why external hires get paid more, and perform worse, than internal staff

7/29/2019 Why External Hires Get Paid More, and Perform Worse, than Internal Staff

1/13

Why External Hires Get Paid More, and Perform Worse,

than Internal Staff

Published: March 28, 2012 in Knowledge@Wharton

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Here is some research sure to rankle every employee who has applied for an internal promotion

and been passed over in favor of someone brought in from the outside.

According to Wharton management professorMatthew Bidwell, "external hires" get significantly

lower performance evaluations for their first two years on the job than do internal workers who

are promoted into similar jobs. They also have higher exit rates, and they are paid "substantiallymore." About 18% to 20% more. On the plus side for these external hires, if they stay beyond

two years, they get promoted faster than do those who are promoted internally.

"Most jobs are entered into through a variety of different routes, sometimes by being hired from

the outside and sometimes by moving up from inside the firm," says Bidwell. "I was curious asto what the effect of these different routes would be" on an individual's job performance. His

research is presented in a paper titled, "Paying More to Get Less: The Effects of External Hiring

versus Internal Mobility."

The issue has significance for organizations, Bidwell says, as they think about where they sourcetheir employees, especially higher-level ones. Do they "grow their own" or do they go out into

the job market and hire outsiders? "My research documents some quite substantial costs to

external hires and some substantial benefits to internal mobility," he notes.

Getting Up to Speed

The context for Bidwell's research lies in the increased mobility of workers over the past threedecades as companies have turned away from offering lifetime employment in favor of relying

on the external labor market to find experienced workers at all levels of the organization.
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By comparing internal mobility and external hiring processes -- looking specifically at

performance and pay -- Bidwell's research can help employees learn more about "the

consequences of their career decisions," including the tradeoffs that characterize internal andexternal mobility, Bidwell writes in his paper.

Some of those tradeoffs are easily identified. In noting that external hires need about two years"to get up to speed" in their new jobs, Bidwell suggests it is because outsiders need that amount

of time to learn how to be effective in their new organization -- specifically, how to buildrelationships. Meanwhile, the risk of failure is substantial. Although external hires are paid quite

a bit more than employees promoted into similar jobs, "this is not a free lunch for the external

hires," he says. "There is a much greater risk of being let go during those first few years, mainlybecause they may not develop the necessary skills and thus will not perform as well as expected.

Then, too, they might decide to leave voluntarily."

While doing his research, Bidwell noted one particular difference between the external hires and

those already in the company who are being promoted. "People hired into the job from the

outside often have more education and experience [than internal candidates], which is probablysome of the reason they are being paid more," he says. "When you know less about the person

you are hiring, you tend to be more rigorous about the things you can see" -- such as educationand experience levels listed on a person's CV, or what Bidwell calls "externally observable

attributes." And yet "education and experience are reasonably weak signals of how good

somebody will be on the job, he notes.

Those tradeoffs might help explain why external hires earn so much more than internalemployees promoted into the same jobs. If these hires have better resumes and are perceived as

able to get a job more easily outside the company, then they can demand higher pay than internal

people. Hires may also want higher pay to reflect the unfamiliar environment that they face on

coming into a new position. Hiring managers confirm that they typically pay 10% or 20% moreto pull people out of positions "where they already have some security and where people know

them and know they are doing a good job," Bidwell says.

He acknowledges that his research may frustrate an organization's in-house workforce. "It issadly the case that being more marketable, as external candidates are, is always going to be

valuable and will generally lead to higher compensation. So the question is, should internal

people threaten to quit to raise their pay?" It's well known in academia, for example, that the onlyway to get a significant pay raise is to nail down an outside offer, Bidwell notes. "But in some

organizations, that's an easy way to get fired. People will take it as a signal that you are disloyal."

Bidwell offers this career advice: "If you like where you are, stay there. Or at least understand

how hard it can be to take your skills with you. You think you can go to another job and performwell, but it takes a long time to build up to the same effectiveness that you had in your previous

organization. You need to be aware that often your skills are much less portable than you think

they are." Bidwell is clearly a fan of internal mobility. "While the pay may be less, yourperformance is better, and there is more security."

'Let's Make a Deal'


3/13

For his research, Bidwell analyzed personnel data from a U.S. investment banking division from

2003 to 2009. In that study, he documented twice as many internal promotions as external hires.

Investment banking, Bidwell writes, represents "an interesting context in which to study theeffects of internal versus external mobility [because] organizational performance often depends

on the skills of the workforce, [thereby] increasing the importance of personnel decisions." In

addition, workers in banking are "notoriously mobile, making this a context in whichorganizations regularly engage in external hiring at all levels."

