Chittagong University Center for Business Administration

ACC-642: Contemporary Issues in Accounting

Topics:
1. Human Resource Accounting : An Overview
2. HR Costs and External Financial Reporting

Instructor:
Md. Kowsar Hamid
Assistant Professor
Department of Accounting
Faculty of Business Administration
University of Chittagong
[email protected]
01731-336103

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 Human Resource Accounting: An Overview

# Meaning and Definition of Human Resource Accounting:

The concept of human resource accounting can be better understood if one goes through
some of the important definitions given by the competent authors in the accounting field.
1. The American Accounting Society Committee on Human Resource Accounting
defines it as follows:
“Human Resource Accounting is the process of identifying and measuring data about
human resources and communicating this information to interested parties.” In simple
terms, it is an extension of the accounting principles of matching costs and revenues and
of organizing data to communicate relevant information in financial terms.

2. Mr. Woodruff Jr. Vice President of R. G. Batty Corporation defines it as follows:

“Human Resource Accounting is an attempt to identify and report investments made in
human resources of an organization that are presently not accounted for in conventional
accounting practice. Basically it is an information system that tells the management what
changes over time are occurring to the human resources of the business.”

3. M.N. Baker defines Human Resource Accounting as follows:

"Human resource accounting is the term applied by the accountancy profession to
quantify the cost and value of employees to their employing organization"

"The measurement of quantification of human organization inputs such as recruitment,

training, experience and commitment"

Thus, human resources accounting may be defined as, “a process of accounting which
identifies, quantifies and measures human resources for the use of management to cope
up with the changes in its quantum and quality so that equilibrium could be achieved in
between the required resources and the provided human resources”

In short, human resource accounting is the art of valuing, recording and presenting
systematically the worth of human resources in the books of account of an organization.
This definition brings out the following important characteristic features of human
resource accounting:

1. Valuation of human resources.

2. Recording the valuation in the books of account.
3. Disclosure of the information in the financial statements of the business.

HISTORICAL DEVELOPMENT OF HRA

The traces of a rudimentary HRA can be found in the Medieval European practice of
calculating the cost of keeping a prisoner versus the expected future earnings from him.
The prisoners in those days were seen to be the general property of the capturing side.
Consequently, after the victory a quick decision regarding whether to capture a prisoner
or to kill him had to be taken based on the costs involved in keeping him and the benefits
accruing from killing him. However, these represented very rough measurements with

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limited use. The development of HRA as a systematic and detailed academic activity,
according to Eric G Falmholtz (1999) began in sixties. He divides the development into
five stages. These are:

First stage (1960-66): This marks the beginning of academic interest in the area of HRA.
However, the focus was primarily on deriving HRA concepts from other studies like the
economic theory of capital, psychological theories of leadership- effectiveness, the
emerging concepts of human resource as different from personnel or human relations; as
well as the measurement of corporate goodwill.
 
Second stage (1966-71): The focus here was more on developing and validating different
models for HRA. These models covered both costs and the monetary and non-monetary
value of HR. The aim was to develop some tools that would help the organizations in
assessing and managing their human resource/asset in a more realistic manner. One of the
earliest studies here was that of Roger Herman son, who as part of his Ph.D. studied the
problem of measuring the value of human assets as an element of goodwill. Inspired by
his work, a number of research projects were undertaken by the researchers to develop
the concepts and methods of accounting for human resource.
 
Third Stage (1971-76): This period was marked by a widespread interest in the field of
HRA leading to a rapid growth of research in the area. The focus in most cases was on
the issues of application of HRA in business organizations. R.G. Barry experiments
contributed substantially during this stage. (R.G. Barry Corporation: 1971)

Fourth Stage (1976-1980): This was a period of decline in the area of HRA primarily
because the complex issues that needed to be explored required much deeper empirical
research than was needed for the earlier simple models. The organizations, however,
were not prepared to sponsor such research. They found the idea of HRA interesting but
did not find much use in pumping in large sums or investing lot of time and energy in
supporting the research.
 
Stage Five (1980 onwards): There was a sudden renewal of interest in the field of HRA
partly because most of the developed economies had shifted from manufacturing to
service economies and realized the criticality of human asset for their organizations.
Since the survival, growth and profits of the organizations were perceived to be
dependent more on the intellectual assets of the companies than on the physical assets,
the need was felt to have more accurate measures for HR costs, investments and value.
 
An important outcome of this renewed interest was that unlike the previous decades,
when the interests were mainly academic with some practical applications, from mid 90s
the focus has been on greater application of HRA to business management. Different
types of models to suit the specific requirements of the organizations have been
developed incorporating both the tangible and the intangible aspects. Also, larger number
of organizations actually began to use HRA as part of their managerial and financial
accounting practice.
 

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Today, human and intellectual capital is perceived to be the strategic resources and
therefore, clear estimation of their value has gained significant importance. The increased
pressures for corporate governance and the corporate code of conduct demanding
transparency in accounting have further supported the need for developing methods of
measuring human value.
 
