As difficult as it is to recruit high-quality candidates, it makes sense that your company should do everything it can to keep your employees around. This means that one of the most important metrics measuring your workforce is your employee retention rate.
Some level of turnover is natural and unavoidable. People retire. People have outside pressures in their lives that force them to move or quit. People get injured or sick and can’t continue to work. And, of course, people leave for greener pastures, no matter how green the grass is on your side of the fence.
Contrary to popular wisdom, the employee retention rate is not simply the inverse of employee turnover. The two are deeply related, but some considerations go into retention rates that are not factored into turnover and vice versa.
Defining Retention Rate
Employee retention rate is a percentage that measures how many employees stick with the company over a given period. Thus, to define retention rate, you need to define a unit of time. Retention rate can be measured over any period, whether it’s a month, a quarter, a year, or longer. Historic retention rates are important to monitor, so you can see if retention is going up or down over time.
Retention rates can be important for long-term measurement and short-term measurement. In the long term, you can measure from quarter to quarter or year to year, to see the impact of policy changes, cultural changes, new management, or other large-scale changes you make to your company.
In the short term, retention rate can show the impact of acute policies and changes, as well as external pressures. Most companies, for example, have very skewed metrics over the last year because of the coronavirus pandemic throwing the labor market into disarray. On a scale of a decade, it’s likely to be a blip on the radar. On the scale of a year or two, it’s a dramatic shift. Measuring retention rate in both scales helps you put the data into perspective.
As mentioned above, employee retention is not simply the inverse of employee turnover. If you have one position where an employee leaves, you hire a new one, they leave too, and you hire their replacement, you have two instances of turnover but only one position of lost retention.
The Basic Formula
Let’s take a look at the basic formula for retention rate. It comes in two parts.
Part 1: TE – EL = ER, where:
- TE: Total Employees at the beginning of your timeframe.
- EL: Number of those employees who left during the timeframe.
- ER: Employees remaining at the end of the timeframe.
You then use your calculated ER for part two.
Part 2: ( ER / TE ) * 100 = Retention Rate
This leaves you with a percentage retention rate, which can be above or below 100%, for the given timeframe.
There are two basic situations you can be in.
In the first situation, you have some turnover. Say you start at 100 employees, and five employees leave during Q1.
TE(100) – EL(5) = ER(95)
ER(95) / TE(100) = 0.95 * 100 = 95% Retention Rate
The second situation shows an increase in hiring with no turnover. Say you start at 100 employees, hire five more, and none of them leave during the timeframe.
TE(100) – EL(0) = ER(100)
ER(100) / TE(100) = 1 * 100 = 100% Retention Rate
You’ll note that hiring new employees does not subtract a negative number from the calculation. Hiring does not affect retention rate calculations. You need to measure employees who have been on staff for the entire period being measured.
This does mean that employees who are hired and bounce quickly do not reflect on the retention rate for that period. If you’re measuring Q1 retention rates, and have an employee who is hired and only stays on for three weeks before leaving, they do not add to the employees at the start and do not remove themselves from the number of employees at the end.
The reason for this is simple. You’re calculating retention, and retention doesn’t include those employees.
A more realistic example will include mixed numbers. Let’s say you’re a company with 36 employees on January 1. You hire five new employees in February. Two of those employees leave in March, as well as two employees who were with you originally. By the end of the first quarter, your company has 37 employees. Your calculation disregards the five new hires and only cares about the two long-term employees who left.
TE(36) – EL(2) = ER(34)
ER(34) / TE(36) = 0.94 * 100 = 94% Retention Rate for Q1
Now, your company in this situation has 37 employees at the start of Q2 for future calculations. Annual calculations for the year, however, will still consider 36 the starting point.
Factors to Consider for Calculating Retention Rate
Retention rate is outwardly simple, but there are several factors you need to consider or define for your calculations.
Choosing your timeframe. Perhaps the largest factor you need to define is the timeframe you’re using to calculate your retention rate. Common choices are monthly, quarterly, annually, and the fiscal year.
A shorter timeframe shows you more granular information. A monthly measurement gives you an idea of the effect of seasonality, of specific events in your business or industry, or the effects of policies, management, and other, similar-in-scope considerations.
For example, if your management implements a policy of oversight on employee productivity that is considered onerous, this can potentially hurt your retention rates in the following months. If you decide to cut your employee vacation time, you might also notice a change in your retention rate for that year.
Over a longer timeframe, you have less granular data, but a longer-term view of how your business is changing over time. Comparing quarterly retention rates for several years gives you an idea of how your business is handling its employees, its policies, and changes in industry and culture.
This also gives you reasonably useful data to see how your company handles major events. The Coronavirus pandemic and its related unemployment rates, for example, will be reflected more in annual retention rates than monthly rates. Systemic recessions, as well, are reflected more in larger timeframes.