One important feature of investment banking jobs is that promotions tend to involve some

measure of continuity with the prior job. Promotions often involve getting a higher title, such as

vice president or director, while continuing to do similar work. In fact, as Bidwell notes,promotions in many organizations do not instantly lead into a very different job. Instead,

responsibilities increase gradually, being recognized over time by a promotion. When

considering their future staffing needs, though, organizations still must think about how they willacquire the workers capable of operating at the higher levels: Will it be by hiring or promotion?

Bidwell found similar patterns for different kinds of jobs and within different organizations. Heanalyzed separately the investment professionals (traders, salespeople, research analysts and

investment bankers) and the support staff at the research site. His findings about pay andperformance were consistent across those groups. He also looked at another investment bank and

a publishing company, and found the same results of "paying more for external hires while

giving them lower performance ratings."

He concludes, however, that the nature of the promotion mattered. Unlike other promotedworkers, those who were simultaneously promoted and transferred to another group did not

perform any better than external hires. Bidwell speculates that "the skills that are important to

our jobs may be very specific to the positions that we are in. Even large changes in the nature of

jobs within the organization were associated with performance declines."

Yet overall, Bidwell says, external hiring has grown much more frequent since the early 1980s,

especially for experienced high level positions and especially in larger organizations. "It used to

be that smaller organizations always did a lot of outside hiring while big ones focused more oninternal mobility. But now the pendulum has shifted toward external hiring and away from

internal mobility for large organizations as well.

"Companies should understand that it can often be harder than it seems to bring in people who

look good on paper," says Bidwell. "In addition, there is a suspicion that 'the grass is alwaysgreener' attitude plays a role in some companies' desire to hire from the outside. Managers see a

great CV and get excited about playing 'Let's Make a Deal,' even when it's hard to know what

weaknesses the external hires bring with them."

On the other hand, "to promote more people internally also means that companies need to have along-term perspective and know how big a pipeline of people will be needed in the future," notes

Bidwell. It also requires managers to ensure that internal people are aware of the opportunities

open to them. "Finally, there are clearly some costs to internal mobility -- for example, the costof training people in-house versus piggybacking on someone else's training."


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Another variable in the mobility equation, he adds, concerns non-compete clauses which tend to

complicate the movement of employees between competing firms. "Although these have not

always been so salient in investment banking, non-compete agreements have becomeincreasingly important in many states and many jobs, particularly in areas like technology where

employers can plausibly claim that employees will take critical competitive knowledge with

them."

'Involuntary Exits'

In his paper, Bidwell argues that the differences between internal and external mobility all

ultimately stem from two factors: the skills workers bring from their prior jobs, and the amount

of information that firms and workers have about each other.

He comments on the significant amount of new knowledge that external hires are required tolearn, even in those jobs that demand "high levels of general skills, such as securities research,

scientific research and surgery.... Although such work depends on individual workers' skills and

knowledge, it can also require intense coordination with others in the organization." Becauseinternal movers have longer experience within the firm, "they are likely to have already acquired

important firm-specific skills that new hires will lack," Bidwell writes.

In terms of the process that takes place when firms and external employees are eyeing each other

for a possible matchup, Bidwell writes that the task can be difficult because each side often has"highly incomplete information about each other. Firms struggle to evaluate the true qualities of

applications, and workers struggle to know which of the jobs available will best suit their

preferences and abilities." But, as Bidwell notes, companies obviously have more informationabout internal job candidates, including how well they have performed in prior roles and how

well they fit in with the current organization.

Bidwell suggests that his paper "provides unique evidence on the value to firms of internal labor

market structures. Results show that internal mobility allows the firm to staff higher-level jobswith workers who have better performance but are paid less." By detailing the strong advantage

of internal mobility over external hires, he adds, "these findings help to explain the continued

resilience of internal labor markets in the face of pressures for worker mobility."

