Number 1 Spring 1997 67 EMPLOYEE MANAGEMENT STRATEGY , STAKEHOLDER-AGENCY THEORY , AND THE VALUE OF THE FIRM

The purpose of this research was to determine the extent to which a company’s employee management strategy impacts firm financial performance. In essence, does the extent of a firm’s compensation package, its human relations strategy, and/or its ability to challenge and motivate employees affect the enhancement of firm value? The theoretical foundation for this research derives from the stakeholder-agency concept of the firm. The results of previous empirical studies, while mixed, tend to suggest that, in some cases, ESOPs, profit sharing plans, and progressive people management strategies have a positive effect on limited measures of financial performance. This study improved upon previous work by using excess value, a superior market-based measure of firm financial performance, and extensive combinations of personnel management variables as well as control variables. Within the limitations of the study, the general conclusion of this research is that employee management strategy does impact firm financial performance. The appropriate strategies, however, for the most part, seem to be industry specific. Opportunities for future research are definitely available. INTRODUCTION & LITERATURE REVIEW The purpose of this research is to determine the extent to which a company’s employee management strategy impacts firm financial performance. In essence, does the extent of a firm’s compensation package (profit sharing, benefits, etc.), its human relations strategy, and/or its ability to challenge and motivate employees affect the enhancement of firm value? The theoretical foundation for this study derives from the stakeholder-agency concept of the firm (Hill and Jones, 1992). The notion of stakeholder theory states that the multi-purpose corporation seeks to balance the interests of its various stakeholders so that everyone receives some degree of satisfaction (Abrams, 1951). The agency concept identifies not only the contracts but also the costs the resource holders must incur in order to insure proper action on their behalf (Jensen and Meckling, 1976). The combined stakeholder-agency construct provides a sound basis for evaluating, among other things, firm employee management strategy. Employees are a major stakeholder in most firms. Agency costs associated with employee management derive from two major sources: (1) the costs of direct and indirect compensation and (2) the costs of inefficiency which may be inversely related to compensation costs. Previous research has focused on testing, in varying degrees, the impact of ESOPs, profit sharing plans, gain sharing plans, and to a much lesser extent, progressive people management strategies on firm profitability and productivity. Overall, the results of these studies, while mixed, tend to suggest that, in some cases, ESOPs, profit sharing plans, and progressive people management strategies have a positive effect on limited measures of financial performance (Conte and Kruse, 1991; Kravetz, 1991; Florkowski and Shastri, 1992; Adamson, 1993; Kumbhakar and Dunbar, 1993). Prior studies were limited in that: 1) they focused on performance measures which are only tangentially related to overall, long-term enhancement of firm value, 2) the employee management strategy variables were examined in relative isolation and hence did not capture combination effects, and 3) the models employed did not include *Hilbert College **Kent State University Journal Of Financial And Strategic Decisions 68 critical control variables such as risk, growth, and excess cash. This research attempted to overcome these limitations. First, this study relates excess value, a more superior measure of firm financial performance, to personnel management strategy variables. Excess value is a market, rather than accounting based, performance measure that captures those premiums or discounts granted to individual firms by the market (Cochran and Wood, 1984). Further, it includes intangible assets in its computation, thereby avoiding estimation errors which may occur in other measures such as Tobin’s q. In an effort to be thorough, the more traditional firm performance measures of ROE, ROA, and cash flow were also used. Additionally, the comprehensive model contains not only the personnel management variables but also control variables such as risk surrogates (size and book-to-market), growth, and excess cash. Attempts to understand the effectiveness of the various employee management strategies in enhancing firm value and financial performance are of critical importance to corporate financial managers, investors, portfolio managers, and government policy makers. RESEARCH DESIGN & ANALYSIS In terms of this study’s framework, management can implement strategies in order to provide various forms of employee compensation (ESOPs, profit sharing, benefits, etc.) in an effort to align employee interests with those of management. Without these various employee management strategies, the costs of compensation are lower, but costs of inefficiency are higher. With a relatively large number of employee management strategies, the costs of compensation increase, but the costs of inefficiency are reduced (see Figure 1). Based on agency theory, the FIGURE 1 Hypothesized Agency Costs– Total Employee Compensation Relationship