In Bangladesh, human resource valuation has not yet been institutionalized though, as
mentioned above, many public as well as private have adopted HRA.

# The main objectives of a HR Accounting system are as follows:

1. To furnish cost value information for making proper and effective management
decisions about acquiring, allocating, developing and maintaining human resources
in order to achieve cost effective organizational objectives.
2. To allow management personnel to monitor effectively the use of human resources
by the management.
3. To have an analysis of the human asset i.e. , whether such assets are conserved,
depleted or appreciated.
4. To aid in the development of management principles, and proper decision making
for the future by classifying financial consequences, of various practices.
5. To facilitate the effective and efficient management of human resources.
6. To make external financial reporting more informatiove by including HR Value.
7. In all, it facilitates valuation of human resources, recording the valuation in the
books of account and disclosure of the information in the financial statement.
8. Further, it is to help the organization in decision making in the following areas:
a) Direct Recruitment Vs promotion.
b) Transfer Vs. Retention.
c) Retrenchment Vs. Retention
d) Impact on budgetary controls of human relations and organizational behaviour.
e) Decision on reallocation of plants, closing down existing units and developing
overseas subsidiaries etc.

# Importance/Advantages of Human Resource Accounting:

Human Resource Accounting provides useful information to the management, financial
analysts and employees as stated below:
1. Human Resource Accounting helps the management in the Employment, locating
and utilization of human resources.
2. It helps in deciding the transfers, promotion, training and retrenchment of human
resources.
3. It provides a basis for planning of physical assets vis-à-vis human resources.
4. It assists in evaluating the expenditure incurred for imparting further education and
training in employees in terms of the benefits derived by the firm.
5. It helps to identify the causes of high labour turnover at various levels and taking
preventive measures to contain it.
6. It helps in locating the real cause for low return on investment, like improper or
under-utilization of physical assets or human resource or both.

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 7. It helps in understanding and assessing the inner strength of an organization and
helps the management to steer the company well through most adverse and
unfavourable circumstances.
8. It provides valuable information for persons interested in making long term
investment in the firm.
9. It helps employees in improving their performance and bargaining power. It makes
each of them to understand his contribution towards the betterment of the firm vis-
à-vis the expenditure incurred by the firm on him.

# Benefits of Human Resource Accounting

The concept of human resource accounting covers the people who constitute a valuable
resource of an enterprise and information on the investment and value of such resources
is useful for internal and external decision-making. Such accounting is of permanent
importance to the nation and also to individual organizations. The following are the main
benefits of Human Resource Accounting:

1. Helpful in proper interpretation of Return on Capital Employed.

The human resource accounting will disclose the value of human resources. This will
help in proper interpretation of return on capital employed. Such information will give
long-term perspective of the business performance which could be more reliable than the
return on capital employed based on net profit only.
2. Improves managerial decision-making. The maintenance of detailed records relating
to internal human resources (i.e. employees), will improve managerial decision-making
specially in situations like direct recruitment versus promotion, transfer versus retention,
retrenchment or relieving versus retention, utility of cost reduction programmed in view
of its possible impact on human relations and impact of budgetary control on human
relations and organizational behavior and decision on relocating plants, closing down
existing units, developing overseas subsidiaries etc. Thus, the use of HRA will definitely
improve the quality of management.
3. Serves social purpose. It will serve social purpose by identification of human resource
as a valuable asset which will help in prevention of misuse and under use due to
thoughtless or rather reckless transfers, demotions, lay offs and day to day maltreatment
by supervisors and other superiors in the administrative hierarchy; efficient allocation of
resources in the economy; effecting economy and efficiency in the use of human
resources and proper understanding of the evil effects of avoidable labor unrest/disputes
on the quality of the internal human resources.
4. Increases productivity. It will have the way for increasing productivity of the human
resources because, the fact that a monetary value is attached to human resources, and that
human talent, devotion and skill are considered as valuable assets and allotted a place in
the financial statements of the organization, would boost the morale, loyalty and initiative
of the employees, creating in their mind a sense of belonging towards the organization
and would act as a great incentive, giving rise to increased productivity.
5. Invaluable contribution to humanity. HRA will be an invaluable contribution for
accounting to humanity and it will lead to improve human efficiency while preserving
human dignity and honor. For this, a basic change in individual behavior, attitude and

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thinking is required. HRA will help in realizing the value of human resources and, thus,
will influence the individual behavior, attitude and thinking in the desired direction.
6. Essential where the human element is the prime factor. HRA is absolutely essential
in such organizations where human element is the prime factor, e.g., a professional
accounting firm, a drama company, a solicitor and attorney firm, an educational
institution etc.
7. Helps in investment decisions. The value of a firm’s human resources is helpful to
potential investors and other users in making long-term investment decisions.
8. Completes MIS. Human resource data would create a more complete management
information system as it can provide information of vital importance for both short-term
and long-term decision-making as well as performance measurement. It will provide
adequate basis for decision on allocation of resources e.g. budgeting, capital expenditure
decisions and better measurement of resources of an organization. Performance
measurement helps in assessing the strengths and shortcomings of an organization and
helps in making better promotion policies.
9. For successful operation of an organization. The success of an organization very
much depends on the build up of quality work force at all levels. The success stories of
BHEL, ITC, Hindustan Lever, Larsen & Toubro and several other enterprises are largely
due to the emphasis on human resource development. IF this vital asset is not shown in
the balance sheet, to that extent the public and investors are handicapped.