Additional Reading

Ranking Employees: Why Comparing Workers to Their Peers Can Often Backfire:

Knowledge@Wharton

Should Performance Reviews Be Fired? Knowledge@Wharton
http://knowledge.wharton.upenn.edu/article.cfm?articleid=2567http://knowledge.wharton.upenn.edu/article.cfm?articleid=2567http://knowledge.wharton.upenn.edu/article.cfm?articleid=2760http://knowledge.wharton.upenn.edu/article.cfm?articleid=2961#tophttp://knowledge.wharton.upenn.edu/createpdf.cfm?articleid=2961http://knowledge.wharton.upenn.edu/printer_friendly.cfm?articleid=2961http://knowledge.wharton.upenn.edu/article.cfm?articleid=2567http://knowledge.wharton.upenn.edu/article.cfm?articleid=2567http://knowledge.wharton.upenn.edu/article.cfm?articleid=2760


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+5

theglobalroundhouse 47p 33 weeks ago

Interesting. Insightful. This article delves into an HBR article on "plug 'n play" hiring; hiring

externally, someone who can hit the ground running. The author of that article says "plug 'nplay" is not advisable and this article examine why. Great cross reference. Wish I wasn'tresponding via my phone and could pass along the link.

Must be a morale killer for internal employees to know external hires earn so much more. Seemsto demonstrate a profits over people strategy (implicit) used by companies. Not good. I get the

sense, intuitively and from the reading I do, people are tired of this. They want dignity (at least)

in the workplace and to know their efforts are meaningful.

ReportReply

1 reply active 22 weeks ago

+1

Nicola Stratford 33 weeks ago

Something for all firms and organisations to note. I'm going to share this around, especially with

my union, so they can add to the research about the dangers of casualisation of the workforce andthe emphasis on consultants, too.

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Reply

+2

Martha 33 weeks ago

Anecdotally, I have seen new hires motivated to get up to speed quickly while bringing a fresh

perspective on how things could be done better, whereas existing employees can be lazy aboutmaking new connections and take a 'this is how we do it' mentality into whatever role they get
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promoted into, rather than looking for innovation. And, in my experience, it's rare to see an

existing employee willing to challenge the system, whether in deference to their colleagues, not

wanting to stand out, whatever. So contrary to your study, I've seen new hires who were muchmore productive, and much more valuable, to organizations.

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Reply2 replies active 29 weeks ago

+3

Martha 33 weeks ago

Also, performance reviews tend to favor compliant behavior. In other words, existing employees

who have proven their willingness to not rock the boat.

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Reply

+2

Alan Overton 33 weeks ago

Nicely written. There is a related issue that I believe should also be considered. Internal hiresbring competence in company systems and procedures, but less new knowledge. What internal

hires know may be embodied in organizational structures and processes already, and therefore

their competence can be recreated. I believe that organizations instead may seek to benefit fromthe cross pollination of internal and external ideas and that the benefit of this does not wholly

inure to the department. This would explain 1) the observed predilection for external hiring in

many corporations as a tacit or explicit organizational policy, 2) the premium salary paid to

external hires (both to compensate for the risk of moving and to reflect the higher value of newknowledge and perspectives to overall firm objectives), as well as 3) the observed tendency of

poor performance reviews for external hires, which may reflect the Darwinian friction between

perspectives becoming personalized between employees and managers who do not directlybenefit from, and may actually feel threatened by the larger organizational strategy. Greater

communication of corporate objectives and reasoning might make these hiring scenarios less

disruptive. However, if the organization can predict the amount of time it takes to harvest newknowledge for incorporation into their own systems, the lack of stability experienced by either

the existing department or the newly hired personnel may represent a calculated cost that they

choose to bear.

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+2

Reem Y 33 weeks ago
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7/13

I think the reason internal employees moved to another department do not outperform external

hires is not so much a need for new skills as losing their key asset: knowledge of the people

around them. You could count understanding the corporate culture and knowing how to work inthe company as a skill. But knowing who to turn to for what information (and whom to avoid),

having a mental map of the people around you, that's priceless knowledge. I think that's what

makes the internal hires more efficient and what handicaps the external ones. And it's notsomething a new hire can find out through research or reading. It takes time.

Report

Reply0

Barry Ackerson 33 weeks ago

The lower performance for new hires and employees promoting to a new department is not

surprising because it takes time to develop new skills. In the learning and development field this

is known as the "J" curve of performance development. How long does it take for a newlypromoted employee to develop the skills, knowledge, and abilities of a current incumbent? How

does the organization support and encourage the development of new skills and knowledge?

Also, I did not notice anything about the objectivity/bias of the rating system used. Could the

expectations of the external hire be greater than the internal hire?Report

Reply

1 reply active 33 weeks ago

+2

Kenneth Armitage 33 weeks ago

A report from the Association of Business Recovery Professionals (ABRP) some years ago

suggested it was bad management, poor or weak leadership, clear lines of responsibility andaccountability and a combination of poor financial management and planning, that accounted for

more than 60 per cent of business failures in Britain, although that might apply in other nations.

