Chapter 3

Human Resource Accounting:

Theory and Practice
Chapter 3 Measurement of Human Asset: Theory and Practice

CHAPTER 3
MEASUREMENT OF HUMAN ASSET:
THEORY AND PRACTICE

People management is a key to success and is the job of every manager, not just the
human resource (HR) “department.” This fact is indicated by the public statements of
the top managers, the nature of current and future organizational changes, and
emerging scientific research showing that the HR practices and financial performance
are related (Boudreau & Ramstad, 1996).

The evolution of HR processes from administrative activities to strategic weapons is well

recognized, but a corresponding evolution of Human Asset Measurement systems has not
yet been seen. The dichotomy in accounting between human and non-Human Assets is
rather fundamental in that while latter is recognized as an asset and recorded as such in
the financial statements, the former is totally ignored. With the accelerated growth in
science and technology, the value of Human Asset is gradually increasing and hence it is
essential for a company to reflect the investment in human resources.

A committee of American Accounting Association (1973) on a statement of Basic

Accounting Theory strongly criticized the practice of assigning a zero value to an
asset in balance sheet stating that costs should be capitalized when they are incurred
in order to yield future benefits. Also, a proper matching of costs and revenue is not
possible unless the costs on recruitment, training, and development of personnel are
capitalized over their effective service lines (Batra, 1995). Singh & Gupta (2008)
found that there is a huge difference between cost incurred on an employee by an
organization and the value of their employees. Thus, the value should be based on the
contributions made by an individual to the organization.

A person has a set of competencies and a value is assigned to each of these

competencies. The sum total of it is the value of an employee and the sum total of the
value of all employees is the human capital of the organization (Mahalingam, 2001).
A skill has a value so long as it can fetch a return. Once it has determined that there is
value, there is a need to establish its quantification.

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Chapter 3 Measurement of Human Asset: Theory and Practice

Thus, over the years, a number of models have been put forward to compute the value of
the human asset. The various methods (as shown in figure 3.1 for valuing/measuring
Human Asset are categorized as:

Human Asset Measurement Models

Monetary Non-Monetary Contribution

Models Models Based Models

Likert’s Causal, Intervening and End-

result Variables Model

Myers and Flowers’s Behavioural Model

Flamholtz’s Behavioral
(Social and Psychological) Model

Cost Based Value Based Singh’s Human Resource Valuation Model

Models Models

Singh and Rastogi model for Human

Transformation

Gowda’s Asset Valuation Model

Figure 3.1: Diagram Showing Human Asset Measurement Model Models

3.1 HUMAN ASSET MEASUREMENT MODELS

I. Monetary Models
A. Cost Based Models
B. Value Based Models
II. Non-Monetary Models
III. Contribution based models

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Chapter 3 Measurement of Human Asset: Theory and Practice

3.1.1 Monetary Models

Monetary models deals with monetary aspects that are involved in human asset. These
monetary aspects can be cost-based or value-based models.

3.1.1.1 Cost Based Models

The cost-based approach focuses on the cost parameters, which includes historical
cost, replacement cost, or opportunity cost. These models include the parameters like
spending, payoffs, and expenses. These costs can be actually resulted or calculated.
Likewise, the costs can be incurred in the past or prognosticated for the future. The
various Cost based models (as shown in Figure 3.2) are as follows:

Cost Based Models

Historical Cost Method

Replacement Cost Model

Opportunity Cost Method

Standard Cost method

Current Purchasing Power Method

Total Cost Concept Model

Bardia’s Cost Based Model

Human Resource total Replacement Cost method

Rao’s Input/output Control Mechanism Model

Bokhari’s Human capital valuation method

Figure 3.2: Diagram Showing Cost Based Models

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Chapter 3 Measurement of Human Asset: Theory and Practice

3.1.1.1.1 Historical Cost Method

Historical Cost or Acquisition Cost or Outlay Cost refers to the expenditure incurred by
the organization on recruiting, selecting, and hiring people to meet an organization’s
present and future human resource needs. Development costs refers to the costs incurred
to train a person either to provide the level of performance normally expected from an
individual in a given position or to enhance the individual’s technical, administrative in a
given position or to enhance the individual’s technical, administrative, or interpersonal
skills. Development costs include three components: orientation, off-the-job training, and
on-the-job training. The acquisition cost is capitalized and written off over the period for
which the employee remains with the organization. If the Human Asset leaves the
organization pre-maturely, the whole of the amount not written off is fully charged from
the income of the current year. If the useful life exceeds the original estimates, revisions
are made in the amortization schedule.

This model was first developed by William C. Pyle assisted by R. Lee Brummet and
Eric G. Flamholtz (1974).

Merits

(a) It is simple and meets the test of principles of accounting i.e., it is only an
extension of the concept of proper matching of cost and revenue.

(b) The information required can be easily extracted from the existing records
which reduces the time and cost involved.

(c) The method is highly objective.

Demerits

(a) It is difficult to estimate the number of years an employee will stay in the
organization leading to difficulty in estimating the number of years over which
the capitalized expenditure is to be amortized.

(b) There is no objective method to ascertain the rate of amortization, i.e.,

increasing, constant, or decreasing.

(c) It is difficult to arrive at the correct amount of cost which is not recovered in the
same accounting period.

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3.1.1.1.2 Replacement Cost Model

Replacement costs can be defined as the estimated costs that would have to be incurred
by an enterprise in order to replace its existing human resources with others of similar
ability and experience. The determination of replacement cost involves estimates and
these estimates are concerned with the present rather than with the future.
This model has been developed by Eric G. Flamholtz in 1973 on the basis of the
concept first suggested by Rensis Likert. Under this method value of an individual to
an organization is measured by the amount that the organization would have to pay to
replace him as shown in figure 3.3. Flamholtz (1973) has developed a model for
calculation of ‘positional replacement cost’ which he defines as the sacrifice that
would have to be incurred today to replace a person occupying a specified position
with a substitute capable of rendering equivalent services in the given position.
In a study, Carper (1974) tested the validity of three different measures for personnel
evaluations within a CPA firm: (a) replacement cost model, (b) salary, (c) a historical
cost model. Their study found that (i) replacement cost appear to be the most valid
surrogate measure for personnel valuation (ii) replacement cost tends to approximate
the true economic value of an individual within a CPA firm.

Source: Flamholtz, E.G. (1973). Human resource accounting: Measuring positional replacement costs.
Human Resource Management, spring.
Figure 3.3: Human Resource Replacement Cost Model

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Chapter 3 Measurement of Human Asset: Theory and Practice

Merits

(a) It has the advantage of being present oriented rather than future oriented. Thus,
it is not necessary to make estimates about the future in order to determine
human resource values in terms of replacement costs.

(b) This approach is more representative and logical because it is more realistic as
compared to historical cost approach.

(c) It can be used for both internal and external purposes. Replacement cost
measurements are helpful to managements in determining rankings of
employees. Also, replacement costs are good surrogates in determining
employee value to the organization.

Demerits

(a) It is practically not feasible to find identical personal replacement of existing

human resource.

(b) The value calculated is highly subjective and is likely to differ from man to man.

(c) This method is not compatible with the conventional accounting practices.

(d) It is time consuming because information has to be gathered from outside the
organization specifically for this purpose.

(e) The method is not very appropriate in imperfect market conditions arising due to
trade unions, politics, custom and tradition, seniority and age, legal bindings,
etc.

(f) Though the human resource of the organization at the lower levels and middle
management can be arrived at by this method and can be replaced without much
difficulty, the cost of replacing the top management cannot be arrived at because
the top management works as a team and any replacement will make a
difference to the management team and its caliber.

(g) Replacement cost does not necessarily reflect the knowledge and loyalties
concerning an organization that an individual can build up over time.

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3.1.1.1.3 Opportunity Cost Method

Hekimian and Jones (1967) proposed this method which specifically excludes those
types of employees who can be hired readily from outside. They defined opportunity
cost as the value of an asset when there is an alternative use of it. When there is no
alternative use any value will be replaced because opportunity cost is linked with
scarcity. They suggested a competitive bidding process by different divisions for the
scarce employees in an organization. These ‘scarce’ employees come from within the
firm and include only those, who are subject to a recruitment request made by an
investment centre manager. In other words, employees not considered ‘scarce’ are not
included in the human asset base of the organization.

Under this approach, the divisions bid amongst themselves for the services of the
employee and he is allotted to the division making the highest bid. The successful bid
price becomes part of the division’s investment base and is considered for
ascertaining its return.

Merits

(a) The bidding process helps in proper division of personnel and provides the
quantitative base for planning, evaluating, and developing the human assets of
the organization.

Demerits

(a) The concept of opportunity cost has been restricted to the next best use of
employees within the same organization. Since the bid is made for the personnel
of the organization the whole concept becomes irrelevant if the personnel are
hired from outside.

(b) This method excludes those employees who are not being bid by other
departments which may be interpreted as discrimination leading to lowering the
morale and productivity of the employee who are not covered by the
competitive process.

(c) Bidding is based on judgment of the manager and hence is subjective.

(d) Since under this method only internal reporting is possible and not external
reporting, the value of the human resource ascertained by this method will be
misleading and the valuation becomes difficult.

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3.1.1.1.4 Standard Cost Method

Standard costs of recruitment, placing, training, and developing per grade of

employee are calculated and made up to date every year. It is a sensitive approach for
control purpose through the technique of variance analysis. Under this approach, the
standard cost in personnel department is determined year after year. The standard
costs for all human resources are treated as the value of human resources for
accounting purposes.

Merits

(a) It provides easy implementation and avoids complications of replacement cost

method.

(b) The variance between actual and standard can be analyzed and forms a basis for
control.

Demerits

(a) The limitation of replacement cost methods applies to standard costs methods.

(b) The value calculated is highly subjective and is likely to differ from man to man.

(c) This method is not compatible with the conventional accounting practices.

(d) It is time consuming because information has to be gathered from outside the
organization specifically for this purpose.

3.1.1.1.5 Current Purchasing Power Method (C.P.P.M.)

It is an improved model of acquisition cost method. The capitalized historical cost of

investment in human resources is converted into current purchasing power of money
with the help of Price Index Numbers. If the index doubles than the value of human
resource also doubles. The converted value becomes the value of human resource for
amortization in rest of the years. The increase or decrease is dealt in the same manner
as in the case of replacement cost method.

The demerits of replacement cost method also apply to C.P.P.M.

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3.1.1.1.6 Total Cost Concept Model

Prof. N. Dasgupta developed this model in the year 1978 (Suresh, 2006). According
to him the total cost incurred by the individual, the state and the organization should
be taken as the value of person on the day he starts serving the organization or
becomes fit for appropriate employment. It will include his education, training
expenses, which he and the state have incurred. The value should be further adjusted
by the amount, if intelligence (higher or lower which he has). The amount spent by
the organization on recruitment, training, familiarizing, and developing human beings
employed in the organization should be considered separately. It should also be
treated as a cost increasing the value of human beings.

