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HR Magazine, September 2003 - Accounting for Time - Additional Material 

9/1/2003  By Steve Bates 

HR Magazine, September 2003Vol. 48, No. 9

Evaluation of Three Strategies
To Increase Retention

A hypothetical company is considering three ways to increase employee retention: raising salaries, adding fringe benefits or providing training designed specifically for the jobs.

The following analysis comparing the net present value (NPV) of the three alternatives was prepared by Robert A. Connolly, an associate professor of international finance and economics at the Kenan-Flagler Business School of the University of North Carolina at Chapel Hill.

He estimated costs and revenue for each option over five years, with revenue estimates including productivity associated with more experienced workers. He then converted the results to a single net present value measure for each option.

The first line shows the companys baseline forecasts of its annual revenues, starting at $3.5 million and projected to grow 4.5 percent a year. Other assumptions are listed below the chart.

In this scenario, Option 1 is barely sensible on financial grounds. NPV is positive, but not by much. Option 2 is senseless on financial grounds. NPV is negative. Option 3 is very attractive on financial grounds. NPV is substantially positive, reflecting substantial impact from special training. Combining Options 1 and 3, higher salary and special training, seems especially productive.

Option Time This year + 1 year + 2 years + 3 years + 4 years NPV
Continue Current Policies Expected Revenue $3,500,000 $3,657,500 $3,822,088 $3,994,081 $4,173,815  
1. Raise Salaries New Cost -$96,000 -$99,840 -$104,832 -$110,074 -$115,577  
  New Revenue   $182,875 $152,884 $119,822 $83,476  
  Net Gain -$96,000 $83,035 $48,052 $9,749 -$32,101 $6,224
2. Add Benefits New Cost -$35,000 -$38,500 -$42,350 -$46,585 -$51,244  
  New Revenue   $54,863 $38,221 $19,970 $4,174  
  Net Gain -$35,000 $16,363 -$4,129 -$26,615 -$47,070 -$79,115
3. Provide Special Training New Cost -$250,000 $50,000 $52,500 $55,125 $57,881  
  New Revenue   $146,300 $210,215 $219,674 $229,560  
  Net Gain -$250,000 $196,300 $262,715 $274,799 $287,441 $586,417
4. Combine Options New Cost -$346,000 -$49,840 -$52,332 -$54,949 -$57,696  
  New Revenue   $336,490 $371,507 $346,087 $319,923  
  Net Gain -$346,000 $286,650 $319,175 $291,139 $262,227 $616,987

ASSUMPTIONS

1. Beyond the initial increase, salary costs increase 4 percent in the first year and 5 percent annually thereafter.

2. Training costs are highest in the first year and drop to maintenance levels thereafter but increase at a 5 percent annual rate.

3. Raising salaries adds 5 percent to revenue at the end of the first year, but the additional new revenue drops by 1 percent each year thereafter.

4. Adding benefits adds 1.5 percent to revenue at the end of the first year, but the additional new revenue drops 0.5 percent per year thereafter.

5. Special training adds 4 percent to revenue at the end of the first year, but the additional new revenue increases by 5.5 percent each year thereafter.

6. The combination of raising salaries and providing special training raises revenue an additional 5 percent in the first year beyond each option separately, because employees given both advantages can be expected to be more serious and more excited about their work. The extra increment drops 1 percent each year thereafter.

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