Because of the confused and often ineffective programme of fast-tracking individuals with paper

academic qualifications many of those placed in supervisory let alone management positions lack

actual hands-on practical experience of managing people, which is what management is

primarily about. This particular weakness is exacerbated when people are elevated, sometimesthrough nepotism or cronyism, too quickly up the management tree to positions of responsibility

and accountability for the actions and performance of others without knowing them and what

they do. This particular situation is exacerbated when someone is brought in from outsidebecause he or she has apparently been successful in another company when the facts do not

support the rhetoric, and one has to wonder if the person jumped before he or she was pushed or

if the company was only too pleased to lose them.
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However, the apparent inability to understand the complexity of jobs undertaken by employees at

the coal-face or on the shop-floor means that when programmes do not go as planned

directors and senior managers often outsource investigations and reports and look forrecommendations from management consultancies; and, these organizations are ones that tend to

be staffed with supposedly bright young things who have very little practical experience of

managing people and best management practice or understanding the businesses and culture ofthe companies they report on.

The result is a 'merry-go-round' of costly advertising and recruitment programmes that seesupposedly brighter people, often with inflated academic and professional experience, move

from one company to another to progress their careers and climb corporate ladders but without

actually contributing to and improving the performance and productivity of the companies they

join for short periods. In the end it all boils down to the character, attitude, communication andperformance of those brought in as to whether they will succeed.

It is not 'Education, Education, Education' but 'Training, Training, Training' that should be the

battle cry that must be applied to the process of training managers and also applied to the way inwhich companies are organized, structured and lead simply because the model of management,

organization, structure and leadership in some companies and organizations is not only jaded but,because of greed, sleaze and nepotism, is tarnished. As Peter F Drucker suggested, No

institution can possibly survive if it needs geniuses or supermen to manage it. It must be

organized in such a way as to be able to get along under a leadership composed of averagehuman beings.

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Reply

+1

Andrew McFarland 33 weeks ago

Paid more

Companies trying to maximize profits will always tend to pay less for their existing team if theyview that resource as "stable". When a companys actions give the impression that internal

employees are valued less, turnover naturally increases which leads to an expensive cycle.

Instead, pay employees market competitive rates. If the talent market becomes more competitive,companies ought to do better than a 1% pay raise.

Perform worse

In addition to the who you know factor, lower efficacy could also be due to rating bias in favorof the "devil you know." Human nature favors the familiar and is threatened by the competent.

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Reply+1

Kint 33 weeks ago
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9/13

The authors said it, moved along, and apparently never noticed it: "get significantly lower

performance evaluations". So not lower performance, lower evaluations. Take note, because an

outsider will always need time to settle in and be accepted in an organization.

On the author's point, the HR departments in their endless incompetence indeed look for what

they "can" see, such as education and crap written in resumes, and fail to see what people withreal jobs can see, such as how good a person may be for the position.

Report

Reply0

Carmel 33 weeks ago

This is very common in all organisation, it depends on the requirement like

skill,knowlege,experience,competency,talent. Yes partially internal staff might be demotivated,

but it also depends on lack of time for training the internal source for it and the emergency of thesituation. Either the company should spend time in training the internal staff or already have a

good Internal staff which avoids the organisation to hire External hires.Report

Reply

+1

Thomas 33 weeks ago

There is in my experience also an infatuation with politicians with bringing in outsiders from the

private sector to run Government departments who frequently struggle with the political

complexities and constraints in the public sectorThis extends to preferring the advice of external consultants over in house public servants,when

the consultants ,no fools , simply interview all the public servants and synthesize their views

based on experience to advise governments who pay them big money for the adviceReport

Reply

+1

yasin 32 weeks ago

this means that companies continue to work with internal staff and have an aging work force

external employees also bring in fresh ideas into the organisation while the old timer's are the

most resistant to changehaving a healthy mix is always good

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10/13

0

Chandra Kant Saran 32 weeks ago

A good, thought provoking article.However, I have a different view in the matter.

Out of my experience, I have found that external hires are very good at challenging the status

quo. This is essential to bring the existing employees out of their comfort zones to respond to thenew challenges. This contributes in keeping the organisation's fabric 'fresh'. New avenues of

smart working is evolved and adds up to growth and sustainability of the business.

The performance of the external hires is not comparable with the internal staff, as only apple toapple should be compared. The external hires face more than obvious road bumps as they adopt

non-con-formative style of functioning, causing perceived loss of credibility within the internal

staff.