Merits
(a) It is simple and meets the test of principled of accounting i.e., it is only an
extension of the concept of proper matching of cost and revenue

Demerits
(a) Cost cannot be considered as surrogate measures of value.

3.1.1.1.7 Bardia’s Cost Based Model

Bardia (1989) proposed a system of HRA to disclose the value of human resource. He
stressed on assetisation of various historical costs (cost of recruitment, advertisement,
consultancy, interview cost, cost of familiarizing, employees salary and benefits
during acquaintance period, development cost, ‘new ideas’ trial and experimentation
cost, on the job learning costs, etc.) and amortization of these on the basis of expected
service period based on group probabitilities of staying with the firms.

The unamortized balance of human resource costs will appear on the Balance sheet
just like Deferred Revenue Expenditure or prepaid expenditure. The amount written
off annually should be included under the heading ‘wages and salaries’ or
‘establishment expenses’ and should be disclosed separately.

The factors affecting goodwill should be separately identified, suitably grouped and
valuation of each factor group should be separately made. The grouping may be as
follows:

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Chapter 3 Measurement of Human Asset: Theory and Practice

• Internal Human Resources;

• External Human Resources;

• Customers and Others;

• Other factors like special license, trade mark, strategic location advantage, etc.

Valuation of internal human resources should be based on periodical morale surveys,

exit interviews and other similar techniques. The employee turnover, friction, awards,
and punishments should be properly recorded and analyzed. Rates computed for such
data should also be utilized while evaluating internal human resources.

External human resources should also be evaluated on the basis of periodical opinion
surveys. The data regarding customer and shareholders grievances should be
maintained. The rates of shareholders and customers turnover should also be
computed, wherever feasible. The public image of the enterprise should be evaluated
through sample surveys.

The traditional valuation of goodwill based on average profits or super profits should be
carefully adjusted in the light of the facts revealed by the evaluation of internal and external
human resources. The internal as well as external accounting reports should contain
separately information regarding changes in that part of goodwill which represents internal
human resources and that part which represents external human resources.

In order to complete the dual aspects of a transaction, the changes in the value of
goodwill should be debited or credited to a separate capital account appearing on the
liabilities side of the balance sheet. This account may be entitled as ‘Human Capital
Account’. The existing capital account may be renamed as ‘Money or Financial
Capital Account’.

Merits

(a) The maintenance of detailed record relating to internal human resources (i.e.,
employees) improves managerial decision making.

(b) Such information gives a long-term perspective of the business performance which is
more reliable than the Return on Capital Employed based on net profit only.

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Chapter 3 Measurement of Human Asset: Theory and Practice

Demerits

(a) It is time consuming because information has to be gathered from within and
outside the organization.

(b) It is difficult to estimate the service period of an employee.

(c) There is inherent subjectivity involved in evaluation of internal and external

human resources through various surveys and interviews.

3.1.1.1.8 Human Resource total Replacement Cost method

The model developed by Tang (2005) based on measuring direct and indirect costs of
human resource. The model consisted of the following four functional cost categories.
• Acquisition;
• Orientation;
• Learning; and
• Separation (as shown in figure 3.4).

Human Resource Replacement Cost

Acquisition Orientation Learning Separation

Costs Costs Costs Costs

Recruiting Hiring costs Equipments Direct Indirect

costs costs costs
Settling costs Facilities
Selection
costs Uniforms Materials

Contracting Trainers and

costs Trainees Separation Loss of
indemnity efficiency
prior to
separation

Source: Tang, T. (2005). Human resource replacement cost: Measures and usefulness. Cost
Engineering, 47 (4), April, 14-21.
Figure 3.4: Tang’s Human Resource Replacement Cost Model

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Chapter 3 Measurement of Human Asset: Theory and Practice

Each category comprises several cost categories, that when combined would provide a
reasonable estimate of the total cost of replacement. The system of human resource
replacement cost must provide information on individual positions so that it may be
used for analysis and decision-making.

Merits

(a) HRRC system would help make management aware of how their decisions
regarding determining reasonable indemnities for employee’s separation,
employee turnover, duration of labour contract, and personnel budgets in
monetary term, etc., affect human resource issues and how these issues in turn
affect the financial performance of the firm.

(b) In the process of the system development, management becomes more aware of
the specific components of human resource costs.

Demerits

(a) The model does not take into account the qualitative information regarding
human resource. Therefore, no conclusion can be drawn from this hard cost data
without analysis of the non quantitative factors affecting human resource
decision making.

3.1.1.1.9 Rao’s Input/output Control Mechanism Model

Rao (1983) developed a system of Human Resource Accounting and illustrated its
application in a transport equipment manufacturing concern. He has designed the
system based on the Input/output Control Mechanism. The Output variables to the
system are described to be the indicators of human resource development and
utilization. The human resource investments are measured through human resource
investment subsystem. To identify the human resource investments, a distinction is
made between human resource current costs and human resource investments. All the
human resource costs, whose benefits are expected to effect in future periods, are
treated as investment. Then the annual human resource investments are adjusted to the
tune of changes due to intake or separation or natural deterioration. The intake of

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people results in addition of human resource investments while separation necessitates

writing off of human resource investments. The human resource deterioration is
measured and adjusted with the help of amortization rates in each year under study.

Merits

(a) It is simple and meets the test of principles of accounting i.e., it is only an
extension of the concept of proper matching of cost and revenue.

(b) The method is highly objective.

Demerits

(a) There is no objective method to ascertain the rate of amortization, i.e.,

increasing, constant, or decreasing.

(b) It is difficult to arrive at the correct amount of cost which is not recovered in the
same accounting period.

3.1.1.1.10 Bokhari’s Human Capital Valuation Method

Human capital valuation method (HCVM) developed by Bokhari et al., (2012) considered
the following components of investments; Acquisition Investment (recruitment, selection,
contracting, placing), Familiarization Investment (orientation, basic training),
Development Investment (trainings, promotions, process Improvements), Job Investment
(wages, commission, rent sharing), Expected Service Period, (On the basis of past
analysis/employees turnover rate/factors employees).

Acquisition Investment on human capital consist of the recruitment, selection,

contracting, and the investment on placing human capital on the job; the process of
recruitment and selection in sequence of precise steps started from advertisement,
identification, selection, and hiring best candidate for job vacancy, in cost and time
manners, to make the rational decision about the human resources (Davis and
Werther, 1994 cited in Bokhari et.al., 2012). Recruitment and Selection process of the
organization can affect the organizational performance, recruitment and selection

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Chapter 3 Measurement of Human Asset: Theory and Practice

process is found significant in cost wise or performance wise significant to the

organizational performance (Holzer, 1987, cited in Bokhari et.al., 2012). All the
components of the acquisition investment are major part of the organizational human
resources investment practices after reviewing the literature acquisition cost and
considered as component for the valuation of human capital.

Familiarization Investment Initial orientation and training to make the human

capital to position to perform the job tasks effectively and efficiently, Investment on
initial training often considered new employees only; this is the process of getting
knowledge to do something in well manners.

Development Investment remains a major activity or investment on

training/development for the current or new employees to motivate growth and their
competency building (Gritz, 1997 cited in Bokhari et.al., 2012) development is
considered as internal activity performed by the management for the employees to
attain the competitive advantage, development and training is considered as an
expensive activity that affect the organizational performance (Tobias, 2000 cited in
Bokhari et.al., 2012).

Job investment According to Irving Fisher, the value of HCA depends upon the
earnings of the employee; current job cost of labor is major cost of human resources,
it cannot be ignored during the valuation of human capital. Job cost consists on the
wages, commission, and rent sharing among the employees.

Performance appraisal investment system is designed to evaluate, influence work-

related aspects and outcome. The objective of this system is to evaluate how the
organization human resource system is performing and its productivity; performance
appraisal system is used to appraise which are compatible with the culture and
organizational behavior (Ebrahim, 2005 cited in Bokhari et al., 2012).

Expected service period It is an expectation on bases of employees’ turnover rate in

the organization; expected service period method is derived or considered same as the
use of full life of physical asset under IAS16 property, plant, equipment or it is

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Chapter 3 Measurement of Human Asset: Theory and Practice

considered as major component of the model driven for the valuation of human
capital accounting for the organization.

Value of human capital The HR valuation method is used for the valuation of HR
investment. All components in this method are significant and can affect the
organization performance and decision making. Author recommends this method for
the valuation of human resources accounting.

Human capital valuation method

Where,
Ai,t Acquisition investment for expected service period t; ,
Fi,t familiarization investment for expected service period t;
Di,t development investment for expected service period t;
PAi,t performance appraisal Investment;
N, total number of years;
t, current period.

Amortization rate

Investment on the human capital should be amortized over the expected service period
in current year profit and loss account. Amortization rate should be derived through
the above mentioned formula.

Where
Ai,t Acquisition investment for expected service period t;
Fi,t familiarization investment for expected service period t;
Di,t development investment for expected service period t;
PAi,t performance appraisal investment;

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Chapter 3 Measurement of Human Asset: Theory and Practice

X = expected service period;

N = total number of years;
t = current period.

Merits
(a) All components which are used in the HCVM for valuation of the HCA (human
capital accounting), have the significant impact on the organizational
performance internal decision making and significant parts of the human
resource activities in organizations from the financial prospective.
(b) The investments have the ability to convert the current year profits into losses if
any of these investments wrongly charged in the current year profit and loss
statement.
Merits

(d) It is simple and meets the test of principles of accounting i.e., it is only an
extension of the concept of proper matching of cost and revenue.

(e) The information required can be easily extracted from the existing records
which reduces the time and cost involved.

(f) The method is highly objective.

Demerits

(a) There is no objective method to ascertain the rate of amortization, i.e.,

increasing, constant, or decreasing.

(b) It is difficult to arrive at the correct amount of cost which is not recovered in the
same accounting period.

3.1.1.2 Value Based Models

The value-based approach suggests that the value of human resources depends upon
their capacity to generate revenue. The various Value based models (as shown in
figure 3.5) are as follows:

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Chapter 3 Measurement of Human Asset: Theory and Practice

Value Based Models

Hermanson’s Model

Lev and Schwartz Present Value of Future Earnings Model

Flamholtz’s Stochastic Rewards Valuation Model

Chakraborty’s Human Resource Valuation Model

Friedman and Lev’s Human Resource Valuation Model

Robbinson’s Human Asset Multiplier Method

Brummet’s et. al. Economic Value Method of Group Valuation

Jaggi and Lau’s Human Resource Valuation Model

Organ’s Certainty Equivalent Net Benefits Method

Morse’s Net Benefit Method

Modified Lev and Schwartz Model

Differential weighted Average Replacement Cost Model

Frentzreb’s Economic Value Model

Danak’s Market Value Based model of HRA.