# Limitations of Human Resource Accounting:

Human Resource Accounting is the term used to describe the accounting methods,
system and techniques, which coupled with special knowledge and ability, assist
personnel management in the valuation of personnel in financial terms. It presumes that
there is great difference among the personnel in their knowledge, ability and motivation
in the same organization as well as from organization to organization. It means that some
become liability too instead of being human assets. HRA facilitates decision making
about the personnel i.e., either to keep or dispense with their services or to provide
training. There are many limitations which make the management reluctant to introduce
HRA. Some of the attributes are:
1. There is no proper clear-cut and specific procedure or guidelines for finding cost
and value of human resources of an organization. The systems which are being
adopted have certain drawbacks.
2. The period of existence of human resource is uncertain and hence valuing them
under uncertainty in future seems to be unrealistic.
3. There is a fear that HRA may dehumanise and manipulate employees.
4. For e.g., an employee with a comparatively low value may feel discouraged and
develop a complex which itself will affect his competency to work.
5. The much needed empirical evidence is yet to be found to support the hypothesis
that HRA as a tool of the management facilitates better and effective management
of human resources.
6. In what form and manner, their value to be included in the financial statement is the
question yet to be classified on which there is no consensus in the accounting
profession.

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 7. As human resources are not capable of being owned, retained and utilized, unlike
the physical assets, there is problem for the management to treat them as assets in
the strict sense.
8. There is constant fear of opposition from the trade unions as placing a value on
employees would make them claim rewards and compensations based on such
valuation.
9. Another question is, on value being placed on human resources how should it be
amortized. Is the rate of amortization to be decreasing, constant or increasing?
Should it be the same or different for different categories of personnel?
10. In spite of all its significance and necessity, tax laws do not recognize human beings
as assets.
11. There is no universally accepted method of human asset valuation.
12. As far as our country is concerned human resource accounting is still at the
developmental stage. Much additional research is necessary for its effective
application.
13. There is still no specific IAS on HRA.

# Assumptions of Human Resource Accounting:

As an important branch of accounting, the following are the assumptions of Human
Resource Accounting:
1. HR provides benefits to an organization in a fashion similar to the manner in
which financial and physical resources provide benefits.
2. The benefits associated with both conventional assets and HR value to the
organization because these benefits contribute in some way to the
accomplishment of organization’s goal.
3. The acquisition of HR typically involves an economic cost, and the benefits
associated with such resources can reasonably be expected to contribute to
economic effectiveness. It follows, therefore, that these benefits are essentially
economic in nature and are subject to measurement in financial terms.
4. Since the usual accounting definition of an asset involves the right to receive
economic benefits in future, human resources are appropriately classified as
accounting assets.
5. It is theoretically possible to identify and measure HR costs and benefits with an
organization.
6. Information with respect to HR costs and benefits should be useful in the process
of planning, controlling, evaluating and predicting organizational performance.

# “Human Resource Accounting is unnecessary for an organization”. Do you agree?

Why?
Answer: I do not agree with this statement, because-
a) HRA is required as HR is an integral asset of an organization. Just as other
physical assets, HR also should be evaluated and reflected I the financial
statements. Otherwise, the statements will not show the appropriate picture of the
financial status of an organization.
b) For the above reason, HRA will aid as the basis of long-term investment decision
by the investors.

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 c) HRA discloses the value of the human resources of an organization.
d) HRA provides a better basis for managerial decision-making. Specially, in the
situation where managers need to choose between alternatives like layoff or hire,
retrenchment or replacement, transfer or suspension, etc.
e) HRA aids in increasing productivity of the employees as they will get a moral boost
knowing that they are evaluated for their work and contribution.
f) HRA even serves social purpose as it communicates to the society that human
resource are a valuable asset and thus, should not be misused or under-used.
g) HRA develops the MIS of an organization more informative and accurate and thus
help in decision making.
h) HRA improves the quality of the work force of an organization.

Therefore, due to above all advantages derived from HRA, I disagree with the given
statement that HRA is unnecessary for an organization.

