Beyond Performance: Does Assessed Potential Matter to Employees’ Voluntary Departure Decisions?

• Published date: 01 September 2023
• Author: CAROLYN DELLER
• Date: 01 September 2023
• DOI: http://doi.org/10.1111/1475-679X.12476

DOI: 10.1111/1475-679X.12476

Journal of Accounting Research

Vol. 61 No. 4 September 2023

Printed in U.S.A.

Beyond Performance: Does

Assessed Potential Matter to

Employees’ Voluntary Departure

Decisions?

CAROLYN DELLER ∗

Received 7 January 2020; accepted 1 January 2023

ABSTRACT

Firms are increasingly implementing performance–potential assessment sys-

tems, whereby supervisors evaluate employees’ current performance and

∗The Wharton School, University of Pennsylvania

Accepted by Christian Leuz. My sincere thanks to the research site for providing the data

for this project and to the individuals there who graciously gave their time throughout this

project. This paper is based on my dissertation, completed at Harvard Business School, and

was previously titled “Beyond Performance: When Potential Matters to Employee Career Out-

comes.” I am extremely thankful to my dissertation committee members—Dennis Campbell

(co-chair), Tatiana Sandino (co-chair), Robert Simons, and Eugene Soltes—for all their guid-

ance and support as well as to Chris Ittner for his immensely helpful advice on later revi-

sions to this paper. I appreciate comments and suggestions from an anonymous associate edi-

tor, an anonymous reviewer, Shannon Anderson, Chris Armstrong, Akash Chattopadhyay, Ian

Gow, Isabella Grabner,Tim Gray, Wayne Guay, Gary Hecht, Bob Holthausen, Anya Kleymen-

ova, Brett Lombardi, Michael Minnis, Natalia Mintchik (discussant), Sophia Poersch, Jee-Eun

Shin, Karl Schumacher, Dan Taylor, Sorabh Tomar, Marshall Vance (discussant), Christina

Zhu, and workshop participants at the University of Chicago, Emory University, Harvard Busi-

ness School, INSEAD, Tulane University, the University of Illinois at Urbana–Champaign, the

University of Notre Dame, the University of Southern California, the University of Pennsylva-

nia (Wharton), the 2017 AAA Management Accounting Section Midyear Meeting in San Juan,

the 2017 Spring Camp at Tilburg University, the 2017 AAA Annual Meeting in San Diego,

and the 31st Annual Accounting Research Conference in memory of Nicholas Dopuch at

Washington University in St. Louis. I gratefully acknowledge financial support from Harvard

Business School and the financial support received as a Dorinda and Mark Winkelman Distin-

guished Faculty Scholar for the 2022–2023 year. All errors and omissions are my own. An on-

line appendix to this paper can be downloaded at https://www.chicagobooth.edu/jar-online-

supplements.

981

© 2023 The Chookaszian Accounting Research Center at the University of Chicago Booth School of

Business.

982 c. deller

future-oriented potential (i.e., promotion prospects). Whether retention is

greatest for high performance–high potential (HiPo) employees under such

a system is an empirical question—while the “promise” of a promotion may

aid retention, these employees likely face attractive outside options. Using

data from a multinational firm, I find that HiPos generally depart at a lower

rate than lower performing non-HiPos. Among shorter tenured employees, I

find the strongest evidence that potential matters to departures, above and

beyond performance. In several instances, the rate of departure is lower when

assessed potential is higher, holding performance constant. This is the case

both among higher performers, where high potential leads to HiPo status,

and among lower performers where high potential affords no such status. My

findings suggest that HiPo status and potential ratings may help in facilitating

employees’ early sorting decisions.

JEL codes: J62, J63, M12, M40, M41, M51

Keywords: employee turnover; performance evaluations; promotions

1. Introduction

Firms often rely on internal promotions of employees rather than hiring

externally. These promotions can serve two functions. First, promotions

provide incentives when the likelihood of promotion increases with cur-

rent job performance, due to the rewards earned upon promotion, such

as increased pay and prestige (Gibbs [1995], Campbell [2008]). Second,

promotions can help sort employees when the firm uses them to match

employees to the jobs to which they are best suited (Baker, Jensen, and

Murphy [1988]).1If an employee’s current job and the next job require

the same skills and abilities, promoting based on current performance pro-

vides incentives and facilitates sorting. However, when jobs require different

skills and abilities, a conflict can arise.