Kodwani and Tiwari’s Accounting model for Human Valuation

Watson’s Return of Effort Employed Model

Dave’s Modified Present Value Model

Figure 3.5: Diagram Showing Value Based Models to measure human asset

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3.1.1.2.1 Hermanson's Model

Roger H. Hermanson as early as in 1964 in his Occasional Paper no. 14 developed

two models emphasizing more on the “Unpurchased Goodwill Method” which he
based on the superior or inferior earnings in enterprises, and giving the “Adjusted
Present Value Method” as an alternative for valuing human resources.

A. Unpurchased Goodwill Method

Hermanson (1964) has suggested that the value of human resource of an organization
may be assessed by capitalizing earnings in excess of normal earnings for the industry
or group of companies of which the firm is a part. The method assumes that a
business will earn a normal rate of return on resources. If a business shows a return
that is different from the normal rate, it may fairly be presumed that some resources
must be existing that have not been taken into account in preparing the balance sheet.
These unrecorded resources are assumed to represent Human Assets.

If, for example, the average return on ‘owned (tangible) assets’ in a particular industry
over the past five years has been 10 per cent and the firm has enjoyed a 15 per cent
return on its ‘owned assets’ of Rs. 30, 00,000. Then its ‘unowned assets (human
resources)’ are assumed to be valued at Rs. 15,00,000 since the profit Rs. 4,50,000
(Rs. 30,00,000 X 15 per cent) is assumed to be 10 percent of total owned and
unowned assets of Rs. 45,00,000.

Merits

(a) The method is not expensive because it uses the information contained in the
existing records of the organization.

(b) It is an objective method.

Demerits

(a) No recognition is given to Human Resources needed to generate normal earning.

This approach implicitly assumes a zero value for all human resources in
competitive world since a positive value of human resources requires above
average earnings.

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(b) Earnings of the previous year are used as a surrogate for future earnings in order
to determine economic value. The degree of reliability will depend upon the
correlation between past earnings and future earnings, which may not be very
high.

(c) The calculation requires data from both the firm itself and the rest of the
organizations in the industry that is very time consuming.

B. Adjusted Present Value Method

This model is based on the assumption that a relationship exists between a person’s
salary/compensation that an employee receives and his/her value to the organization.
It uses compensation as a surrogate measure of a person’s value to the organization.
Compensation means the present value of the future stream of wages or salaries to
Human Resource of the organization.

This method requires four steps in order to arrive at the value of the Human Assets.

i) Estimate annual wage and salary payments for five years into the future.

ii) Calculate the present value of estimated wage and salary payments by applying
a discount factor equal to the normal rate of return in the economy.

iii) Calculate an ‘average efficiency ratio’ based on the previous five years
performance. It is the weighted average ratio of the return on investments of the
given firm to all the firms in the economy for a specified period, usually the
current year and the preceding four years. The weights are assigned in the
reverse order i.e., highest 5 to the current year and 1 to the preceding fourth
year. The efficiency ratio measures the efficiency of Human Resource operating
in a firm over a period of five years.

iv) Multiply the present value of the future wage and salary payments by the
average efficiency ratio. The resulting figure represents the estimated present
value of the human resources.

Merits

(a) The efficiency ratio provides a basis for adjustment in the compensation by
using the efficiency ratio.

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Chapter 3 Measurement of Human Asset: Theory and Practice

Demerits

(a) The efficiency ratio is subjective.

(b) The valuation period of five years and the weighting scheme has no justification
and is purely arbitrary.

(c) Future compensation is as much a measure of the liability of the firm employing
the individual as it is an asset. The concept, therefore, may relate to the human
capital represented in individuals employed by the firm.

3.1.1.2.2 Lev and Schwartz Present Value of Future Earnings Model

Brauch Lev and Aba Schwartz in 1971 developed a model defining “the value of
human capital embodied in a person of age X is the present value of his remaining
earnings from employment”. In this model value of the human resources are
ascertained through the following steps:

1. All the employees are classified under certain homogeneous groups such as
unskilled, semi-skilled, skilled, technical staff, managerial staff, etc.

2. Average earnings are determined for various ranges of age and for different
classes.

3. The total earnings of employees up to date of retirement are calculated.

4. The capitalized present value of the future earnings of human resource is

calculated by discounting total earnings of employees at the rate of cost of
capital for valuation.

The suggested formula is:

(t )
∑ (1
T
E
Vr =
R )
t − r
t = r +
Where:
Vr = Value of individuals r years old
E(t) = individual’s annual earnings up to date of the retirement
t = Retirement age
R = Discounted rate

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Chapter 3 Measurement of Human Asset: Theory and Practice

Merits

(a) The model is advancement over Hermanson’s Adjusted Discount Future Wages
Model.

(b) The model provides very useful information about changes in the structure of
the human resource. The ageing of a firm’s labour force may account for a
slower rate of growth as against another firm with a younger labour force.

Demerits

(a) The Model ignores the possibility and probability that individual may leave an
organization for reason other than death or retirement. The model’s expected
value of human capital is actually a measure of expected ‘conditional value’ of a
person’s human capital-The implicit condition is that the person will remain in
organization until death or retirement. This assumption is not practical.

(b) This model takes wages & salary as a basis of value of human resource but
value of human resource is not limited only to the extent of cost incurred on
them. It has greater value than cost incurred. Thus, the valuation done on the
basis of remuneration which the individual is expected to get irrespective of his
capabilities, skill, experience, bargaining capacity and other environmental
factors may not measure the true value.

(c) It ignores the probability that people may make role changes during the career.
For example, Assistant Manager will not remain in the same position throughout
his expected service life in an organization.

(d) There is inherent subjectivity involved in determining the discount rate, length
of expected employment within the organization and determination of the level
of future salary.

(e) A person’s value to organization is determined not only by the characteristics of

the person himself (as suggested by Lev and Schwartz) but also by the
organizational role in which the individual is utilized. An individual’s
knowledge and skill is valuable only if these are expected to serve as a means to
state organizational ends.

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3.1.1.2.3 Flamholtz’s Stochastic Rewards Valuation Model

Eric G. Flamholtz (1971) developed a model in which he determined the value by

aggregating the present value of expected future services of employees taking into
consideration the probability of each employees working in different positions at
different intervals. The movement of people from one organizational role to another is
a stochastic process with rewards. The model takes into account both the monetary
and non-monetary variables as the monetary value of an individual depends upon
many qualitative (non-monetary) variables. The model links the competence and
activation levels of employees with the reward system that affect productivity and
work satisfaction as well. The variables of promo-ability and organizational
membership are also considered with the help of statistical probability estimates to
determine the realizable value of an employee to the organization.

Merits

(a) The model is an improved concept over the Lev and Schwartz model.

(b) The model is a composite model consisting of both monetary and non-monetary
variables.

Demerits

(a) It is an expensive and complicated model.

(b) The model does not take into account the added value element of individuals
operating as a group.

(c) The model is not able to overcome the limitation of subjectivity as in the case of
Lev and Schwartz.

3.1.1.2.4 Chakraborty’s Human Resource Valuation Model

Prof. S. K. Chakraborty (1976) has developed a model in the context of Indian

industry. He is the first Indian to suggest a model in HRA. He suggested that the
human resources should be valued as a group and not on individual basis.

1. Employees of an organization are to be divided into managerial and non-

managerial groups.

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2. The average tenure of the employees is to be calculated on the basis of their past
experience.

3. The average annual salary payments for the next few years can be found out by
salary grade structure and promotion schemes of the organization.

4. The average salary is to be multiplied with the average tenure.

5. The above is to be discounted at the expected average after tax return on capital
employed.

It has further suggested that the recruitment, hiring, selection, training and
development costs of each employee should be recorded separately, they can be
treated as deferred revenue expenditure to be written off over the expected average
stay of the employee in the organization and the deferred portion should be shown in
the Balance Sheet of the organization. If there is a premature exit on account of death,
retrenchment, etc., then the balance on the deferred revenue expenditure account for
the year attributable to that person should be written off against the income of the year
of exit itself.

The discount rate for the purpose of ascertaining the present value of the estimated
payments in the future is taken as ‘the expected average after-tax return on capital
employed over the average tenure period. Adoption of such a long rate has been
recommended in order to avoid fluctuations in Human Asset valuation from year to
year simply due to changing annual rates of return because in a year of low rate of
return the valuation will have an upward bias and conversely in a year of high return.

Total Human Resource value is estimated by adding the expenditure incurred on

recruitment, training, and development to the present value of average future salaries
of group of employees. This value is shown as investment on the asset side of the
Balance Sheet and is added to the capital employed (calculated under conventional
method) on the liability side.

Merits

(a) It takes into account both monetary and non-monetary variables.

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Demerits

(a) It is an expensive and complicated model.

(b) There is inherent subjectivity involved in determining the length of expected

employment within the organization and in determining the discount rate.

3.1.1.2.5 Friedman and Lev’s Human Resource Valuation Model

This model of Friedman and Lev (1974) is another extension of the Present value of
future earnings model of Lev and Schwartz. In this model, they have considered the
firm versus the market wage relationship as a surrogate for the economic value of the
investment that an organization makes for its human resources. The value of the
human resource is the difference between actual wages paid and the average market
wages assumed that may be taken to reflect organizational personnel policies because
otherwise it could be reasonably expected that the employees would move from one
employment to another to eliminate the difference. This difference exists as the
policies of the management differ from one another operating in the same market.
Thus, wage differentials represent a return on an organization’s investment in human
resources. If the return is known, the value of human resources investment can be
calculated by discounting the stream of expected wage savings over the expected
service life of the employees. The value thus obtained reflects the management’s
policies for hiring, developing, and maintaining the work force relative to a market
average.

3.1.1.2.6 Robbinson’s Human Asset Multiplier Method

W.J. Giles and D. Robbinson were sponsored by Institute of Personnel Management

and The Institute of Cost and Management accountants, London to produce a report
on Human Asset Accounting and they developed a measurement method known as
“Human Asset Multiplier Method”. In this method, Giles and Robbinson (1972)
proposed a multiplier, which can be applied to the earnings of the individuals to
determine the valuation. On the basis of price earnings ratio, the capitalized value of
the company is determined and the remaining after deducting the net assets from the
capitalized value is the value of human resources.

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Merits

(a) It is an easy and inexpensive method.

(b) The method provides data for periodic Human Asset balance sheet and profit
and loss account and Human Asset profiles and projections of the organization.

Demerits

(a) Objectivity and reliability is totally sacrificed as infinite range of possible values
can be chosen.

