February 12, 2019

How Much Does a Bad Hire Really Cost? 4 Simple Formulas to Figure It Out.

cost of a bad hire

Bad hiring decisions are the most expensive mistake you can make. Use these simple formulas to assess the damage and save your business a ton of money down the road.

Nothing's more disappointing than realizing the person you thought would be your next superstar isn't even a one-hit wonder.

Deadlines come and go, customers start asking questions and your already stretched-thin top performers are forced to step in and pick up the slack, coming one step closer to full-on burnout.

According to a 2015 survey, 46% of all new hires are deemed failures by the 18-month mark. And unlike a bad haircut, a bad hiring decision can ruin you.

We've compiled a list of proven ways to find out exactly how much money your business is losing with every hiring misfire. Because if you want to devise a solution, you need to get a grip on the problem first.

The cost of a bad hire: what the stats say

If you've spent any amount of time googling this topic, you've probably been hit with a range of anxiety-inducing estimates, including the following:

  • The cost of a bad hire can reach up to 30% of the employee's first-year earnings — US Department of Labor
  • Bad hires cost $240,000 in expenses related to hiring, compensation and retention — The Undercover Recruiter
  • 74% of companies who admit they've hired the wrong person for a position lost an average of $14,900 for each bad hire — CareerBuilder

These numbers are nothing if not alarming, but do they really apply to your business?

The following plug-and-play formulas will help you know for sure.

Here's what you should really measure

For those of us in SaaS, the un-trackability of HR can be pretty annoying. When we want to know our customer acquisition costs, we simply tally up last month's marketing and sales expenses, divide that by the number of new deals and boom! We're done.

But if you want to know what it costs for your growth team to be walking around like disengaged zombies all day, then, yeah...that's a little trickier. Unlike widgets, cart conversions or monthly recurring revenue, it's tough to put a hard number on human behavior.

And despite the widely-cited stats, the real cost of a bad hire is always going to be a little different depending on your business. Here are a few simple formulas to help you figure it out.

Formula 1: Time spent on hiring activities

You can't afford to spend days or weeks of your time sourcing, interviewing and onboarding new team members, only to have to fire them later. 🤦

To figure out exactly how much money you're losing due to the amount of time spent on a bad hire, start by identifying all the members of your hiring team. Let's say you have 1 departmental head, 2 members of your HR staff and 1 CEO who are involved in every hire.

Next, determine how many hours per week each person spends on hiring-related tasks. For example, a member of your HR team might spend 30 hours of their week on recruitment and hiring activities. Now all you have to do is multiply that number by their hourly rate and voila!

30 hours per week x $20 per hour = $600 per week

With this info, you can start looking into tools to help reduce the workload and make better hiring decision faster. For example, a solid applicant tracking system (ATS) could reduce the hiring workload by 30% or more.

Formula 2: Revenue per employee

This next metric is a BIGGIE.

Home-run hires can save you a ton of money in onboarding and retention costs and of course, high performers are great for your bottom line.

But how can you break that down into hard numbers?

First, check your company's year-end financial report (or SEC report if you're publicly traded) for the revenue per employee. Multiply that number by 40% to get an estimate of the profit margin per hire.

Let's say your revenue per employee is $200,000. With the average profit contribution of 40%, each employee brings in approximately $80,000 per year.

But employees in the top 25% of the talent pool tend to bring in at least an extra 25% in profit.

So, where an average hire will bring you $80,000 in profit, a stellar hire will bring in a minimum of $130,000. In this example, that's a cost of $50k in lackluster performance from a not-so-hot hire. 😲

Formula 3: Cost of recruitment marketing

Let's say you're spending an average of $300 per month on advertising each open position.

If you have 10 open positions per month, that's a total of $3,000 on job ads alone.

Job advertising (A) = $300

Open positions (OP) = 10

A x OP = $3,000

But let's say you advertised for five similar positions just two months ago. If you have a system for automatically collecting and pre-screening applicants, you already have a pool of awesome talent to choose from.

Well done. You just saved 50% $1,500 per month because you decided to hang on to your recruitment leads instead of heading back over to the job boards for every new position.

If you use an ATS with an awesome reporting feature, make sure you're tracking which sources give you the best quality leads so you can stop wasting money sourcing candidates in the wrong places. 🙌🏾

Formula 4: Employee turnover rates

The impact of a bad hire on employee engagement and productivity is undeniable. It's also notoriously tough to measure.

One way that makes a lot of sense, is to take a closer look at your turnover rates.

Number of regrettable departures (ND) = number of employees x annual turnover percentage

Average cost of those departures (C) = cost of hiring + cost of onboarding and training + cost of learning and development + cost of time with unfilled role

ND x C = Annual cost of turnover

Let's say you're a 100 person company with a 10% annual turnover rate.

ND = 10

You spend $20,000 per person on hiring, $10,000 on each for onboarding, learning and development, and lose $40,000 in average lost productivity due to the time it takes to refill a role.

C = $70,000

Your annual cost of turnover would be approximately $700,000 (ND x C).

Yikes. 🙈

But if you're honest, doesn't this just confirm what you already knew?

A bad hire can taint your entire organization, make you question your leadership abilities and put the growth of your entire business at risk. But they don't have to happen as often as they do.

Use these formulas to see where you really stand with your hiring ROI, so you can start building something better.