# “HRA reminds the slavery system of the past.” Do you agree? Explain.

Answer: No, I do not agree with the given statement. This is one of the common
objections against HRA. Although the fact that valuation of human resources and their
treatment in HRA is look like the slavery system of the past, but there is no reason to
accept the statement. The following are the differences between the past slavery system
and the present concept of HRA:
a) Slaves in the past were traded and were owned just like other commodity and they
have no rights of their own. Though the employees are ‘legally owned’ to some
extent by accepting the terms of employment but they have some rights legally given
to them. They cannot be treated as like as slaves of the past.
b) HR has the right to get Casual Leave, Salaries, Bonuses, incentives, etc.
c) Slaves were traded against their will/desire, but employees are free to accept the
terms of the employment or terminate it. They, in some cases, are even happy and
proud of being an employee of certain organizations.
d) Treatment to slaves in the past, in most cases, was inhuman to some extent.
Treatments to employees, however, depend on the employer and in most cases, are
guided by law. The employers cannot violate the rights of the employees if they want.
e) HRA is still at its developing stage and there are many methods that have and are still
being developed to evaluate the human resources of an organization. However, there
were no such methods to determine the price or value of the slaves in the past.

For all of the above reasons, it can be said that ‘HRA reminds the slavery system of the
past’ is merely a weak arguments against HRA and it has no logic.

# “The Valuation of HR is helpful to the potential investors for making long-term

investment decision”. Do you agree? Explain.

Answer: Yes, I do agree with the given statement for the following reasons:

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 a) HRA discloses the human value as assets in the financial statements making them
more accurate and thus, helps to calculate more accurate accounting ratios.
b) HRA evaluates not only the cost incurred for human resources, but also the benefits
derived from them, thus, more accurately present the operating results of an
organization.
c) HRA improves the Management Information System (MIS) of an organization by
including more information and more accurate data about human resources. Long-
term investment decision might be beneficial from this information.
d) Without HRA, the expenses incurred for training and development of HR is shown
as revenue expense, and thus have the impact only on the short period but not future
accounting period, whereas HR benefits the organization for a longer period of time
like other capital asset. This impact on financial statements may influence the long-
term investment decision of the investors.
e) HR value may be used as the basis of determination of the future profitability of an
organization because more value of HR indicates more experienced and more
qualified employees of an organization.

For the above reasons, I believe that HRA is helpful for potential investors in making
long-term decision.

# Three (3) tests of Human Resources as Asset:

There are three tests for determination of HR as assets. The tests are as follows:
1. Expectation of future economic benefits.
2. The organization’s right to receive these benefits.
3. The benefits generated by HR are measurable in terms of money.

The Human Resources appear to meet tests 1 and 3. Test-1: There can be little doubt that
human resources are, in fact, a source of economic benefits. Because HR serve the
organization for generating benefits in general. Test-3: There is no reason to assume that
these benefits cannot ultimately be measured in some useful manner.

But Test-2: It presents somewhat more difficulty. This right typically considered by
accountants to attach to the legal ownership of an asset. Since human resources cannot be
owned except under conditions of slavery, it seems that they do not meet this test. But
Hermanson proposed that legal ownership is too narrow an interpretation of the right to
receive benefits. He argued that the appropriate criterion is not legal ownership but rather
the operational right to receive the benefits like lease contract.

# Arguments for HR Expenditure as Expense:

The following are the arguments in favor of treating HR Expenditure as Expense:
1. HR are not owned or acquired like other capital assets.
2. Generally there is no contract that prevents the employees from leaving the
organization at any time, except in some cases.
3. Organization gets benefits of services of its HR at the time they perform only
(that is, for short time).

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 4. The future cost and benefits from HR are totally analogous to the case of a
contemplated assets purchase (uncertain benefits).
5. Employment of HR is not a transaction; since HR are not remunerated upon
acquisition, in most cases, thus yielding no objective measure for their value.

Therefore, HR expenditures are expenses as and when the expenditures are

incurred in return for their services in the conventional accounting practices.

# Arguments for HR Expenditure as Assets:

The following are the arguments in favor of treating HR Expenditure as Assets:
1. Definition of wealth as a source of income, inevitably leads to the recognition
of Hr as assets like money, securities, and physical capital.
2. As per future benefit criteria of assets, any HR expenditure should be treated as
assets.
3. Employment related costs in one period give rise to economic benefits in later
periods and such quantify as assets and also such costs might obviate the need
for future costs (for example, Amortization/Depreciation).
4. As per the criteria of benefits must accrue to a specific firm, HR as whole is
constantly associated with the firm and it can be constructively regarded as
being owned by it. HR also interested to be owned by recognized organizations.
5. Expenses are not developed but assets are developed through adding different
quality, skills, and criteria in it. HR being provided training for its development
of full potentials.
6. Management of HR as assets rather than expense would perhaps lead to
comparatively easier adoption of optimal strategies towards its acquisition,
maintenance, and enhancement of its capabilities.

# New Knowledge Added by HRA in accounting field:

1. Emphasis on more disclosure, more broadening of the information base
for the manager and the decision maker.
2. Legal ownership of resources is not important to an economic entity but
rather the right to control such resources and receive benefits from them.
3. Quantifying the aggregate of the contribution/ value of human resources
of the firm; and
4. Positioning the macro figure (economic value) in the final accounting
profile of the firm—in the balance sheet in practical rather than as an appendix to
the annual report for communication.