(b) The weighting factor which forms the foundation of the method has no
conceptual basis, hence no single value can be substantiated

3.1.1.2.7 Watson’s Return of Effort Employed Model

The method developed by Watson (1978) measures the effort employed on various
functions i.e., buying, manufacturing and selling. Factors, which distinguish the
quantity and quality of effort expended are used to rate the contribution made by
individuals. Such factors are:

(i) Level/Grade of work done.

(ii) Effectiveness with which the individual performs his job.

(iii) Requisite experience.

These factors are then multiplied together in determining a measurement of effort

employed for individual. Individual scores are aggregated to obtain the figure of total
effort employed in an organization.

Merits

(a) The method helps in efficient allocation of human resources.

(b) It makes possible to allocate the resources between the different functions like
buying, manufacturing, and selling on the basis of ratio of profits to effort.

Demerits

(a) Limited factors were used to find the contribution made by individual. It ignores
other factors like potential appraisal index etc.

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3.1.1.2.8 Brummet, Flamholtz, and Pyle’s Economic Value Method of Group Valuation

Brummet, Flamholtz, and Pyle developed this method in 1968 which was adopted to
value the sales price in the insurance industry at the time of acquisition or sale. The
method proposed that a group of human resources should be valued by estimating
their contribution to the total economic value of the firm. The present value of a
portion of the firm’s future earnings attributable to human resources is the value of
human resources. Firm’s total present value calculation involves forecasting of the
future earnings of the firms as a whole and discounting them at a predetermined rate.
A portion of this value is allocated to human resources based on their relative
contribution.

Merits
(a) This method is easy to calculate and involves less time as it uses data which is
readily available.

Demerits
(a) It ignores the various behavioural aspects of the individual like job satisfaction
to estimate their contributions.
(b) Difficult to estimate the discount rate.

3.1.1.2.9 Jaggi and Lau’s Human Resource Valuation Model

Jaggi and Lau (1974), in the model for valuation of Human Resource on a group
basis, basically restated the stochastic model of Flamholtz by using groups instead of
individuals. By considering homogenous groups, the pattern of movement can be
assumed to be less fluctuating over a period of time. It becomes easier to ascertain the
percentage of people in a particular group likely either to leave the firm during each
of the forthcoming periods or be promoted to higher levels. This concept assumes that
the pattern of movements is likely to remain constant overtime; the probabilities
determined for one period are extended to future periods. To consider the career
movements of the employees within the organization and the chances of their
retirement or death, Markov Chain Representation is suggested by Jaggi and Lau.

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Merits

(a) This Model overcomes the drawbacks of Flamholtz’s stochastic Rewards

Valuation Model by considering the homogeneous groups than individuals.

(b) The preparation of transition matrix from historical personnel records ensures
objectivity to some extent.

Demerits

(a) As it neglects the individual human resource in the organization, the model is
not useful for decision making about individual human resource which is very
important feature of Flamholtz’s model.

3.1.1.2.10 Ogan’s Certainty Equivalent Net Benefits Method

Ogan suggested this approach in the year 1976. According to this approach the
certainty with which the benefits in future will accrue also be taken into account in
addition to the model net benefit approach of Morse. This method involves the
following steps as shown in Figure 3.6:

1. Estimation of net benefit from each employee is determined. The net benefits
mean the difference between expected benefits and total costs. The product of an
individual employee’s monetary value benefits potential with his/her individual
performance index determines his/her expected benefits. The total cost means
the total of the maintenance cost i.e., future salaries and wages, start up costs,
recruiting and initial training costs at their historical value, and the future
training and development costs.

2. Selection of certainty factor at which the benefits will be available in future. The
certainty factor means the probability of the employee remaining with the firm.
It is determined by assessing the probability of continuation of the employee and
the probability of survival of the employee.

3. Calculation of certainty equivalent benefits by multiplying the certainty factor

with the net benefit accruing from all employees, representing the value of the
enterprise for inclusion in the balance sheet.

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(1) Monetary
Value Benefit
Efficiency Potential Expected
Index Benefit

(2) Individual
Performance
Standard Index Net Benefit
Work
Index
(3)
Maintenance
Costs Total Costs

Certainty
(4) Start-Up
Equivalent
Costs
Benefit
(6) Probability
of Continued
(5) Training Employment
and Certainty
Development Factor
Costs (7) Probability
of Survival

Source: Ogan, P. (1976). Application of a human resource value model: A field study.
Accounting, Organisation, and Society, 1 (2/3), pp. 198.

Figure 3.6: Major Determinants of the Ogan’s Human Resource Value Model

Merits

(a) Data generated by the model are amenable for use in an on-going manner like a
performance evaluation system or a human resource value accounting system.

(b) Also, by using the firm’s desired rate of return in discounting, management may
be able to isolate those employees with marginal net present value patterns.

Demerits

(a) The model doesn’t consider the ‘Total Value’ of the individual because it
specifically dwells on the ‘monetary values’ of employees which can be
measured, primarily, by objective data such as billings rates or maximum
billable hours in a year.

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3.1.1.2.11 Morse’s Net Benefit Method

Morse suggested this method in the year 1973. Under this approach the value of
human resources is equivalent to the present value of net benefits derived by the
organization from the services of its employees.

(i) The gross value of services to be rendered in future by the employees in the
individual as well as their collective capacity is determined.

(ii) The value of future payments to employees is determined.

(iii) The excess of the value of future payments to employees is determined.

(iv) The present value of the net benefit is determined by applying a predetermined
discounted rate.

Merits

(a) It considers the employees individually as well as collectively.

Demerits

(a) It is difficult to determining discount rate.

3.1.1.2.12 Modified Lev and Schwartz Model

The Modified Lev and Schwartz Model (MLS) developed by IIM Bangalore is an
improved model over Lev and Schwartz Model for valuing human resource of an
organization. MLS model is essentially an input measure and uses the salary paid as
well as the expected growth in salary, the training expenses as well as possible
increase in the same to value human capital.

The model works as follows:

The workforce is classified into age groups. The less the range between the
upper and lower ranges, the greater the accuracy.

The various designations in each age group are spelt out.

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The average salary of the employee of each level in a particular age is found.
Salary includes bonus, dearness allowance, housing and all costs to the
company.

The expected growth rate “g” in salary of employees is calculated.

The cost of capital “r” of the company is calculated.

The NPV of salary paid to employees of that particular age group is found as
follows:

The NPV of the costs to company for a particular level is found by discounting
the salary using the annuity growth model.

 I    (I + g )t − a  
S = Sn = a   X 1 −  
 r − g    (1 + r )t − a  
Where:
I is the annual earnings of employees
R is the discount rate specific to the cost of capital to the company
G is the growth rate in the annual earnings of the employees
a is the present age of the employee
t is the retirement age

The NPV of the costs to company for that level in that particular age group is
calculated by multiplying S with number of employees in that level in that
particular age group.

L=SN

The NPV of the cost of capital for the age group is found out by adding the NPV
of the cost to the company for all level in that particular age group.

H=L+L+L+…………Ln

Find out Net Present Value of salary paid to all age groups, let us say H, H and
add H+H+H.

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Find out the NPV of training expenses for all employees of the organization.
Discounting using the perpetuity formula to find out the NPV of the cost to the
company as regard the training.

Now add H+H+H+….Hn to get the NPV of salary paid to employees of the
entire organization and human capital value is H=H+H………+Hn.

Merits

(a) The model is advancement over Lev and Schwartz’s Present model value of
future Earnings Model.

(b) It considers expected growth in salary, the training expenses, as well as possible
increase in the same to value human capital.

Demerits

(a) The model does not take into account the possibility of an individual leaving the
organization other than death or retirement.

(b) There is inherent subjectivity involved in determining the discount rate, length
of expected employment within the organization.

3.1.1.2.13 Differential weighted Average Replacement Cost Model

A. Shankaraiah, R. Sudarshan and M. Subrahamanya Sarma (1993) developed a

pragmatic approach for measuring the value of Human Assets in the name of
“Differential weighted Average Replacement Cost Model (DWARC)”.

DWARC is based on the premise that human resources of an enterprise may be

treated as an asset only to the extent that they are more efficient and superior than the
estimated weighted replacement cost of similar cost of similar resources.

Thus,

Value of Human Assets (VH)= Estimated replacement cost of Human Resources

(HC1) – Total estimated cost of existing Human Resources (HC0)

VH = HC1 - HC0

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HC0 = Cr + Ctd + Cp

HC1 = Cr1 + Ctd1 + Cp1

Where:
Cr = Capitalized portion of recruitment cost of existing human resources
Ctd = Capitalized portion of training and development cost of existing human
resources
Cp = Estimated pay and perks for the existing human resources.
Cr1 = Estimated cost of fresh recruitment for replacing the existing resources.
Ctd1 = Estimated cost on training and development for the same.
Cp1 = Total estimated pay and perk for equivalent period.

The detailed methodology that can be adopted in computing the DWARC is as

follows:

(a) Classify all the employees into a few selected groups on reasonable basis.

(b) Account for the capitalized cost of recruiting, training, development, pay and perks
for each group till the superannuation, and average it for the existing strength.

(c) For the same period of service ascertain replacement cost for each member in
each group and compute notional gain or loss per each member with the weights
decided on the basis of strength in each group and find out net weighted notional
gain of the total undertaking after adjusting the notional losses, if any, in any
one or few groups.

(d) Multiply the notional gain or loss per member with the weights on the basis of
strength in each group and find out net weighted notional gain of the total
undertaking after adjusting the notional losses, the total undertaking after
adjusting the notional losses, if any, in any one or few groups.

(e) Arrive at the Differential weighted Average Replacement Cost of each member
by dividing the net weighted notional gain with the total weights (i.e., strength)
which may be treated as the total accounting value of each member to the
enterprise.

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3.1.1.2.14 Frentzreb’s Economic Value Model

Frentzreb, Landau, and Lundberg (1974) developed a model based on the assumption
that for each employee in an organization, a roughly constant proportion exists
between salary, on the one hand, and contributions in excess of salary, benefits, and
other expenses associated with the employee. The computation involves:

Calculation of the cumulative probability of the employees staying with the firm.

Estimation of the expected future salaries payable to the employees.

Determination of the expected future outlay on salaries, represented by the

product of salaries payable and the cumulative probability.

Calculating the productivity factor for the respective future years on the basis of
the experience, tenure, and age of the employees.

Determining the expected future contribution by multiplying the future outlay

on salaries by the productivity factor.

Discounting the expected future contributions so as to arrive at the present

value, which, when aggregated, gives the value of the individual to the firm.

Merits

(a) The valuation model suggests that the economic value of an employee can be
estimated by computing the employee’s future salary and relationship between
his salary and his contribution to the organization.

Demerits

(a) Probabilities have to be determined for each employee regarding his future
salaries and duration of stay. This is rather a difficult and expensive process.

