Intangible assetsâ€”skilled workers, client relationships, patents, organizational processes, and brandsâ€”represent 90% of the market value of the S&P500 and generate most corporate growth.Â Despite the growing dominance of intangible assets, even the savviest investors misprice them.Â Overvaluing dot-coms led to the dot-com bubble and subsequent crash.Â Twenty years later, the investment community may be undervaluing intangibles at traditional car makers like Ford (NYSE: F) and General Motors (NYSE: GM GM ) and overvaluing them at Tesla (NASDAQ NDAQ : TSL TSLA A).Â
In addition, as London Business School Professor Alex Edmans explains, people are a companyâ€™s most important asset, but people are not listed on the balance sheet: instead, US GAAP, the accounting standard adopted by the US Securities and Exchange Commission (SEC), deems people an expense.
Efforts like Harvard Business Schoolâ€™s Impact-Weighted Accounts Project are underway to overhaul financial statements to make them more relevant to todayâ€™s knowledge-driven economy and shareholder value-creation environment, but broad-based implementation will take time.Â As pressure mounts for traditional accounting to modernize and as regulators craft sustainability disclosure requirements, investors can capitalize on inefficiency and enhance risk-adjusted returns by accurately valuing each component of intangible assets.Â This article, the first in a series on pricing sustainability-related intangibles, focuses on the harnessing wellbeing of corporate workforces to drive risk-adjusted returns.Â
Employee health and safety has historically been material for nine of the Sustainability Accounting Standards Board (SASB)â€™s eleven sectors and has become important across the board due to COVID-19.Â This change is a concept called dynamic materiality.Â
Employee illness, regardless of the cause, reduces productivity.Â When employees work through physical or mental illness, they are typically less productive.Â The pandemic also highlights that working while ill, often due to the systemic risks of inadequate sick leave or inadequate health insurance, can increase workplace transmission.Â Mitigating these systemic risks should enhance market-wide risk-adjusted returns and is therefore part of the duty of care.Â Moreover, when employees are too ill to work, employers bear the costs of recruiting, training, and compensating replacement workers and potentially receiving lower quality or quantity of work from them.Â Â Â
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One study quantified the cost per employeeâ€”not per sick employeeâ€”of various illnesses to American employers: $392 for hypertension, $368 for heart disease, and $327 for arthritis. Presenteeism costs, or the reduced productivity of working through illness, generated 18%-60% of total costs and in most cases exceeded medical costs.Â More broadly, another study developed a Worker Productivity Indexâ€”which included the costs of presenteeism, absenteeism, and disabilityâ€”and showed that as the number of health risk factors increased, productivity decreased.Â
Adjusting firm culture to enhance employee health generates rich returns.Â According to Harvard Business Review, recent research identifies workplace culture is the biggest roadblock to employees feeling healthier and happier.Â
According to University of Massachusetts research, fourteen workers die every day, and exposure to toxic agents sickens or seriously injures over 4 million per year.Â According to the WHO, the safest enterprises are the most competitive, and effective occupational health and safety measures can improve firm performance. Â More broadly, Industrial Accident Prevention Organization data indicates that workplace injuries cost American businesses $150 billion in direct and indirect costs, exceeding the combined profits of the 16 largest Fortune 500 companies.
Employee trust in their employers to provide a healthy and safe workplace reduces absenteeism and strikes, like the ones that erupted among essential workers this past spring.Â Clear communication also helps.Â Recognizing these dynamics, institutional investors have been encouraging companies to prioritize employee health and safety through efforts like the Investor Statement on Coronavirus Response.Â
Mental health is an integral part of health, and the COVID-19 pandemic has brought the issue of mental health into sharp focus.Â Pre-pandemic, the Lancet Commission reported that mental disorders were rising in all countries and projected to cost the global economy $16 trillion by 2030, and the Centers for Disease Control and Prevention (CDC) estimated that depressionâ€”the leading cause of disability for individuals aged 15 to 44â€”caused 200 million lost workdays in the US each year at a cost to employers of $17 to $44 billion.Â
The pandemicâ€™s toll on mental health only increases these estimated costs.Â 40% of respondents to a CDC survey in June 2020 reported struggling with mental health or substance abuse.Â The prevalence of anxiety and depression tripled and quadrupled year-over-year to 25.5% and 24.3% from 8.1% and 6.5%, respectively.Â
In addition, workers struggling with work-life balance demonstrate up to 13 times as much absenteeism and have a 2.3 times higher intention of quitting.Â Recent school closures have only amplified these struggles.Â
â€œAs mental health issues spike, even institutional investors are pushing companies to address them,â€ Wachtell, Lipton, Rosen & Katz Partner Sabastian Niles explains.Â â€œBritish asset managers Janus Henderson and CCLA Investment Management in particular are strategically engaging with companies on employee mental health. Other investors are accelerating doing so too, whether within a human capital management and corporate culture lens or as a standalone priority.â€Â Janus Hendersonâ€™s strategic engagement affirms the correlation between corporate wellbeing and mental health policies and higher employee retention, a favorable work culture, and a more resilient workforce.Â CCLA is building a mental health investor coalition and launching a benchmark on the management of employee mental health in large companies.Â The CCLA Mental Health Benchmark assesses manager training to provide mental health support to their teams, promotion of mental health awareness among employees and contractors, and efforts to incorporate mental health safeguards in job design.
Companies that invest in employee mental health reap attractive rewards: studies show that every $1 spent on evidence-based care for depression and anxiety returns $5.
Paid Family Leave
New research on the adoption of state-level Paid Family Leave (PFL) acts in the US between 2002 and 2018 demonstrates that requiring firms to provide paid leave to employees for medical or family events increases productivity by 4.6%.Â Previous research demonstrated that these laws increase female workforce participation, but this study broke new ground by connecting PFL to enabling the growth of the female talent pool to affect firm performance.Â Specifically, providing PFL allows firms to reduce costly employer turnover, increase productivity, and nominate more women to executive positions.Â
More significantly, the study was able to establish causation, rather than simply correlation, both by comparing workplaces in counties contiguous to state borders with workplaces in in adjacent counties on the other side of the state border and due to the mitigating effect of the staggered timing of the PFL acts in different states on the stage of the economic cycle.Â
Although providing paid leave to employees can be costly during the employeesâ€™ absence, employee benefits help recruit and retain highly qualified employees, which may be critical during expansions, when there are tighter labor markets, and in more competitive sectors.Â Indeed, during expansions, strong employee relations reduce new issue bond yields.Â
If the findings of this study that providing PFL has a net positive effect on firms are widely disseminated to CEOs and replicated in other studies, over time, firms should want to take the accretive step of voluntarily provide paid leave, thereby making PFL laws unnecessary.Â
Other dimensions of worker wellbeing include a broader range of benefits than simply paid family leave, and factors like employee engagement also contribute to the value of a companyâ€™s workforce.Â These too are areas where investors can enhance risk-adjusted returns and drive positive social impact.Â
The propulsion of the regulatory tailwinds under the Biden administration will soon be underway.Â While market inefficiencies still remain, investors can advance the wellbeing of corporate workforces and increase risk-adjusted returns.Â Health is indeed the greatest wealth.Â
Note: As a grateful Harvard Business School alumna, I in no way suggest that it is impossible to study the relationship between employee wellbeing and firm performance at Harvard Business School today.Â Sustainable investing is a new and dynamic field, and the school has done considerable groundbreaking research since my matriculation over fifteen years ago.Â