Thus, HRA is primarily an information system which informs the management about the
changes that are taking place in the human resources of an organization.

# Human Resources as Assets: Objections and Counter Arguments

The objections raised against recognizing HR as assets are as follows:

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 i) Human beings cannot be owned and are incapable of
giving enduring benefits like other material assets, and so they cannot be treated
as assets.
ii) The valuation will be largely subjective (no verifiable
evidence being available).
iii) It reminds the slavery system of the past.
iv) There is a lack of unanimity regarding the valuation of
human resources and problems of their accounting.
v) It is said that cost of evaluating human resources will
be much more than the utility derived from this type of study.
vi) Tax laws do not recognize human resources as assets.

For Counter arguments—See book page-49.

# HRA for managers & HR Professionals:

HR Professionals must perform a wide variety of functional roles. A functional role is a
specific set of tasks and expected output for a particular job. We will briefly discuss the
roles played by two HR Professionals: the HR Executive/ Manager and the HR
Practitioners.

The HR Executive/Manager:

The HR executive/manager has primary responsibility for all HR activities. This person
must integrate the HRD programs with the goals and strategies of the organization, and
normally assumes a leadership role in the executive development program, if one exists.
The outputs of this role include long-range plans and strategies, policies, and budget
allocation schedules.

One of the important tasks of the HR executive is to promote the value of HRD as means
of ensuring that organizational members have the competencies to meet current and
future job demands. If senior managers do not understand the value of HRD, it will be
difficult for the HRD executive to get their commitment to HRD efforts and to justify the
expenditure of funds during tough times. Historically during financial difficulties, HRD
programs and HRM has been a major target of cost-cutting efforts. Unless the HR
executive establishes a clear relationship between HRD expenditures and organizational
effectiveness (including profits), HRD programs will not receive the support they need.

The role of the HR executive has become more important and visible as organization
make the necessary transition to a global economy. The immediate challenge to HR
executives is to redefine a new role for HRD during this period of unprecedented change.

According to Jack Bowsher, former director of education for IBM, when HRD executives
"delve deeply into reengineering, quality improvement, and strategic planning, they grasp
the link between workforce learning and performance on the one hand, and company
performance and profitability on the other." The HRD executive is in an excellent

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position to establish credibility of HRD programs and processes as tools for managing in
today’s challenging business environment.

As organization has adjusted to environmental challenges, the roles played by HR

professionals have changed. Based on the ASTD (American Society for Training and
Development) study results, Pat Mclagan states that contemporary professionals perform
nine distinct roles, which are described below:

1. The HR strategic adviser consults strategic decision makers on HRD issues that
directly affect the articulation of organization strategies and performance goals.
Output includes HR strategic plans and strategic planning education and training
programs.

2. The HR systems designer and developer assist HR management in the design

and development of HR systems that affect organization performance. Outputs
include HR program designs, intervention strategies, and implementation of HR
Programs.

3. The organization change agent advises management in the design and

implementation of change strategies used in transforming organizations. The
outputs include more efficient work teams, quality management, intervention
strategies, implementation, and change reports.

4. The organization design consultant advises management on work systems

design and the efficient use of human resources. Outputs include intervention
strategies, alternative work designs, and implementation.

5. The learning program specialist (or instructional designer) identifies needs of

the learner, develops and designs appropriate learning programs, and prepares
materials and other learning aids. Outputs include program objectives, lesson
plans, and intervention strategies.

6. The instructor/facilitator presents materials and leads and facilitates structured

learning experiences. Outputs include the selection of appropriate instructional
methods and techniques and the actual HRD program itself.

7. The individual development and career counselor assists individual employees

in assessing their competencies and goals in order to develop a realistic career
plan. Outputs include individual assessment sessions, workshop facilitation, and
career guidance.

8. The performance consultant (or coach) advises line management on appropriate

interventions designed to improve individual and group performance. Outputs
include intervention strategies, coaching design, and implementation.

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 9. The researcher assesses HR practices and programs using appropriate statistical
procedures to determine their overall effectiveness and communicates the results
to the organization. Outputs include research designs, research findings, and
recommendations and reports.

# Challenges to organizations and HR Professionals

Many challenges face organizations as a new century unfolds before us. Michael Hitt and
his colleagues have identified increasing globalization and the technological revolution,
in particular, the internet has a two primary factor that make for a new competitive
landscape they suggest a number of actions that organizations can take to address the
uncertainty and turbulence in the external environments. These actions include
developing employee’s skills, effectively using new technology, developing new
organizational structures and building cultures that fosters learning and innovation. These
obviously have a great deal to do with human resource development. We will add to and
build upon that list to present five challenges currently facing the field of HRD.

These challenges include:

1. Changing workforce demographies
2. Competing in a global economy
3. Eliminating the skills gap
4. Meeting the need for lifelong individual learning
5. Facilitating organizational learning.

Each of these challenges has potential impact on HRD.