(b) Estimation of the productivity factor on an individual basis is likely to be

subjective. The desegregations of combined and joint efforts and the estimation
of productivity factor of each employee necessarily involve subjectivity.

(c) Deciding upon a discount rate also involves subjectivity.

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3.1.1.2.15 Danak’s Market Value Based Model

Deepak Danak (2005) developed a market value based model, which tries to estimate
the market value of the human resource, indirectly. It is in terms of two propositions.

Proposition-I: the value of human resources gets captured into the value of total
intangibles of a firm; where the value of total intangibles is given as the excess of
market value of equity over the market value of net tangible assets.

Proposition-II: what part of the value of intangibles will be commanded by the human
resource will depend upon the market condition.

This model of HRA is based on a strong conviction that only the market can
determine the value of any asset. In fact, there are only two rules of valuation.

1. Market valuation is always right;

2. If market valuation is not right, refer to rule number one.

If an individual does not agree with the market value, there is no compulsion upon
him or her to enter into the transaction. Yes, if the ‘collective wisdom’ does not agree
with the market value, then there lies a case for structural changes in the economy/
society.

This model articulates a novel approach to measurement of the value of a basket of all
the intangibles assets of a firm, by subtracting the value of net tangibles assets from
the market value of the equity of a firm. It then divides the value of intangibles into
two components, one of which is the human resource. Thus, it is going to be a two-
step process as summarized below.

Step-1: Determining the value of intangibles.

Step-2 Determining the value of human resource as a part of intangibles.

Merits

(a) The model is broader in nature. In other words, it is not a context specific model
as developed by other researchers as that they take the context of past or present

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business management systems. It is fundamental in nature that it can find

applicability in any settings.

(b) The model has an approach to measure the value of all the intangibles assets of a
firm.

Demerits

(a) It is difficult to find the value of HR among other intangibles based on market
conditions.

3.1.1.2.16 Dave’s Modified Present Value Model

Dave (1987) developed a modified version of the Present Value (PV) model of Human
Resource Accounting. The model incorporates in it indicators to reflect the effect of five
factors which often affect the contribution of employees to the organization and thereby,
the calculated value of the human resources. The model incorporates suitable indicators to
take care of the positive and negative factors affecting the contribution of an employee to
his organization. The indicators are given below:

(i) Experience Indicator (α)

(ii) Efficiency Indicator (β)

(iii) Labour Turnover Indicator (γ)

(iv) Labour Unrest Indicator (λ)

(v) Output-per-Employee Indicator (φ)

These indicators can be fitted on to any of the existing models. Thus, by incorporating
these indicators to the present value method, the value of Human Resource of an
organization will be:

∑ ( Xi )× β
n
V = × γ × ϕ × λ
i =1

Where:

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Xi = value of individual i

Where:

 I (t ) × (t i − ri ) 
Xi =  i 0 (ti − ri )  [(100 + ai ) / 100 ]
 (1 + R ) 
I(ti0)= the employee i’s earnings in the year concerned
ti= Employee i’s retirement age
ri= age of the individual i
R= a discount rate

Some authors advocate showing human resources as fixed assets; some others
recommend that it is to be shown as current assets; still others recommend that it is to
be shown as investments in the Balance Sheet of an organization. But, Dave is of the
opinion that human resources are assets not falling under any of the above categories
and, therefore, it must bold display under the heading ‘Human Resources’.

3.1.1.2.17 Kodwani and Tiwari’s Accounting model for Human Valuation

The model is categorized for two types of employees:

1. Method for employee who are whole sole for organization such as MD, CEO,
etc.

2. Method for employees who are not whole sole for organization.

Valuation contains three parts in both methods which are as follows:

1 Real Capital Cost part

2. Present value of future salary/wages payments

3. Performance evaluation part

Kodwani and Tiwari (2007) suggested the total value of Human Resource as the sum
total of the values in above three parts. First two parts are same for both methods.
Valuation for second part will be according to Lev and Schwartz method (although
method to account for it in books has also been suggested).Third part is different for

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both methods and reflects performance (beyond normal) for that employee. For
normal performance, first and second part is sufficient.

1. Real Capital cost-

All capital cost such as training cost should be capitalized by entry

Human resource Capital (HRC) Dr
To Cash/Bank

This should be written off equally in estimated service period by entry

Profit and Loss A/C Dr
To Human resource Capital
At the time of leaving /death of employee, whole amount should be charged to
P&L A/C.

2. Present Value of future salary/wages payment-

1. At the time of capitalizing value of human resource according to Lev &

Schwartz valuation (whether at the end of the year or during the year,
whenever we hire Human Asset or company want to begin accounting for
human asst
Human resource Capital A/C Dr
To Human Resource Reserve (HRR) A/C

2. At the time of salary payments

Salary A/C Dr
To Cash A/C

3. At the year end we should calculate HRC value according to Lev &
Schwartz model. Now difference of HRC in books and HRC now
calculated shall be debited in the form of HRR and balance amount should
be debited in P& L A/C to close salary A/C.

HRR A/C Dr
P&L A/C Dr
To Salary A/C

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If difference is more than salary then balance should be credited to P&L A/C

3. Now amount debited in HRR should be charged in form of

depreciation/amortization from P&L A/C

P&L A/C Dr
To HRC A/C
At the time of leaving/death of employee whole amount of HRC should be charged
from P&L A/C and at the same time Whole amount of HRR should be credited to
P&L A/C.

3. Performance Evaluation Part

A. First Method-Method for employee who is wholesale for organization such as

M.D., CEO, etc.-At the end of year classify Sales/Revenue generated into two parts

(I) Normal Revenue

(II) Extra Revenue (which is generated due to extraordinary talent of that employee)

Calculate Net Profit after all expenses (including CEO/MD remuneration) attributable to
extra sales/turnover/revenue and it should be transferred to Fund for HRC at some % (say
10 to 15% on this profit). At the same time with the same amount a capitalization entry
should be passed to capitalize Human Resource by simultaneous transfer to Human
Resource adjustment A/C. Human Resource Adjustment A/C is just like HRR A/C and
reflects revaluation of Human Asset on showing better performance but as this part
should not be amortized and should increase with exhibiting good performance so it has
been credited to separate Human Resource Adjustment A/C. At the time of leaving/death
of employee reverse entry should be passed.

Suggested Use of fund for HRC Fund for HRC should be used only for some specific
purposes such as:

1. Training of Employees

2. Writing off of abnormal losses caused Due to leaving/death of employee

3. Welfare of Employees so that they may be more satisfied

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Entry for transferring will be

P&L A/C Dr
To Fund for HRC

Entry for capitalization of human resource with the same amount will be

HRC A/C Dr
To Human Resource Adjustment A/C

In case abnormal losses, after exit/death of employee these losses can be written
off from this fund over these years.

Fund for HRC A/C Dr

To P&L A/C
Reverse entry at the time of leaving/death of employee will be

Human Resource Adjustment A/C Dr

To HRC A/C

Amount capitalized in previous year (in this part) should be basis for incentive for
current year.

B. II Method

This is for employees who do routine work and are not whole sole for organization. If
employee has shown any extra performance than normal one then market value of that
extra one should be decided. We should then decide net profit attributable to this extra
one. This should be decided on the basis of percentage of net profit on sales/revenue
and some percentage of net profit say 20-30% should be transferred to fund for HRC
from P&L A/C. At the same time with the same amount Human Resource Asset
should be capitalized by debit to HRC A/C and credit to Human Resource Adjustment
Account (This is revaluation of human resource asset on showing better performance).
At the time of leaving/death of employee reverse entry will be passed.

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Merits

(a) This model provides both valuation of Human Resources and accounting entry
for them.

(b) Valuation has been done in such a way that employees are motivated to achieve
the organization goals. Naturally, they will strive for their higher valuation so
that next year they may get incentive for that in next year.

(c) Value of human resources can be ascertained at any time from Balance-Sheet
and value can be decided for each employees.

(d) This model also uses valuation principals of Lev and Schwartz Model. So it also
has strong points of that model.

(e) It describes the procedure to remove the human resource item from Balance
Sheet in case any employee leaves/dies.

(f) It suggest the use of human resource fund only for employee welfare purposes
or wiping off of abnormal losses due to leaving/death of employee, so it
contributes to employee welfare and productivity. In this sense it also
contributes to moral side of accounting.

(g) Basis of Incentive on extra performance over normal performance is valuation

of previous year so that it can control on high turnover rate of employees which
is major problem today.

Demerits

(a) The calculation process is lengthy and cumbersome.

(b) Calculation of Human Resource value for each employee is also being difficult.

(c) Lev and Schwartz valuation principles have been used at one point of time so it
may have some of the weaknesses of that model.

3.1.2 Non-Monetary Models

Non-Monetary models are basically behavioural models that take into consideration
various behavioural aspects relating to Human Asset of an organization such as

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attitude, behaviour, motivation, perception, performance, leadership style, etc., to

judge the performance of the organization.

3.1.2.1 Likert’s Causal, Intervening, and End-result Variables Model

The basic thrust of Likert's (1967) work has been to investigate the relationship
between the system of management used by a firm and the productivity of the
organization. As a result of the study, Likert and Bowers (1968) has attempted to
formulate a model of the variables which determine the effectiveness of a firm's
"human organization" (the groups of people that comprise the firm), and, in turn, the
effectiveness of the enterprise as a whole.

Since the resulting model identifies the determinants of the productive capability of
the human organization, it thus reflects the value of that human organization. This
model is comprised of three classes of variables: "causal," "intervening," and "end-
result." They are defined as follows:

(i) The causal variables are independent which can be directly or purposely altered
or changed by the organization and its management and which, in turn,
determine the course of developments within an organization.

(ii) The intervening variables reflect the internal state, health, and performance
capabilities of the organization, e.g., the loyalties, attitudes, motivation,
performance, goals, and perceptions of all members and their collective capacity
for effective action, interaction communications, and decision making.

(iii) The end-result variables are the dependent variables which reflect the results
achieved by that organization, such as its productivity, costs, scrap loss, growth,
share of the market, and earnings.

According to Likert, the causal and intervening variables describe the internal state of
the organization as a human system. Causal variables (which include organizational
structure, managerial leadership styles, and organizational policies) are believed to
affect "the quality and capabilities of the human organization." In this model, the
"quality and capability" of the human organization are defined in terms of certain
organizational processes such as decision-making, communication, and coordination.

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Other so-called intervening variables are motivation and perception. Thus, the causal
variables influence the intervening variables, which, in turn determine the
organization's end results (See Figure 3.7).