Defining your headcount. It’s one thing for a traditional company to calculate headcount. Payroll in HR should have an accurate number at all times, after all.
Things get muddier in the modern world when you consider gig workers, part-time contractors, and other non-standard employees. If you have a freelancer on retention, but they haven’t done any work for you in Q1, do you count them?
Typically, anyone who isn’t a traditional employee on payroll is ignored for retention rates.
- As contractors, consultants, or freelancers, they are not solely employed by your company.
- With variable work, it can be difficult to define whether or not to consider them employed for headcount purposes.
This also means that a company can downsize its workforce in favor of gig workers, and it will reflect poorly on retention rates, even though the company itself may be thriving. This leads us to the next point:
Putting retention rates into perspective. Retention rate is just one metric out of many that tell us information about your business. You will also want to consider turnover rates, profit margins, sales, customer satisfaction, and so on. Downsizing and firing several employees may increase your profit margins, but decrease customer satisfaction. Is that good or bad? It depends on your company’s perspective.
Another way to put retention rates into perspective is by using them to benchmark your company against industry standards. There are many sources for industry-specific data. Typically, industry journals and HR agencies will publish annual statistics.
You can also segment your workforce. Consider:
- What is the retention rate in your company by age group? Do millennials stick around longer than Gen Z? Do boomers stick around longer?
- What is the retention rate for specific demographics? If you have significant turnover amongst minorities or women, you may want to look for hostile policies or environmental factors.
- What is the retention rate in each department? Is your sales team satisfied and sticking around, while your IT team has a high turnover?
- What is your average length of retention? This is a different, but related, calculation; how long do employees stick around? Retention rates don’t always reflect a slow but steady churn.
You can ask yourself questions like this to help analyze your situation. In general, a retention rate of 85% or more is considered good, though of course, this varies from industry to industry.
If a specific group of people has a low retention rate, such as women or minorities, you might consider checking into the company culture. A hostile work environment, especially one involving racism or sexism, can be bad not just for productivity and employee satisfaction but can open your company up to legal action.
Likewise, a low retention rate for specific departments might indicate an issue with policies, systems, or management. An IT department forced to work on outdated software with no leeway to improve might grow frustrated and leave, to use a common example.
Categorize employee turnover. Part of putting your retention rates into perspective is knowing when turnover is good or bad. Exit interviews are a key part of this.
Employees leaving because they’re retiring after a long and successful career is not a bad thing; employees leaving because they felt harassed or lack career progression is bad. In this way, you can categorize whether your retention rate is low for a good reason or a bad reason, and can take appropriate actions as necessary.
How to Improve Retention Rates
Retention rates can be improved, though they will rarely stay at 100% for very long. There are always factors outside of your control that force employees to leave, from starting a family to sudden death and everything in between. There are, however, many factors you can control.
Improve the quality of the candidates you hire. The entire hiring process needs to be focused on finding the right people for the right role.
Retention can drop when you hire people who aren’t truly qualified. It can drop when you hire overqualified people. It can drop any time where your employees are otherwise dissatisfied with their role in your company.
Improve your onboarding, mentorship, and support programs. A huge part of employee turnover is a lack of connection.
Leaving new employees to flounder without training or feedback, leaving them feeling like they have no one to talk to about problems, and leaving them without social connections are all causes of turnover and, thus, lower retention rates.
Improve your pay and benefits. Let’s face it; many people stick around for their salary and benefits and will leave when they get a better offer.
The better a pay scale and benefits package you can offer, the better your retention will be, simply because other companies will have a harder time poaching your employees.
Improve your career progression and growth. Again, employees often leave when they feel like they’re stuck with no way to progress their careers.
Progression can encourage retention through various means. Consider implementing training policies (and the accompanying pay raises), promotions internally, and other forms of personal and professional growth.
Improve communication both up and down the chain. When employees don’t feel heard, they don’t want to stick around.
Uncertainty about the future of their company, about changing policies or management, or even just a lack of avenues for feedback can all depress morale and discourage retention. Communication is critical to a happy and loyal workforce.
Improve company culture and diversity. Studies repeatedly show that diverse and engaged workforces are more productive, more creative, and more loyal than the inverse.
Improving your company culture will improve retention, across the board. There may be some initial friction when policies change and new hires are brought on, but if you make it clear that diversity is critical and not going away, things will settle.
Overall, it’s not necessarily difficult to calculate employee retention rates. What’s difficult is figuring out how to put those rates into context, extract actionable information, and develop a plan of action based on that information. You can’t do any of that without the data!
Was this article helpful? Do you have any questions for me? Let me know in the comments section down below! I’d love to hear from you, and I make it a point to reply to every constructive comment.