Employees recommend (new) employees

Together with other researchers, economist Prof. Guido Friebel studied the introduction of an employee referral program (ERP) in a supermarket chain. The greatest effect lies in the company management’s increased appreciation of employees.

Employee referral programs (ERPs) were introduced in a controlled field experiment in some outlets of a supermarket chain (the “treatment group”). Higher referral premiums lead to more referrals but lower quality. Although its share of all hires is relatively small, the ERP’s overall effect is substantial. Staff turnover decreases by 15 percent, thereby substantially lowering personnel costs. This development is mainly the result of indirect effects: Employees in the “treated” supermarkets stay longer than in the supermarkets where there was no ERP. Employees appreciate being involved in the hiring of colleagues and feel respected by the company.

Link to the Paper

Available in the university library. Alternatively, you can send an email to: gfriebel@wiwi.uni-frankfurt.de)

UniReport: Prof. Friebel, the culture of employee referral programs is not yet so well known in Germany. Its roots can be traced to America, no?

Guido Friebel: Yes. In the US, employee referral programs are closely associated with the so-called “war for talent” – a situation we would refer to in a less martial manner as a shortage of skilled workers. In fact, ERPs only recently appeared here in Germany, as many companies ask themselves: how do I attract qualified people and how do I keep them? ERPs traditionally are used in very illiquid labor markets: imagine a specialized and tight labor market – petroleum engineers designing large offshore facilities, for example. The thinking of HR managers went something like this: Our employees operate social networks with similarly qualified people. Let’s ask them if they can recommend someone. If they succeed, the person who gave the recommendation gets a bonus. The bonuses were very substantial, equivalent to about one month’s salary and paid out once the person hired passes the probationary period. That ends up being cheaper than hiring a headhunter, whose services cost between 3 and 15 months of the hired person’s salary. What’s more, he or she may end up not going a better job anyway.

Doesn’t this also always give rise to a suspicion of nepotism?

There definitely exists a certain distrust when it comes to the principle of recommendation. However, our research shows that these reservations are unfounded. After all, you have to vouch with your own name that the people you recommend are capable – recommending a professional “loser” purely out of self-interest reflects badly on you.

Speaking about the program you studied: what exactly does the recommendation look like, how formalized is it?

We all know that in the workplace, jobs are very often communicated via networks. It would be absurd to assume that we are only hired on the basis of our qualifications and our own application, and sufficient research in the sociology of work exists to illustrate just this. Marc Granovetter heads the field with his works, prime among them “The Strength of Weak Ties”: it’s a great advantage to know people who can point you to a job offer. As part of our study, we developed a program out of this basic principle: Employees in the supermarket chain we studied were told precisely who could be recommended. They were asked to inform the HR department, provide the name of the person recommended and specify for which supermarket he or she is recommended for. When applying for the job, the person explicitly mentions the recommendation. HR representatives then take a look at the person in question. The bonus for the recommendation is only paid once the newly hired person has passed the probationary period. The process is both highly organized and transparent.

Can you say something about your approach?

In a way, what we did was conduct an open-heart study at a large company in the northeastern EU that was suffering from recruitment problems and high employee turnover. We used a research design known from clinical studies: the so-called randomized controlled trial (RCT). The logic of these field experiments is based on forming a comparison group that is statistically identical to the treatment group. In medicine, one group is administered an antibiotic to treat a respiratory infection, while the other is simply given a placebo. Any observable change in outcome, i.e. the disappearance of the infection, is based on the intake of an antibiotic, and thus directly attributable to the intervention, and nothing else. Following this logic, some of the supermarkets we studied acted as a “treatment group”, in which the employee referral program was applied. For comparison purposes, we used another group of supermarkets – about a quarter of those we examined – in which employee referrals were not an option. We are not the first to apply this method in economics. Abhijit Banerjee, Esther Duflo and Michael Kremer, among others, have received the Nobel Prize for their RCTs on poverty alleviation in developing countries.

How did the program work?

Normally, only one out of four supermarket applicants is hired. However, where recommendations were given, the hiring rate rose to 85 percent. Of course, this result is open to different interpretations. Either the recommended employees are better than the other applicants, or it is a case of the supermarket trusting the recommending employees. Both instances require a leap of faith. Our formalized program provides more structure to the recommendation process than normal word-of-mouth recommendations. Incidentally, we also asked employees who knew about the program, but didn’t make any recommendations, why they abstained from doing so. Interestingly, we found that it was not so much the case of people worrying that someone in their network was not professionally competent. Rather, the dominant fear was that the job might prove too hard and too demanding – signaling that reputation to the network was more important than to the company.

In your paper, you refer to the great importance of the employee referral program’s “indirect effects”.

To me this is fundamental: A workplace is not simply the place that pays me for my work. I go to work because I value the environment, or leave it if I no longer like it. So, it’s also about the appreciation I receive for my work – which raises the question of how management can credibly convey respect. If you simply keep certifying to employees that they are doing a good job, then at some point no one will believe it. It is much better and more credible when the supervisor says, “You did a great job because…” However, providing a reason takes time and effort. The supervisor must therefore know why an employee has handled something competently. ERPs are an appropriate means of showing respect. Our study findings show that, even if staff knew about the opportunity to recommend someone but no recommendations were made, staff turnover drops in the treatment group. We find that people in the treatment group feel more respected because they were granted the right to recommend new employees. By doing that, management sends a signal that they believe in their employees’ good judgment. This is just one way of communicating respect. Another is “Idea Management”, formerly also known as the company suggestion scheme: A machine operator who sees an opportunity for improvement can submit it and receive a reward. As in the case of the employee referral program, this is also a way of showing respect. So, it’s not just about optimizing technical processes, but also about improving the work atmosphere.

All considered, however, this does not constitute an appropriate strategy for solving the skilled labor problem, does it?

No, not at all – only about 5 percent of new hires can be met with it. There is no way to cover the entire personnel requirement with ERPs. Although we also rolled out our program to highly qualified staff in production and logistics, 10 percent was the absolute maximum. Traditional recruitment channels remain relevant, especially in the segment of highly qualified employees; this is often where HR consulting firms can be encountered, looking for specific candidates on the Internet and bringing companies and employees together. That being said however, ERPs will definitely become much more important in Germany, too.

Questions: Dirk Frank