Source: Likert, R. and Bowers, D. G. (1968). Organizational theory and human resource accounting.
American Psychologist, September.
Figure 3.7: Likert's Model of Determinants of a Group's Value to an Organization:
Schematic Relationships among Causal, Intervening, and End Result
Variables

The model shows that the changes in leadership styles, technical proficiency level,
managerial behavior, organizational structure (called the causal variables) result in
changes in the subordinates’ attitudes, motivation, behaviour, loyalties, perception
(called the intervening variables) which produces changes in productivity, innovation,
cost, revenue, quality, output, manpower development (called the end-result
variables). He believes that human resources can ultimately be measured by
predicting a firm's future earnings based on the current status of causal and
intervening variables and then discounting to net present value and allocating a
portion of this value to Human Assets. Figure 3.8 illustrates the elements used to
measure human organizational causal and intervening variables.

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MANAGERIAL AND PEER LEADERSHIP

Support Friendly; pays attention to what you are saying.
Listens to subordinates’ problems; encourages subordinates to work as a
Team Building
team encourages exchange of opinions and ideas.
Goal Emphasis Encourages best efforts; maintains high standards.
Shows ways to do a better job; helps subordinates plan, organize and
Help with work
schedule; offers new ideas, and solutions.
ORGANIZATIONAL CLIMATE
Communication flow Communication flow is amicable.
Subordinates know what is going on; superiors are receptive.
Decision making practices

Subordinates are involved in setting goals; decisions are made at levels of

Concern for persons accurate information; persons affected by decisions are asked for their
ideas; know-how of people at all levels is used.
The organization is interested in individual’s welfare; tries to improve
Influence on department
working conditions; organizes work activities sensibly.
Technological adequacy From lower level supervisors, employees who have no subordinates.
Improved methods are quickly adopted; equipment and resources are well
managed.
Differences and disagreements are accepted and worked through; people
Motivation in organization work hard for money, promotions, job satisfaction and to
meet high money, promotion, job satisfaction and to meet high
expectations from others and are encouraged to do so by policies, working
conditions, and people.
GROUP PROCESS
Planning together, coordinating efforts.
Making good decision’s solving problems.
Knowing jobs and how to do them well.
Sharing information.
Wanting to meet objectives.
Having confidence and trust in other members.
Ability to meet unusual work demands.
SATISFACTION
With fellow workers; superiors; jobs; this organization compared with others; pay; progress in the
organization upto now; chances for getting ahead in the future.

Source: Likert, R. & Bowers, D.G. (1973). Improving the accuracy of P/L reports by estimating the
change in dollar value of the human organization. Michigan Business Review, 25, March, pp. 15-24.

Figure 3.8: Elements Used to Measure Organizational Human Resource Causal and
Intervening Variables.

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Likert states that a certain pattern of causal variables yields certain levels of intervening
variables which in turn lead to certain levels of end-result variables. Furthermore, he has
some research evidence to support this belief. He contends that a management style he
refers to as participative management, where managers support their subordinates rather
than dictate to them, yields more favorable attitudes as measured by such intervening
variables as confidence and trust in superiors, ease and accuracy of communication, and
group loyalties. He has found significant relationships but feels that the end-result
variables currently in use can distort the analysis by failing to include measures of
changes in human resources. He argued that the philosophy and practice of conventional
accounting concentrate on a few end-result variables which are consistent with the
exploitative type of management style. As an interim step, Likert (1971) has
recommended that the status of a firm's causal and intervening variables be measured and
reported periodically so that their impact can at least be considered subjectively.

Merits

(a) The model unfolds the magnitude of human resource contribution to accomplish
the objectives of the organization and can be used as a means to formulate
policy to build long term human resource capabilities.

(b) It indicates the probable effects of management style on the results of the
organization both in the short run and in the long run.

Demerits

(a) The model assumes linear relationship between causal, intervening and end-result
variables after allowing for time lag effects which reduces the degree of reliability.

(b) It is an expensive and time-consuming model.

(c) The questionnaire duly completed by members of the organization forms the
basis of all subsequent calculations. Hence, different people may not arrive at
the same value due to personal bias of the respondents.

(d) The completed questionnaire requires interpretation which again will be subjective.

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3.1.2.2 Myers and Flowers’s Behavioural Model

Myers and Flowers (1974) developed a model which is conceptually akin to the framework
used by Likert and Bowers. The model is based on the premise that the value of an
employee to his firm rests on his attitude towards the job assigned, his superiors, peers,
working conditions and the organization as a whole. The performance of an employee that
represents his value to the firm is conduced to be a function of five variables viz., his
knowledge, skill, health, availability, and attitude. These variables are considered to be
highly inter-related with the attitude-variable having the greatest impact on the end result of
the other four variables, i.e., performance. Thus, measurement of an individual’s value is
taken to be based on his attitude score. The model derives a monetary measure of the value
by multiplying the attitude score by the annual salary of the individual concerned. The
difference between this value and the employee’s annual earnings is, thus, taken to be the
gain or loss of the firm by retaining the employee.

Merits

(a) The attitude score is a meaningful indicator of the extent to which applied skills
enable the firm to derive an adequate return on the investment in salaries.

Demerits

(a) The application of the model leads to a rather crude and subjective outcome.
The subjectivity involved is mainly due to the difficulty of measuring an
employee’s attitude scores.

(b) It is quite expensive to compute the attitude-score for each employee

individually.

(c) The information so provided may not be accepted widely by external users of
accounting data because of its high degree of subjectivity.

3.1.2.3 Flamholtz’s Behavioral (Social and Psychological) Model

Flamholtz (1972) developed a model of an individual's value to an organization. This

model identified social and psychological as well as economic variables and
synthesized or integrated these variables in order to explain the nature and
determinants of an individual's economic worth to an organization.

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Although the model is complex, it can be described briefly: The individual brings certain
attributes to the organization: cognitive abilities such as intelligence; and personality traits
such as need for achievement. These individual attributes are the source of work-related
value determinants: the person's skills, activation level (motivation), and attitudes.
However, the individual is not valuable to a firm in the abstract; he is valuable in relation
to the roles (positions) he can or will potentially occupy. Organizational attributes of
structure and management style determine the roles and rewards available within the
organization; and these organizational determinants interact with the individual
determinants to produce the elements of conditional value (productivity, promotability,
and transferability) and the person's satisfaction with the organization. Satisfaction and
the latter variable (conditional value) produce the ultimate construct-the person's expected
realizable value. This model is graphically portrayed in Figure3.9. Like the Likert model,
most of these variables can be measured in non-monetary terms using social and
psychological measures. Thus, they can be used as non-monetary measures of changes in
the value of human resources.

Source: Flamholtz, E. (1972). Toward a theory of human resource value in formal organizations. The
Accounting Review, October.
Figure 3.9: Model of the Determinants of an Individual’s Value to a Formal Organization

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Merits

(a) The model identified social and psychological as well as economic variables and
synthesized or integrated these variables in order to explain the nature and
determinants of an individual's economic worth to an organization.

Demerits

(a) It is a complex model.

(b) It is a difficult to value behavioural aspects of a individual.

3.1.3 Contribution Based Model

3.1.3.1 Singh’s Human Resource Valuation Model

Singh (2002) has developed a contribution based model for valuing human resource.

The model is divided into two stages:

1. Measurement of Value of Each Individual

The value of each individual working in an organization is based on the contributions

made by that person to the organization for which organization incurs certain costs. The
cost incurred by the organization is generally less than the contribution made by the HR.

X1 = { [ (AC+DC+CRC) X KPAI X JSI] + [FRC X PAI] } X {EI}

Where:
X1 = Value of one employee having number 1
AC = Acquisition Cost
DC = Development Cost
CRC = Current Retention Cost (Gross Emoluments including maintenance and
separation cost)
KPAI = Current Performance Appraisal Index (Key Performance Areas Index)
JSI = Job satisfaction Index
FRC = Future Retention Cost (Future Gross Emoluments including maintenance
and separation cost)
PAI = Potential Appraisal Index
EI = Experience Index

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2. Measurement of Total Human Resource Value (THRV)

After having calculated HR value for all employees, add all individual values and
multiply the total value with, OCI, EFI, LTI, LUI, and OPE.

THRV = (X1+ X2+ X3+……+ Xn) (OCI) (EFI) (LTI) (LUI) (OPE)
Where:
X1, X2, …….Xn are employees of the organization from 1 to n.
OCI = Organizational Climate Index
EFI = Efficiency Index
LTI = Labour turnover Index
LUI = Labour Unrest Index
OPE = Output per Employee Index

The model is based on the premise that the benefits from Human Resource will accrue
for a longer period of time. Hence, the cost incurred on Human Resource: acquisition
cost, development and retention costs should be properly capitalized and only duly
allocated portion should be incorporated in the Profit and Loss account. The
capitalised portion of Human Resource Cost should be shown in the Balance Sheet on
the basis of expected future benefits. This would entitle the human resource
information a place in the Income statement and the Balance sheet. Other factors,
which are relevant for management accounting, are also taken into consideration as
they help the management for the decision-making purposes.

Merits

(a) As the model is based on determining the value of individual human resource
and total human resource value of an organization, it is useful for decision
making about the individuals and the organization as a whole.

(b) It is a comprehensive model, which takes into account various organizational

and environmental factors that are important for valuing human resource.

(c) This model segregates all the historical costs incurred as well as committed to be
incurred in future for the purpose of Human Resource Financial Accounting
Information System.

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(d) This model takes into consideration various contribution based factors that are
relevant for managerial decision making.

Demerits

(a) There is inherent subjectivity involved in collection of data for valuing human
resource through various questionnaires.

3.1.3.2 Singh and Rastogi’s model for Human Transformation

Singh and Rastogi (2001) proposed a model for Human Transformation and showed
the different stages of human transformation along with the objectives, and milestones
for each stage with the ultimate aim of achieving perfection in all activities (0 defect
level ). Model for human transformation provided step by step guidelines for the
organization that are making a conscious effort to develop their human capital to
achieve perfection. It is in continuations of earlier model proposed by singh, 2002.
This will provide an insight how an organization can improve using the information
provided by the model. The final spiritual needs were realized by Maslow too
(through later) as the Sixth need in the Maslow need hierarchy theory. This model
also provides a comparison between the 5 level PCMM (Curtis, Hefley & Miller,
1995, cited in Singh & Rastogi, 2001) and the Six levels of Human Transformation
and hope that the proponents of the P- CMM will also in due course of time realize
the need for giving attention to the need for spirituality and wisdom based
management leading to perfection, a stage beyond optimization, by the transformation
of human beings which is sustainable.

Level 1 for an organization is in spirit similar to being an infant, who can be groomed
in any way, and it is the direction that generally determines the future successes and
failures of the child.

As the stage of infancy is followed by growing up of the infant into a toddler who by
relentless efforts, imitation of the grownups, trial and error develops the capability to
walk which then stays with him for the rest of his lifetime barring any acts of GOD,
similarly the organization must now let go of the beginners luck and develop in
themselves native capabilities by way of training and other such initiatives.

