Tuesday, September 11, 2012

How to Calculate Cost of Terminations

By now, HR Professionals are so used to reporting and tracking turnover and retention.  That data is great, but we need more.  I think it is very important to uncover root cause of why people leave and stay so that you can do more of the right thing and less of what makes good people leave.

With that said, understanding root cause of turnover is like having half of the story.  Some turnover is good, some is not.  What we need to know is how much is that turnover costing the organization and how can we as HR professionals make that number lower.  

So, there seems to be several schools of thought on how to arrive at a cost of turnover.  

One theory is to separate involuntary and voluntary terminations and figure out cost separately as the theory is that the involuntary terminations could cost less.  In my view a termination is a termination and if it is involuntary, perhaps we did something ineffective on the front end that needs correcting.

However you separate turnover is fine, the real issue becomes HOW do you arrive at the termination cost?  Just like with anything else there is:

1) The easy way: take a multiple of the annual salary of those that have left the organization.  Many organizations use a multiple of one times the annual salary to estimate termination costs.

2) The not as easy way, but way more accurate way: Calculate the true cost of a termination.  This process is very similar to calculating cost per hire.  It's all about what are the direct and indirect costs of a termination.  

Let's take a look at some of the factors to consider when embarking on this calculation:

Direct costs: (departure costs)
accrued vacation payment
temp replacement help
recruitment advertising (if replacing terminated employee)
screening costs
increased salary over previous employee
manager and HR time to process term
manager and HR time to refill position

Indirect costs:
lost productivity
ramp up time for new hire to gain proficiency
customer defection costs

My recommendation would be to try and get an accurate cost for YOUR organization.  If you can determine that on average you are tracking with a multiplier of salary then by all means, use it.  

The key is to be able to defend your numbers because management will truly be surprised especially in those organizations with high turnover.  

The next step once you KNOW how much turnover is, and WHY turnover is happening, you then have to DO something about it.  

Be careful what you ask for...
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