Though HRA has had its inception in the 1960s, it is an evolving concept, which is still at
nascent stage. Nonetheless, its relevance to organizations is immensely gaining ground.
Armed with various measures and figures, managers and firms can focus on decisions
regarding investments in areas of intellectual capital that will have the greatest payoff for
the firm.
Internally and externally, HRA would provide information to investors and other staff, of
the value of human resources, the returns on investments in training and development and
also the link between HR interventions and financial results.
As a way to assess human capital, HRA represents a new way of thinking strategically.
Boudreau has noted that measures of HRA and benefits can serve a variety of purposes. It
acts as a catalyst for change. It tends to enhance the credibility of the HR functioning for
it was not long back that this function was looked down disdainfully as only a department
to organize picnics for its staff.
HRA also helps persuade others to support investment in HR and also to improve the
quality of HR decisions.
Change is taking place at the tremendous rate. To make it effective and in order to make
the team, HR professionals need to develop the business skills of strategic planning and

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process technology. And the first step towards the sustainable growth is accounting HR in
financial terms.

HR Cost and External Financial Reporting

# Cost of Hunan Resources

As human resource is considered as an asset, any expenditure incurred in the acquisition
and accumulation of human resource will be treated as an investment. Cost of human
resources represents sacrifice that will have to be incurred today to acquire and develop
people in future. The cost of human resource otherwise called Historical cost of human
resources is the investment in human resources which has both Revenue (expense) and
Capital (asset) components. This cost may be classified as follows:
1. Acquisition Cost
2. Training (Development) Cost
3. Welfare Cost and
4. Other Costs

1. Acquisition cost comprised the following costs:-

(i) Recruitment Cost
(ii) Selection Cost
(iii) Placement Cost
(iv) Campus Interview Cost

2. Training (Development) cost includes the following:-

(i) Formal Training Cost
(ii) On the Job Training Cost
(iii) Special Training
(iv) Development Programmes

3. Welfare Cost includes the following:-

(i) Medical Expenditure
(ii) Canteen Expenditure
(iii) Specific and General Allowances
(iv) Children Welfare Expenses
(v) Other Welfare Expenditure

4. Other Costs include the following:-

(i) Safety Expenditure
(ii) Ex-gratia (Voluntary payment for small loss)
(iii) Multi-trade incentives
(iv) Rewarding Suggestions

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The following paragraphs give a detailed enumeration of the various costs involved in the
human resources accounting.

l. Acquisition Cost
It refers to the costs incurred in acquiring the right man for the right job at the right time
and in right quantity. It includes the expenses incurred on recruitment, selection; entire
cost is taken into consideration including those who are not selected.

a) Recruitment cost: It is the cost incurred to identify sources of human resources both
from within and outside the organization. For example, cost of recruiting materials,
administrative expenses, advertising costs, agency fees, recruiter’s salary and travel and
outstation costs.

b) Selection cost: It depends on several factors such as the type of personnel being
recruited and the method of recruitment. The cost of selection depends on the position for
which a person is being selected. The higher the position, the greater is the selection cost.
It includes cost of application blanks, administrative cost of processing applications,
conducting tests, interview, medical examination and the Salaries, materials and
consulting fees of the selectors.

c) Placement cost: In deciding upon the placement, the individual's ability, attitude,
interest, temperament and aspirations are taken into consideration with reference to the
job requirements. The cost of placement can be collected for the purpose of human
resource accounting.

2. Training and Development Cost:

It refers to the sacrifice that must be made to train a person either to provide the expected
level of performance or to enrich the individual's skill. Training improves the
productivity potential of both the individual and the organization. The training cost
includes the following:

a) Formal training cost: It refers to the cost incurred in conventional training for the
orientation of an individual so that he can operate the work. The remuneration to the
training staff and the fixed cost of the training schools are essentially Human Resource
Investment items.

b) On the job training cost: Once the employee is placed on the job, he must be trained
to do the job efficiently and effectively and in this regard the employee learns while he is
on his job. In the process, the costs of mishandling the job, the payments to the employee
more than what he actually contributes are on the job training cost. Thus it is an
Investment in Human Resource.

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c) Special training cost: To achieve the performance standards sometimes specific
training programmes may be devised. Such training gets a distinct human resource to the
organization. The costs of such training are called special training costs fall under the
human resource investment of the organization.

d) Development progrornmes cost: Employees may be allowed to participate in a

variety of development programmes to enrich their faculties. These programmes may
range from ordinary lectures to international conferences and seminars. The participants
have an opportunity to interact with other executives on national and international level.
Such association involves cost such as delegate fees, the travel cost, loss of output during
the development programme etc. which are to be accounted for as a human resource
investment.

3. Welfare Cost:
Management is after all creation and maintenance of an environment. Therefore, it is a
vital function of an employer to provide an atmosphere to the employees to perform their
work in healthy, congenial climate conducive to good health and high morale. The
expenses incurred for this purpose will facilitate the employee to increase the quality of
his civic life. These welfare costs can be classified as follows:

i) Welfare and amenities within the organization: Crèches, rest shelters and canteens,
latrines and urinals, washing and bathing facilities, drinking water and occupational
safety etc. are the welfare facilities provided by the employer within the organization.

ii) Welfare outside the organization: Social insurance measures, maternity benefit,
medical facilities, education facilities, housing, recreational facilities, holiday homes and
leave travel facilities are some of the welfare measures provided outside the
establishment.