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The third stage for an organization is quite similar to a child going to school where he
is for the first time exposed to the outside world and learns participatory culture and
develops knowledge and competency.

The fourth stage/Level 4 is quite similar to the real life where the child who has now
matured into an adult has to work in a team keeping in mind the organizational
objectives. The organizations who are not able to transform their people to work in
teams fall in the category of the organizations who do not survive for longer periods.

The organizations that survive by managing these mismatches look for optimization
(Stage 5/ Level 5) which is quite similar to the period of fastest growth for an
individual (25 - 35 yrs of age). This requires continuous improvement and value
addition by innovation. Hence, there is a need to measure and understand HVA.

Figure 3.10: Model for Human Transformation

Source: Singh, A. K., & Rastogi, L. (2001). Human value added. Delhi Business Review: An
International Journal of SHTR, 2 (1), 21-34.

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3.1.3.2 Gowda’s Asset Valuation Model

Gowda (1998) developed a model which incorporates both the acquisition and
development costs, and qualitative aspects of human resources. The acquisition and
development costs comprise of the common acquisition and/or development costs,
and the specific acquisition and/or development costs as many companies recruit
and/or train more than one employee at a time. But, production, productivity, quality
of the end product, profit, profitability, growth, etc., of an organization are largely
conditioned by the efficiency, experience, behaviour, attitude, morale, education,
value system, etc., of labour force. Out of a large number of qualitative factors, he has
incorporated few along with the cost values to show how they influence the value of
the human resources. The qualitative factors are given below:

(i) Individual Factors

a. Index of Educational Qualification
b. Index of Regularity
c. Labour Productivity Index
(ii) Overall Factors

a. Labour Turnover Ratio

b. Index of Man-Days Lost

(CERPLM )H =  ∑ (CERP )
Hn 
 × LH × MH
 
H
 H = H1 

Where:
(CERPLM)H = Value of Human resource of the organization
(CERP)H = Value of an individual after incorporating Index for Educational
Qualification, Regularity and Labour Productivity with
individual’s costs
LH = Labour Turnover Ratio
MH = Index of Man-Days Lost

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Thus, the model for assessing the value of human resource should incorporate the
qualitative aspects of human beings besides the cost factors. Gowda (1998) suggested
that the effect of other factors may also be calculated and incorporated in this model
while valuing the human resource.

Conclusions: Thus, all these models, apart from providing a different approach,
provides a different mechanism for computing the value of an employee to the
organization, being based on different theoretical foundations adapted by researchers
from different disciplines.

This is a paradox, considering the abundant existing and potentially available human
asset measures, including costs, process efficiency, activity levels, resource ratios, and
customer or client ratings; yet these have not produced a widely accepted
measurement system for human asset.

Also the varying requirements in different countries and of different branches seem to
prohibit a unique model of Human Asset Measurement. The guidelines just for
financial reporting differ from, i.e., US-GAAP to IAS (Gebauer, 2003). Therefore,
there is a need to fix the goals of the measurement first and then decide about the
concept to start the evaluation.

3.2 HUMAN ASSET MEASUREMENT BY ORGANIZATIONS IN INDIA

In India, Human Resource Valuation until now has not been introduced as a system in
most of the companies. So far as the statutory requirement is concerned, the
Companies Act, 1956, requires the furnishing of little information about human
resources in the annual reports of the companies. Sec. 217 (2A) of the Companies Act
1956 requires the companies to give the particulars of some employees drawing
salaries above a specified limit in the annual reports of the companies.

The statement to be included in Board's report under subsection (2-A) of section 217
of the Companies Act, 1956 (1 of 1956), shall also contain the following particulars,
namely:-

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(a) Designation of the employee.

(b) Remuneration received.

(c) Nature of employment, whether contractual or otherwise.

(d) Other terms and conditions.

(e) Nature of duties of the employee.

(f) Qualifications and experience of the employee.

(g) Date of commencement of employment.

(h) The age of the employee.

(i) The last employment held by such employee before joining the company.

(j) The percentage of equity shares held by the employee in the company within the
meaning of sub-clause (iii) of clause (a) of sub-section (2A) of section 217 of the Act.

But this section is still silent about Measurement of Human Asset. No significant
information about human asset is mandatory to be shown in the financial statements of
the company. Also, though the Accounting Standard Board (ASB) of the Institute of
Chartered Accountants of India (ICAI), has issued accounting standards on most of the
important areas in accounting and has ensured their implementation by making
accounting standard mandatory, the most regrettable fact is that it has not issued any
accounting standard for the measurement and reporting of the cost and value of human
resources of an organization and the contribution made by them. Due to this fact, a very
large number of organizations are following even to-day, the principles and practices of
conventional accounting.

But still there are some of the companies that do the valuation of human resources and
disclose in their Annual report. Such organizations were identified after reviewing
their Annual Reports from the year 2006-07 to 2010-11.

3.2.1 Public Sector Enterprises

3.2.2 Private Sector Enterprises

3.2.1 Public Sector Enterprises

3.2.1.1 Cement Corporation of India Limited (CCIL)

3.2.1.2 Hindustan Petroleum Corporation limited (HPCL)

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3.2.1.1 Cement Corporation of India Limited

Cement Corporation of India Limited (CCIL) was incorporated as a company wholly

owned by Government of India on 18th Jan 1965. It was established with the
objective to achieve a pioneering and leading position in the exploration of cement
grade limestone reserves and to emerge as a dominant leader in the production of
cement in the country. CCIL branded human resources as ‘Mother Resources’ through
which other scarce resources viz., machines, material, money are organized,
coordinated, directed and controlled.CCIL made an attempt to value its human
resources by working out the present value of anticipated future earnings taking into
account the present pay scales and promotion policies being followed. The
computation has been based on the guidelines and principles enunciated in the
economic models developed by Lev and Schwartz (1971) Eric Flamholtz (1974) and
Jaggi and Lau (1974) with appropriate modifications found necessary.

Table 3.1: Professional Profile of CCIL Employees

No. of employees
S. No. PARTICULARS As on As on
31.3.2012 31.3.2011
1. Post Graduate Engineers 2 2
2. Engineers with MBA 2 1
3. Graduate Engineers 35 25
4. CA/ICWA/SAS 7 9
5. MBBS 0 1
6. MBAs 30 21
7. Engineer Diploma Holders 69 46
8. Professional Diploma holders 24 49
9. Post Graduate 46 55
10. Graduates 138 189
11. ITI Certificate Holders 165 202
12. Others 389 388
TOTAL 907 988

The total value of Human Assets of the company as shown in table 3.2 evaluated on
the lines indicated above is shown in annual report of CCIL under the heading “Our
Employees - Our Greatest Assets”.

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Table 3.2: Total Value of Human Assets of CCIL

As at 31.3.2012 As at 31.3.2011 As at 31.3.2010

CATEGORY Value in Value in Value in

No. of No. of No. of
Lakhs Lakhs Lakhs
Employees Employees Employees
(Rs.) (Rs.) (Rs.)
Executives 65,03.49 122 5810.88 112 6136.80 120
Supervisors 63,73.55 152 6130.41 164 5662.62 174
Skilled workers 70,91.33 254 7681.53 301 5827.97 351
Semi Skilled 35,26.87 168 3391.77 175 2734.33 179

Clerical & other

19,76.06 112 1485.62 127 1952.62 140
Supporting Staff

Unskilled 14,58.61 99 1140.39 109 1438.56 114

Total 2,69,29.91 907 25640.69 988 23752.90 1078

Source: Annual Report of CCIL 2011-12

3.2.1.2 Hindustan Petroleum Corporation Limited

Human Resource Accounting System of HPCL: Hindustan Petroleum Corporation

Limited, a Fortune 500 company, is one of the major integrated oil refining and
marketing company in India. It is a Mega Public Sector Undertaking (PSU) with
navratna status. HPCL considers human dimension as the key to organization’s
success. They give more emphasis on development of human resources to meet new
challenges in the competitive business environment. It recognizes the value of its
Human Assets, which are committed to achieve excellence in all fronts. HPCL
provides the human resource profile as shown in table 3.3 and accounting for
Employees as shown in table 3.4 in its annual report under the heading “Human
Resource Accounting which shows that HPCL has blend of youth and experience.

Table 3.3: Human Resource Profile of HPCL

AGE
21-30 31-40 41-50 Above 50 Total
No. of Employees 1,609 1,295 4,043 4,279 11,226
Management 1,379 885 1,490 1,378 5,132
Non-Management 230 410 2,553 2,901 6,094
Average Age 45

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HPCL has used the Lev & Schwartz Model to compute the value of human resource
as on 31st march 2012.The evaluation is based on the present value of future earnings
of the employees on the following assumption.
• Employees’ Compensation represented by direct and indirect benefits earned by
them on cost to company basis.
• Earnings up to the age of superannuation are considered on incremental basis
taking the corporation into consideration.
• Such future earnings are discounted @8% (2004-05: 8%) being the Weighted
Average Cost of Capital for the year.

Table 3.4: Total Value of Human Asset of Hindustan Petroleum Corporation limited
` /Crore
2011-12 2010-11
Value of Human Resource
Management employees 14,105 11,781
Non Management employees 7,307 6,712
Total 21,412 18,493
Human Assets vis-à-vis Total Assets
Value of Human Assets 21,412 18,493
Net Fixed Assets 20,850 18,645
Investments 10,370 11,335
Net Current asset 10,679 6,984
Total 63,311 55,457
Employee Cost 1,583 2,017
Net profit before Tax (PBT) 1,219 2,346
Ratio (in %)
Employee Cost/Human Resource 7.39 10.91
Human resource to Total resources 33.82 33.35
PRT/Human Resource 5.69 12.69

Source: Annual Report of HPCL 2011-12

3.2.2 Private Sector Enterprise

3.2.2.1 Infosys Technologies Limited

3.2.2.2 Rolta India Limited

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3.2.2.1 Infosys Technologies Limited

Infosys is a leading information technology company that was incorporated in 1981 as an

Infosys Consultants Private limited. In 1992, the company was converted into a public
limited company. In the year 1995-96, it became the first software company to value its
human resources in India. As a standard practice, it reports the value of its employees as
shown in table 3.5 using the Lev & Schwartz model. We have developed a new model to
quantify this value, in partnership with GIST Advisory this year.

