Costs of Turnover

Discussions on how to determine the cost of turnover inevitably turn to, “It’s complicated” or “It depends.” Yuck! Isn’t there a standard formula?

Attempts to standardize the measurement of turnover have been unsuccessful because of the nuances of industry, employee life cycles, and lack of a common standard. Such a formula would be useful, as employees do leave their organizations, either with or without management’s urging. In other words, turnover happens, and it has an associated cost. Regardless of the formula, those costs can be placed into four categories: separation costs, hiring costs, the cost of training new replacements, and lost productivity.

For context, let’s review a few a few statistics.

In the 2017 MSEC HR Metrics Survey, MSEC asked about employee-initiated turnover. The result for all organizations (states and industries) was: 23 percent desirable, 59 percent neutral, and 18 percent undesirable, or “regrettable.” The math indicates that 82 percent of the employees who left organizations in 2016 were, well, no big deal? Does that seem right? If so, what’s fuss?

The issue has two faces: the cost of replacing the 82 percent and the business impact of losing 18 percent of the employees who are “firing” the organization. You can see the details of the survey in several forms on the MSEC website. Look for surveys, then HR Metrics Survey, then click on 2017 to view the full report.

According to the Bureau of Labor Statistics’ “Economics Daily” report, the unemployment rate in Salt Lake City is 3 percent, with Denver at 3.1 percent and Phoenix at 4.5 percent. Other sources have those figures even lower. Regardless of the source, the message is the same for employers: it is a tight labor market. While this is unwelcome news for employers, it is an era of unprecedented opportunity for employees. The tide of the 2007-2010 recession has clearly been reversed in these cities.

If you do a Google search on how to calculate the cost of turnover, you will find many answers. For example, SHRM estimates the cost to be six to nine months’ salary on average (salaried employee). The Talent Management and HR organization uses this equation:

  • For entry-level employees, it costs between 30-50 percent of their annual salary to replace them.
  • For mid-level employees, it costs upwards of 150 percent of their annual salary to replace them.
  • For high-level or highly specialized employees, you’re looking at 400 percent of their annual salary.

In an article titled, “How Much Does Employee Turnover Really Cost?” Jack Altman, CEO of Lattice, provides this formula: (hiring + onboarding + development + unfilled time) x (number of employees x turnover rate) = annual cost of turnover.

According to Jack, if you are a 150-person company with 11 percent annual turnover, and you spend $25,000 per-person on hiring, $10,000 each on turnover and development, and lose $50,000 of productivity opportunity cost on average when refilling a role, then your annual cost of turnover would be about $1.57 million. Reducing this by just 20 percent, for example, would immediately yield over $300,000 in value. And that says nothing of the emotional headache and cultural drain felt from losing great people.

The conclusion? Replacing employees who leave the organization is expensive.

But let’s explore this from another perspective. In his book The Agility Factor, Edward E. Lawler states:

Vital to creating an agile organization is having an agile workforce. There are essentially two ways to have an agile workforce: one is to change who is in the workforce, and the other is to change the individuals who are already in the workforce. The latter is often more difficult and more expensive than changing the workforce. This realization is leading increasingly more companies to create an agile work relationship with their employees. Companies accept that turnover can be a positive, one that leads to a change of the mix of skills and motivations of the workforce and that fits an agile strategy-driven business model. This is precisely why Zappos recently offered a bonus, to all the members of its workforce, for turning over.  

Putting an accounting spin on this, it would appear an organization could have “addition by subtraction,” meaning that instead of looking at turnover as a bad thing, new employees can actually reshape the organization.

The elusive formula for the cost of turnover can be captured by focusing on the macro and micro aspects of your organization. For example, a macro calculation of the revenue per employee might provide a unique perspective. In an organization with $50 million in revenue (sales or top-line funding) and 310 employees, the revenue per employee per year is $161,290. Dividing that number by 365 days gives you $442. This means for every day a job goes unfilled, it technically “costs” the organization $442. Not a perfect measurement, but it is interesting.

On the micro side, the same organization can evaluate the value of a sales representative per day. For example, a sales representative with a $1 million sales goal technically would generate $2,739 in revenue per day. If it takes 45 days to hire a new sales person, the amount of lost sales during that period would be $123,287. This approach can be applied across the organization with different amounts attributable to each role.

What makes sense for your organization? Find a formula that aligns with your business strategy, is understood by management, is “easy” to calculate, and can be compared year-to-year, and if possible, within your industry. Creating your own path in this area will enable you to move from “it’s complicated” to “what’s best for our organization.”