Build or Buy? Promoting Internally vs. Hiring Externally
‘Do we build it, or do we buy it’ is a useless debate in the 21st century because you have to do both. It’s not whether you build or buy, it’s figuring out under what conditions you build or buy.
Boris Groysberg, Harvard Business School Professor
One of the first steps of succession planning is narrowing your focus and prioritizing which roles need to be planned for first. SIGMA’s Critical Roles Identification Questionnaire makes this step simple. Our template allows you to systematically identify positions that are critical to the success of your organization. It also lets you map out how long it would take your team to prepare an internal candidate versus finding an external candidate to fill the role. As you complete this worksheet, you may find yourself wondering whether it’s better to promote internally or hire externally. In this article, we’ve taken a look at both.
The trade-off between promoting internally and hiring externally closely resembles the debate around whether it’s better to build or to buy. The benefits of building vs. buying have been weighed in nearly every industry, from software and manufacturing to education and real estate. HR is no exception. The great debate when trying to fill new roles or replace lost talent is whether companies should promote internally or hire externally. In general, best-practices recommend developing a strong talent pool and leveraging it to promote internally, but there is also a time and a place for hiring externally.
The Trend
Before examining when to promote internally or hire externally, let’s take a look at the current trend. Fifty years ago, less than 1 in 10 CEOs was hired externally. This number has risen dramatically to almost 1 in 3 today. On average, 20-30% of all boards are replacing outgoing CEOs with external hires, but they don’t seem to be doing it for the right reasons or in the right way. [1] Let’s look at the facts:
- A study of investment companies showed that firms are paying 18-20% more for external hires compared to the cost of internal promotions to similar positions[2]
- Compared to internal hires, the same external hires who received more pay were also given significantly lower performance evaluations during their first two years on the job2
- External hires need more time (sometimes up to 24 months) to become as productive as internal hires to similar positions[3]
- CEOs recruited externally tend to underperform compared to their internal counterparts, delivering lower market-adjusted shareholder returns in 70% of subsequent years1
While there are definite benefits to hiring externally, clearly there’s an issue with how it’s being done today. So, let’s take a look at when to hire internally vs. externally and how to go about both.
Benefits of Building
Among the greatest benefits of hiring internally is the notion of team members progressing into positions of leadership and authority. A climate of promotion increases team performance and fosters morale. Employees are much more likely to invest in their work if an organization invests in them. Studies have confirmed that perceived investment in employee development is positively associated with both job satisfaction and commitment to an organization.[4] This means employees in companies that promote from within are staying longer, working harder, and performing better.
Hiring internally is not only good for individual performance, it also influences teamwork and interpersonal relations. People are much more likely to refer others for promotion when their own career has grown in an organization.2 This means people are building each other up rather than tearing each other down in an effort to ‘climb the ladder’ themselves. Not only that, the job satisfaction associated with development opportunities is conducive to more positive and productive team environments and generally related to better employee morale.
Benefits of Buying
Now, before you start thinking that internal promotion is exclusively preferential to hiring externally, let’s highlight a few reasons why the opposite may be true:
- Hiring externally allows you to bring more people on board if the organization is expanding
- External hires bring new perspectives from outside sources
- When filling a leadership position, external hires are a neutral party that have fewer pre-existing biases or preferences for internal departments or subordinates
Clearly it is important for organizations to develop a leadership pipeline and invest in building their internal pool of talent. However, there are some cases where a well-established team with a mature succession planning process may still need to bring new staff on board from an outside source.
At the end of the day, there’s nothing wrong with hiring externally as long as it’s used as a tool for building your organization rather than a crutch to keep it from falling down.
A Note on Talent Magnets
A commonly cited reason for why companies hire externally is that they’re looking to acquire top talent. That talent, however, doesn’t always stay. On average, external hires have a 21% higher voluntary departure rate than internal hires.3 Rather than acquiring talented staff and losing them again shortly after, we recommend focusing on establishing a culture that attracts and retains talented individuals for you. Invest in a plan for internal promotion and demonstrate opportunities for development. These practices create a positive feedback loop where talented individuals come, stay, and attract more talented individuals for you. This process is called creating a ‘talent magnet.’
When to Build and When to Buy
Here’s a short breakdown of which situations lend themselves better to internal promotion, and which ones may require you to look outside:
How to Build
When we talk about building and buying, it’s easy to forget that building takes both effort and time. To promote internally, you need to invest in a process that will get your employees ready for promotion. Further, hiring internally for one role inevitably creates a gap in the next. That’s why internal promotion demands a system of ongoing employee development, and it’s this system that lies at the crux of succession planning.
Succession planning is how organizations can establish strong leadership pipelines that feed into every critical role in the organization. This process establishes internal talent pools and leadership benches. These benches allow you to promote internally, fill subsequent gaps, and develop your next generation of leaders. It also helps you to identify situations where external hiring may be appropriate.
Ready to Get Started?
Are you ready to build your talent development process? Not sure where to start? SIGMA offers custom succession planning, consulting, workshops, and resources. Take a look at our services here, or contact us below for more information on how we can help your leaders build talent and prepare your team for tomorrow.
[1] Harrell, E. (December 2016). Succession Planning: What the Research Says. Harvard Business Review. https://hbr.org/2016/12/succession-planning-what-the-research-says.
[2] E. Krell. (January 7, 2015). Weighing Internal vs. External Hires. SHRM. Retrieved from https://www.shrm.org/hr-today/news/hr-magazine/pages/010215-hiring.aspx.
[3] PTC. (July 23, 2015). Pros and Cons of Hiring Internally vs Hiring Eternally. PTC. Retrieved from https://www.ptcrecruiting.com/pros-and-cons-of-hiring-internally-vs-hiring-externally/#:~:text=External%20hires%20generally%20receive%20higher,departure%20rate%20then%20internal%20hires.
[4] Lee, C.H., & Bruvold, N.T. (2010). Creating value for employees: investment in employee development. The International Journal of Human Resource Management. Retrieved from https://www.tandfonline.com/doi/full/10.1080/0958519032000106173?casa_token=KhrG7OsV3UoAAAAA%3AS4p9b8mAOoLu59s4x0pxWoNFRwdnQshbT3ISOA5dTaP13YN8etrCHoQV3-_hhNxF_NPqwkkGfely0w. https://doi.org/10.1080/0958519032000106173.