaking of qualifying candidates, bad hiring decisions can happen when you haven’t stopped to outline what abilities, knowledge, experience, and skill set are needed first. Failure to clearly define what you are looking for and communicating it to everyone involved in the hiring process is perhaps the largest contributing factor in making a bad hiring decision.
Poor candidate qualification standards are not only a problem for any given position you are hiring for, but also critical to resolve if you have multiple hiring managers participating in the hiring process. If human resources is screening for one set of criteria, your hiring manager is interviewing for another, and then senior management (or whoever makes the final decision) is evaluating against something else, there is nothing consistent in your evaluation. And that means there is nothing consistent in your qualification standards.
When members of your hiring process are unclear about your process, timeline, objectives, needs, or outcomes, problems will happen. This isn’t saying that each person involved doesn’t have valid justification for their approach to hiring. But we are pointing out that problems will happen when those expectations aren’t communicated, clarified, and completely agreed upon before your search even begins.
There’s a lot to be said about trusting your gut instincts in business (as well as in life), but there are moments when decisions need to be grounded in more than intuition alone. Snap hiring decisions rarely work out well.
If you aren’t qualifying candidates against some sort of benchmark standards, then you are hiring based on emotions, first impressions, and personal biases. None of which should be relied on for such important decisions as who should be added to your team.
How to Avoid Bad Hiring in the Future
At this point you may be thinking this is just a scare tactic approach to convince you that using a recruiting firm will completely eliminate all risk of making a bad hiring decision. Let me assure you that is not the case. What’s more, using a recruiter alone isn’t a guarantee that a bad hiring decision is completely avoidable.
Whether you are managing your talent acquisition process internally or decide to hire a firm like AEBetancourt, there is risk involved because you are working with other human beings. However there are steps you can take to not only greatly reduce your risk of making a bad hiring decision, but also exponentially increase your of making an exceptional hiring decision. And most of these are intentionally designed to avoid the very problems we outlined above.
Clarify your employment needs
The first step in any project is to establish your parameters. This means to identify the scope of your hiring project. So detail who is involved in this process, job title and responsibilities, compensation plan, and your Employee Value Proposition (EVP).
Define your hiring process
Next be very clear about what your hiring process will look like. Before you begin to source candidates, you should already know how many interviews you will need, who will conduct each one, what format they will be (phone, video, or in person), and the desired outcome of each.
Set your qualifying criteria
At this point you are close to beginning your candidate search process, but there is still one more vital step to complete first: understanding how each candidate is going to be qualified. Creating a scorecard that lists your capabilities and competencies will give you something to measure against as you talk with candidates.
Even with a clearly defined process and expectations, projects and needs can evolve. Regularly meeting with everyone involved in the hiring process ensures your project stays on track. Discuss if you are finding the right candidates, and if not where you can make adjustments in your search process. Once you are in the interviewing phase, continue to meet regularly to compare notes, impressions, and to build consensus around your final decisions.
Evaluate your decision and process
Once you have made your new hire, review your process. Where can you improve clarity and efficiency? Are there any redundancies that can be eliminated? Learn from what did and did not work well, adjust, and make your process better next time until you have it perfectly down for your organization.
Keep in mind, the development of your own hiring process is essential whether you handle all your hiring in house or decide to enlist a recruiting firm. Bad hiring decisions are costly, but with a little planning and attention to detail, most are very avoidable.
Curious if your talent acquisition methods are on the right path? Contact us to discuss your current approach and where you may have opportunities to enhance your process.