4. Other Costs
There are some other costs which include expenditure on employee safety, ex-gratia,
multi-trade incentives and others. In India, Factories Act 1948 has made statutory
provisions with regard to employees' health, safety and welfare as follows:

I) Health of workers
i) Cleanliness, Disposal of waste and effluents
ii) Ventilation and temperature
iii) Dust and fumes
iv) Artificial humidification
v) Overcrowding
vi) Lighting
vii) Drinking water
viii) Latrines and urinals, spittoons etc.

II) Safety of the workers

i) Fencing of machinery

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 ii) Work on machinery in motion
iii) Employment of young persons
iv) Casing of new machines
v) Hoists and lifts
vi) Lifting machines
vii) Pressure plant
viii) Protection of eyes, precautions against dangerous fumes
ix) Tests of stability, etc.

III) Welfare of the workers

i) Washing facilities
ii) Facilities for storing and drying clothing
iii) Facilities for sitting
iv) First aid appliances
v) Canteens
vi) Creches
vii) Welfare Officers

# HR Cost Analysis
HR cost analysis is the study of behavior of cost in relation to one or more HR criteria.
Controlling manpower costs has now become important for organizations, particularly
when we are required to look within for cost savings to sustain organizational growth and
profitability. To enforce control on HR costs, it is essential to develop a checklist at the
outset. This requires grouping of activities under different cost heads and then identifying
the individual cost elements under each head. By developing an HR costs spreadsheet, we
can understand the magnitude of HR costs in an organization. Element-wise cost trend
over the years facilitates regular monitoring and operational control. At the macro-level,
net value added per employee is an indicator of cost efficiency. We have given an
example of such computation for a public sector undertaking over a six-year period, from
the published data of Comptroller and Auditor General (CAG), 1999.

# Developing an HR Costs Checklist

Bramham (1998) developed an indicative checklist for HR costs. However, this checklist
varies from organization to organization due to obvious differences in their practices.
Here we have mentioned about those cost elements which are common in practice.

(a) Remuneration
Remuneration costs include basic pay, dearness allowance, city compensatory allowance,
house rent allowance, conveyance allowance, etc. However, these are paid remuneration
costs. Organizations are also required to cater for deferred benefits to employees, which
we have referred as NWLC earlier. Certain statutory payments to employees are also
accounted under this head, like, contribution to provident fund, pension fund, medical
benefits, payment for holiday, sickness, bonus, etc. To retain and attract talent,
organizations may also give various fringe benefits to their employees. Even the latest
practice to provide stock options to employees involves certain opportunity cost to the
organization. The best practice is to delineate such cost elements and arrange the same in

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the form of a spread sheet. Element-wise cost trends then can be studied over the years
and also can be benchmarked with other comparable organizations to understand the
nature of variance and to enforce control, wherever necessary. Some organizations prefer
to increase the paid wage cost by reducing the NWLC burden. Such strategy is very
effective in cases, where employees are mostly in their exploratory age group (less than
35). This in one way helps the organization to reduce their cost burden and at the same
time to retain young and talented employees. Cost savings certain statutory payments is
also possible by participating in Group Gratuity Scheme, Group Medical Insurance
Scheme, Group Pension Scheme, etc., of public finance institutions, like, Life Insurance
Corporation, etc.

(b) Recruitment
Recruitment cost is also another major cost head for HR. Right from developing job
specifications to describing job requirements, it includes costs of recruitment, promotion
(through advertising), head hunting, evaluation, interviewing, induction and orientation.
A well defined job specification minimizes the search for the right fit and consequent
costs. If recruitment plans are to meet short-tern-requirements, it may be better to
outsource than go in for direct recruitment:

There are many specialized manpower agencies, which make people with required skill
sets available on contractual terms. Similarly, internal hiring also needs to be explored
vis-à-vis external hiring. Internal hiring involves restructuring and relocation costs, a
clear policy on 'promotion from within' (wherever recruitment is made for the higher
posts), etc. A detailed study on cost of hiring is necessary to explore an alternative
recruitment process.

(c) Training Costs

Cordon's (2000) 9-step analysis of ROI on Human Capital has already been discussed in
earlier chapter on 'Skills and multi-skilling'. In fact this 9-step model considers all aspects
of training cost and its benefits. To be more specific, training costs include, cost for
induction period, cost of remuneration for the trainee and trainer, cost of travel for the
trainee and the trainer, if any, cost of training materials, imputed cost of machines and
equipments, used during the training, cost for development of training modules, cost of
training evaluation, cost of material wastage during training, if any, cost of production
loss for the trainee and the trainer (if he is within the organization, for in-house training),
etc. To accurately ascertain cost of training, it is necessary to develop a checklist or a
worksheet, delineating all direct and indirect costs of training. There are various methods
of training delivery, which we have discussed in chapter on 'Training and Development'.
Relative benefits and costs of each such method also need to be weighed to understand
the most cost-efficient system. Any training on skill renewal needs to be weighed in
terms of expanded skill cycle of the trainees. If the trainees are in the higher age bracket
or due to retire within a short span, then offering them voluntary retirement (VR) may be
more cost-effective than putting them on training for skill renewal and skill change.