Recognizing that divergences often exist between an employee’s current

job performance and their suitability for higher level positions, a grow-

ing number of firms formally evaluate employees’ current performance

(“performance” hereafter) and future-oriented potential (i.e., promotion

prospects). Assessments of potential capture an employee’s suitability for

higher level positions that is not (fully) reflected in current performance.

This may include leadership skills, skills needed in the next job but not in

the current one, and the extent to which the individual exemplifies com-

pany values (Corporate Leadership Council [2005], Beer [2009]). Evalu-

ating potential can help firms better manage their human resources and

avoid mistakes in promotions.2

1Theoretical research speaks to the importance of match quality, with employee productiv-

ity depending not only on effort, but also on the quality of the match between the employee

and the firm and between the employee’s skills and abilities and those required by a specific

job (e.g., Jovanovic [1979], Gibbs [1995]).

2When jobs at different levels require different skills and abilities, promoting employees

on the basis of current performance alone can give rise to the “Peter Principle,” whereby

employees are promoted to their level of incompetence (Peter and Hull [1969]).

beyond performance 983

In this study, I examine whether and how voluntary employee departures

relate to employees’ evaluations under a performance–potential system, fo-

cusing on potential in particular, after first testing whether supervisors use

the system as intended. Despite the widespread adoption of these systems,

popularized as the “9-Box Grid,” empirical evidence on their use and im-

plications is lacking (Cappelli and Keller [2014]).3Under these systems,

supervisors should distinguish between performance and potential. Promo-

tions should then reward high performance, high potential employees, or

“HiPos,” and sort them to higher level positions that match their capabil-

ities, while poor performers with low potential should become candidates

for termination. Although supervisors may misuse performance–potential

systems, the basic premise of how these systems should be used is subject to

little debate. What is subject to debate is what voluntary employee departure

patterns will be under a performance–potential system.

While promotion and termination decisions are made by supervisors act-

ing on behalf of their firm, voluntary separations are decided by employees

themselves. Prior studies show that promotions explain much of an indi-

vidual’s lifetime earnings trajectory and that employees adjust their effort

in response to promotion opportunities (Medoff and Abraham [1980],

Gibbs [1995], Campbell [2008]). Consequently, assessments of potential,

which should predict promotions, may influence employees’ voluntary de-

parture decisions, beyond performance. It is well established that employee

turnover, especially turnover of talented employees, imposes substantial

costs on firms (Holtom et al. [2008]). Thus, given the widespread use of

performance–potential systems, it is important to understand voluntary em-

ployee departures in the context of such a system.

Theory identifies two potentially countervailing forces central to volun-

tary departure decisions—perceived ease of movement and perceived de-

sirability of movement (March and Simon [1958]). By explicitly commu-

nicating potential, firms may incentivize HiPos to remain with the firm by

signaling their high likelihood of promotion to higher paid roles. Favor-

able promotion prospects, together with more immediate benefits of HiPo

status (e.g., more visibility, mentoring, etc.), should decrease HiPos’ de-

sire to move. However, these employees are likely to have attractive outside

opportunities, which should increase their perceived ease of movement.4

Moreover, their HiPo status could lead to heightened expectations per-

taining to, say, the timeliness of promotions or job rotations, giving rise to

3The 9-Box Grid is one widely used tool for simultaneously evaluating employees’ current

performance and forecasted potential. In a 9-Box Grid, employees are placed in a box in the

grid based on two criteria: (1) the employees’ overall performance (low, moderate, or high)

and (2) a subjective assessment of their potential for future promotion (low, moderate, or

high).

4Unless a firm is particularly idiosyncratic, there is likely to be overlap in the skills and

abilities desired by the current firm and those desired by firms in the same labor market

(Lazear [2009]).