We do need to embrace change that the businesses demand and it may come through external

hires / Consultants.Report

Reply+1

JeffreyAllenMiller 32 weeks ago

I thought that my strategy was extremely old fashioned until reading this post. I have been tryingfor more than a year to secure an ''entry level'' internal communications job while recruiters are

pushing me to apply for a director-level or vice president roles. I've managed, by this point in

time, to piece together hiring managers' excuses -- they think that I'm way over qualified and that

my salary requirements would blow their budget.

How does one say "wrong'' on both?

This article supports my philosophy of promote from within and hire out to replace that lower-

level opening. Salary means nothing to me -- I trust my skills enough after 20 years to know for a

fact the pay scale will improve in time.

So, why isn't corporate HR on board?

Report

Reply-1

Paul Basile 32 weeks ago
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11/13

There is no inherent logic in the notion that external people are less capable than internal people

(in EVERY organization?) To think there is mirrors Lake Wobegon where "all the children are

above average". The real problem with the performance of external hires is that recruitmentprocesses are broken. External people are - of course - perfectly as capable as internal people, but

selecting the right ones is done so consistently poorly that, voila, it appears that external hires are

less capable than internal people. We can know just as much about external candidates asinternal and, equally important, we can use that information to make high-likelihood predictions

of future performance. But all too often, companies do neither. If external hires underperform,

it's not the external-ity that is at fault, but the flawed processes that select them.Report

Reply

+1

@Chief_Connector 32 weeks ago

"The author's point, HR in their endless incompetence indeed look for what they "can" see, suchas education and crap written in resumes, and fail to see what people with real jobs can see, such

as how good a person may be for the position." - On point with Kint's statement.

We need more accessibility to structured interviews. It's time to move beyond resumes - groups

like www.hrmc.comand www.hireIQinc.comReport

Reply

+1

Kunal 32 weeks ago

This article clearly states the kind of biased attitude organisations hold for new hires. Although it

is a noticeable fact that hiring someone from outside is more costly than promoting someone

from inside the organisation yet, for the excuses like the external prospect has better education orexperience , he/she can bring a fresh thought on how to do things are given. It is highly

demotivating for internal employees who put their hard work and time in assisting organisations

to earn profits when they are bypassed for someone hired externally. I would like to give mysupport for "promoting the employees internally" thought . An existing employee has better

knowledge about the organisation, the work culture and people inside. Promoting internal

employees bring stability and loyalty in the other employees. It promotes a healthy working

environment, which in turn increase the employee satisfactions and we all are aware that if theemployees are happy the customers will be happy too.

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Ajitha 32 weeks ago

He is totally biassed towards int. .promotions. Not sure about his research validity

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Robert 32 weeks ago

For the good of the company, I believe that it is imperative to have a mixture of both. To alwayspromote internally lends more to doing the same things the same way with few exceptions. Still

at the same time, internal promotions normally get up to speed faster because they know the

company. External canidates bring fresh eyes and ears to the table, they are less tied to, "the waywe have always done it." Yes, they take longer to get up to speed but their strengths lie

elsewhere. The best system would be to have a diverse group based on the qualities that the job

requires.Report

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Rohit 32 weeks ago

This is the true story of all the Organization which does this. Organization always does this bias

to the prompt employees in the organization. When asked why this difference? we are working

on the same and soon the normalization on the packages will be shown.Report

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Ulki 30 weeks ago

Very interesting article, thought provoking.

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Darin 29 weeks ago

I am surprised about this article. I was a Contractor at a large company for several years, andwhile the Contractors make more money, it was very justified. It seemed to me that the majority

of Internal Employees move from one position to another without actually being qualified, and
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the Externals were hired at their position because they are very qualified. As a result, the

Externals did nearly all of the work, and had to teach the Internals how to do their job, especially

Managers because they move around more than anyone. I don't understand how other companiesthat hire Externals are any different.

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keen psychics 27 weeks ago

An existing employee has better knowledge about the organisation, the work culture and peopleinside. Promoting internal employees bring stability and loyalty in the other employees.

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@SalarySchool 26 weeks ago

My experience has led me to believe that his article, in conjunction with the previously

referenced HBR "Plug 'n Play" article are spot on. There is no denying that, in moderation, aninfusion of fresh ideas can add significant value to any organization. However, when an

organization has employees that have jumped through multiple hoops to show their value to the

organization, only to be denied promotions because a box on their skill set has not been formallychecked, it can create an unhealthy environment. Likewise, if the organization hires newcomers

that have all the right experiences (even if performance was sub-standard or not consistent with

the demands of the new company) then one may be setting themselves up for failure.
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why external hires get paid more, and perform worse, than internal staff

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