Utility Theory
In considering investments in human resources in terms of hiring or development of current employees in order to pursue given strategies, there must be a method for evaluating the financial attractiveness of such investments. There must also be a method to be used in “selling” the investment to senior management. These tasks may be accomplished bydetermining the r eturns for such investments through cost– benefit analytical approaches such as utility analysis. Utility theory attempts to determine the economic value of human resource programs, activities, and procedures.
As such, utility theory might be used to determine the dollar value of a selection test that enables an employer to identify and hire managers for a specific job whose productivity is higher than those hired without the test. The calculations of utility might involve several variables. For example, validity of the selectiontest would be a critical variable, in that it provides an indication of the predictive ability of the test. Additionally, the increased production, its contribution to profitability, and the standard deviation of the contribution, would be variables in the calculations.
Finally, other variables might be included in the analysis, such as the cost of testing enough applicants to obtain a sufficient number having scores above the cut-off point. Brian Becker and Mark Huselid’s study in a national retailing company provides another example of an application of utility theory. Becker and Huselid’s analysis explained return on sales for each store on the basis of the performance appraisals of the store supervisors.
Their statistical analysis also controlled for differences in the supervisors’ educational levels and their commitment to the company. Their study demonstrated that better estimates of the standard deviation ofthe performance appraisal variable could be obtained through a model based on the use of accounting data (return on sales) rather than the more commonly used subjective approaches. This study helps to enhance the legitimacy of utility theory for applications in real business environments
In considering investments in human resources in terms of hiring or development of current employees in order to pursue given strategies, there must be a method for evaluating the financial attractiveness of such investments. There must also be a method to be used in “selling” the investment to senior management. These tasks may be accomplished bydetermining the r eturns for such investments through cost– benefit analytical approaches such as utility analysis. Utility theory attempts to determine the economic value of human resource programs, activities, and procedures.
As such, utility theory might be used to determine the dollar value of a selection test that enables an employer to identify and hire managers for a specific job whose productivity is higher than those hired without the test. The calculations of utility might involve several variables. For example, validity of the selectiontest would be a critical variable, in that it provides an indication of the predictive ability of the test. Additionally, the increased production, its contribution to profitability, and the standard deviation of the contribution, would be variables in the calculations.
Finally, other variables might be included in the analysis, such as the cost of testing enough applicants to obtain a sufficient number having scores above the cut-off point. Brian Becker and Mark Huselid’s study in a national retailing company provides another example of an application of utility theory. Becker and Huselid’s analysis explained return on sales for each store on the basis of the performance appraisals of the store supervisors.
Their statistical analysis also controlled for differences in the supervisors’ educational levels and their commitment to the company. Their study demonstrated that better estimates of the standard deviation ofthe performance appraisal variable could be obtained through a model based on the use of accounting data (return on sales) rather than the more commonly used subjective approaches. This study helps to enhance the legitimacy of utility theory for applications in real business environments
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