The Infosys GIST-HCX Model is based on a present value calculation of the increase
in future earnings of employees during their employment at Infosys. Unlike
conventional models, it also accounts for the impact of attrition on human capital
value, and, therefore, also quantifies the value of the positive human capital
externality being generated by Infosys. Human Capital Externality refers to the
benefit derived by society when employees whose human capital value is enhanced
due to training and employee development at Infosys, leave the company.
Table 3.5: Value of Human Resource of Infosys
in `/ crore, unless stated otherwise
2012 2011 Annual change
Employees (no.)
Software professionals 1,41,788 1,23,811 14.52%
Support 8,206 7,009 17.08%
Total 1,49,994 1,30,820 14.66%
Value of human resources
Software professionals 1,15900 89,507 29.49%
Support 9,817 8,640 13.62%
Total 1,25,717 98,147 28.09%
Value of human capital externality
Software Professionals 6,182 4,702 31.48%
Support 649 563 15.28%
Total 6,831 5,265 29.74%
Total value of human capital and
1,32,548 1,03,412 28.17%
human capital externality
Ratio
Value of human resources per
0.84 0.75 12.00%
employee

Assumptions
• Long run inflation rate assumed at 5%.
• Discounting rate assumed at 4%.

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Table 3.6: Balance Sheet of Infosys Including Intangible Assets

As of March 31, in `/ crore
Particulars 2012 2011
Assets
Current Assets
Cash and cash equivalents 20,591 16,666
Available-for-sale financial assets 32 21
Investment in certificates of deposits 345 123
Trade receivables 5,882 4,653
Unbilled revenue 1,873 1,243
Derivative financial instruments - 66
Prepayment and other current assets 1,523 917
Total current assets 30,246 23,689
Non-Current Assets
Property, Plant and equipment 5,409 4,844
Goodwill 993 825
Intangible assets
Brand value 56,286 40,509
Human resource value 1,25,717 98,147
Other intangible assets 173 48
Available-for-sale financial assets 12 23
Deferred income tax assets 316 378
Income tax assets 1,037 993
Other non-current assets 162 463
Total non-current assets 1,90,105 1,46,230
Total assets 2,20,351 1,69,919
Liabilities And Equity
Current Liabilities
Trade payables 23 44
Derivative financial instruments 42 -
Current income tax liabilities 1,054 817
Client deposits 15 22
Unearned revenue 545 518
Employee benefit obligations 498 140
Provisions 133 88
Other current liabilities 2,456 2,012
Total current liabilities 4,766 3,641
Non- Current Liabilities
Deferred income tax liabilities 12 -
Employee benefit obligations - 259
Other non-current liabilities 109 60
Total liabilities 4,887 3,960
Equity
Share capital 286 286
Share premium 3,089 3,082
Retained earnings 29,816 23,826
Capital reserves-intangible assets 1,82,003 1,38,656
Other components of equity 270 109
Total equity attributable to equity holders of the company 2,15,464 1,65,959
Total liabilities and equity 2,20,351 1,69,919
Notes: The figures are based on IFRS financial statements
Source: Annual Report of Infosys 2011-12

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It incorporates this value in the Balance sheet as shown in table 3.6 that includes
intangibles to provide the information to various stakeholders. The employees of the
organization are adjudged based on these metrics that are additional to the financials.

3.2.2.2 Rolta India Limited

It is a multinational software development and services company, established in 1989.

The economic approach model i.e., Lev & Schwartz model is the basis of calculation
of human resources value of the company. Other HR metric have also been used. The
Company engaged Grant Thornton, leading International Accountants, for the
valuation of Rolta's Human Resources for 2004-05. Using the same principles,
methodology and assumptions, corresponding values for the year 2010-11 have been
computed by the company. Relevant details and figures are reproduced below. The
company considers all direct and indirect benefits earned by employees as a basis for
calculation. Average increment is based on the increment paid during last three years.
Retirement age is taken as per company’s policy. Based on these assumptions human
resource value was calculated as shown in table 3.7 considering different discount
rates for different years to arrive at the present value of future earnings.

Assumptions

The key assumptions used are:

• Employee compensation includes all direct and indirect benefits, earnings both
in India and abroad.

• The average annual increment is based on the increment paid during the last 3 years.

• Retirement age is as per Company policy.

Table 3.7: Value of Human Resource of Rolta India Limited

(` in Millions)
Particulars 2011-12 2010-11
Total value of Human Resources 175,470 170,925
Revenues per employee 5.36 4.65
Net Profit per employee 0.71 1.03
Value of Human Resources per
51.47 43.99
employee
Total Revenue / Total Value of
0.10 0.11
Human Resources (Ratio)

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3.2.3 Comparative Study of HRA System of Selected Companies

In Table 3.8, an attempt has been made to show the various aspects considered for
valuation by these companies for the year 2011-12.

From the table 3.8, it is clear that all the four organizations are using Lev and
Schwartz model for valuation except Cement Corporation of India Limited. CCIL
used the Lev& Schwartz, Flamholtz, Jaggi & Lau model with appropriate
modifications as suitable for the organization to overcome the limitations of Lev &
Schwartz model. In India, the organizations used Lev and Schwartz model for
valuation of human resources though this model has its own limitations. Discount rate
used by the companies to value human resources is to be considered for the purpose
of comparison of status of human resources of different organizations. CCIL did not
disclose the discount rate as well as criteria for discount rate. All the companies
disclosed the determinants of earnings except CCIL. In Table 3.9, human resource
value and number of employees of all selected companies are disclosed for the period
of five years.

Table 3.8: Various Aspects Considered for Valuation

Organization CCIL HPCL Infosys Rolta

Year of
introducing 1979-80 1981-82 1995-96 2002
HRA
Human
Title used for ‘’Our Employees- Human Resource Human Resource
Resource
HRA information Our Greatest Assets’’ Accounting Valuation
Valuation
Lev & Schwartz (1971),
Flamholtz Lev and
Model used for (1974) and Jaggi& Lau Lev and Schwartz (1971). Lev and
valuation (1974) with appropriate Schwartz (1971) Using GIST-HCX Schwartz (1971)
modifications and Jaggi& Model from the
Lau (1974) with year 2010-11.
appropriate modifications
Discount rate per
Not Reported 8.25% 11.21% 9.68%
annum
Criteria for Weight average
Not Reported Not Reported Cost of capital
discount rate cost of capital
Average age 53 years 46years 27 years Not Reported
Direct &
Determinants of Not Reported Direct & Direct & indirect Direct & indirect
indirect benefits
earnings indirect benefits as benefits as cost benefits earned in
earned in India
cost to company basis to company basis India & abroad
& abroad

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Source: Annual reports of the companies

Table 3.9: Employees and value of human resources of selected companies for
2007-08 to 2011-12

2007-08 2008-09 2009-10 2010-11 2011-12

HR HR HR HR HR
No. Value No. Value No. Value No. Value No. Value
Year
of (Rs of (Rs of (Rs of (Rs of (Rs
Employees In Employees in Employees In Employees in Employees in
crores) crores) crores) crores) crores)
CCI 1460 160.31 1159 202.85 1078 237.53 988 256.41 907 269.30
HPCL 10949 12730 11246 13147 11291 15654 11248 18493 11226 21412
INFOSYS 91187 98821 104850 102133 113796 113287 130820 135105 149994 1,32,548
ROLTA 4700 10671 4620 13644 4520 15321 3885 17092 3409 17547

Source: Annual Reports of the companies for 2007-08 to 2011-12.

The above table clearly indicates the strength of employees of the CCIL, HPCL,
Infosys, and Rolta. The values of the human resources also disclosed in the table
for different years. The value of human resources is increasing whereas number of
employees is decreasing every year from 2007-08 onwards in case of CCIL. The
value of employees is increasing due to increase in benefits provided to employees.
The value of human resources increased partly due to increase in salary and partly
due to increase in number of employees. The value of human resources increased
1.68 times, 1.68 times, 1.34 times and 1.64 times for CCIL, HPCL, Infosys and
Rolta respectively during the period of study i.e., 2007-08 to 2011-12 (a period of
five years). The human resource accounting information in the annual reports of these
organizations form only a part of the supplementary information. It lacks authenticity,
as it is unaudited. Moreover, not all organizations disclose all the variables that have
been considered for valuation of human resources. None of the organizations
reporting human resource accounting information was providing HRA information as
a part of the income statement and for the balance sheet. Only CCIL and Infosys
disclosed human resource value in ‘Social Balance Sheet’. The value of human
resource shown on the asset side under the head ‘human asset’ and the same amount
was shown under the head ‘contribution towards human resources’ on the liability
side of Balance Sheet. It means that their net value is zero. However, all these
organizations have valued their human resources but it has not been mentioned as to

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how they are treating the huge expenditure incurred by them on hiring, training, and
developing their employees.

These are some of the companies in India in private and public sector that recognized
the importance of human resource accounting and started incorporating the value of
human beings as unaudited supplementary information in their published Annual
Accounts. But there are companies who earlier started the practice of accounting their
Human Resource but now discontinued the practice. R.G. Barry Corporation, the first
to implement HRA system, has in fact discontinued the practice of accounting for
Human Assets. Similarly, some of the companies in India for e.g., SAIL, BHEL, etc.,
which earlier in 1990s showed the value of human resource in their annual reports
have now discontinued this practice i.e., no human resource value is depicted in the
annual reports. Singh (2002) provided the list of companies after scanning the annual
reports of the companies for the period 1985-86 to 1991-92 that were using HRA
information in their Annual Reports:

Public Sector Enterprises

1. Bharat Heavy Electricals Limited (BHEL),

2. Canbank Financial Services Limited (CANFINA)
3. Cement Corporation of India Limited (CCIL)
4. Engineers India Ltd. (EIL),
5. Hindustan Petroleum Corporation Limited (HPCL)
6. Hindustan Zinc Limited (HZL)
7. Madras Refineries Limited (MRL),
8. Maruti Udyog Limited (MUl)
9. Metallurgical and Engineering consultants India Limited (MECON),
10. Minerals and Metals Trading Corporation of India Ltd. (MMTC),
11. National Thermal Power Corporation Limited (NTPC) ,
12. Oil and Natural Gas Commission (ONGC),
13. Oil India Ltd. (OIL),
14. Steel Authority of India Limited (SAIL)

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Private Sector Enterprises

1. Associated Cement Companies (ACC),
2. Southern Petro- Chemical Industries Corporation (SPIC),
3. Infosys Technologies Ltd. (ITL)

Thus, Human Asset Measurement is still in its infancy in India because it has not been
introduced as a system. Sec. 217 (2A) of the Companies Act 1956 requires the
companies to give the particulars of some employees drawing salaries above a
specified limit in the annual reports of the companies. But the section is still silent
about Measurement of Human Asset and the contributions made them. The ICAI has
not been able to bring any definite Accounting Standard on measurement and
reporting of human resource cost and value. Thus, the accountants are yet to mentally
accept the concept of human beings as assets and adopt a suitable system for
accounting of Human Assets.

It may be noted that contributions discussed in chapter 2 and 3 are not exhaustive list
of scholars in the field of human asset measurement, but an attempt has been made to
incorporate the major contributions.

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