(d) Relocation Costs

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Many organizations have their policies on periodic relocation of employees as part of
their restructuring exercise. This is more appropriate for those who have their units in
multiple locations. Such decisions from organizational point of view, involve cost related
to disturbance allowance, cost of possible litigation, cost of housing, cost of travel, etc.
Many departmental undertakings and public sector units thoughtlessly relocate their
employees adding costs to the exchequer. For example, in one of the published reports, it
was evident that Indian ordnance Factories spent in one year Rs. 40 crore for relocation
of their employees. Hence relocation decisions must be cost effective or else this will
defeat the purpose, straining organizational viability.

(e) Separation Costs

Relocation also induces separation. There may be other reasons for separation, which
may be either for organizational initiative or for individual employees’ reasons. Since
separation requires replacement, immediate cost-effect is on loss of production. Other
costs of separation are redundancy benefits (if separation is organization induced), ex-
gratia payments (if any), etc. Since separation follows immediate liquidation of fringe
benefits, savings of the organization on this course also need to be considered to compute
the actual costs. Indian organizations have now replicated global practices, to go for
large-scale redundancy. Offering VRS in PSU banks to 99,425 employed at a cost of Rs.
10,073 crore is an example. While this may prove to be effective for obvious reasons of
savings on manpower (redundant) cost, it may also have the ill effect of skill mismatch
(particularly business skills) with new recruits, which will further add to the cost of
separation.

(f) Support Costs

Some of the employee support services are statutory, while others are offered voluntarily
by the organizations. For computing support costs, therefore, it is necessary to distribute
these under two different heads and then study their impact. Medical welfare, canteens,
safety, security, insurance (medi-claim, etc.), death benefits, parking space costs, etc. are
some of the statutory costs for employee support services. While house journal, club
membership, music at workplace, long service awards, suggestion schemes, library
services, holiday homes, etc., are examples of voluntary support services for employees.
Since, employee support services have direct effect on employee motivation, cost
curtailment decisions must have reference to this aspect.

(g) Personal Overhead Costs

Personnel overhead costs spread over personnel record keeping, costs for maintaining
Human Resources Information Systems (HRIS), cost of personnel decisions and overall
costs for maintaining personnel department (salary of the people working in this
department). Outsourcing personnel services to a great extent can reduce such cost
burden. However, its relative merits and demerits need to be studied.

To enforce control over human resource costs, it is necessary to develop worksheets on

each cost element, duly grouping these under different cost heads. Decisions on cost
control need to be weighed in terms of lost opportunity for employee motivation and

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consequent loss of productivity. To understand the trend of HR costs, ratio analysis can
be done from the data collected from the spreadsheet.

# COST REDUCTION
Cost reduction is defined as the achievement of real and permanent reduction in the unit
cost of goods manufactured or services rendered without impairing their suitability for
use intended. Cost reduction must be real and increase productivity. It must be permanent
and should not impair the suitability of products or services for the intended use.

# Scope and Areas of Cost Reduction

The scope of cost reduction is wide and it could be applied to wherever cost is incurred.
In many organizations the cost of human resources is very high. The top management
should find ways by which the cost of human resources is reasonably reduced. Any
abnormal reduction of cost in this regard may lead to unfavorable climate. In autocratic
type of climate the human resources cost will be reduced since the employer is not so
particular about keeping the morale of the employees high and to motivate them for
higher productivity. Since better performance is ensured through fear, threat, punishment
and occasional rewards, there is no need for spending on welfare cost.

In custodial model, over and above their normal salary and wages the workers look out
for welfare measures for which the management has to spend additional amount. So cost
reduction is not fully possible here. In supportive model of organizational behavior, the
management extends leadership and support to the employees for job performance. Here
the employees' needs are met in High Order. So it may lead to increased cost. But their
future performance may be high which may lead to increased productivity and ultimately
lead to cost reductions.

# Future Performance
The human resources cost will increase when custodial and supportive model of
organizational systems are in vogue. The consequent result will be increased work
performance and productivity. When productivity increases it will reduce ultimate cost of
production. Finally, the concepts of increased cost and cost reduction are changing
frequently in regard to the cost incurred on human resources. The future performance of
the human resources depends upon the organizational climate. In autocratic model, of
course, the employer can reduce cost by suppressing the human resources. But such cost
reduction is a temporary one. The workers, who are dissatisfied with work, wait for the
apt time to quit the job which may lead to labor turnover and subsequent increase in cost
due to new recruitment and less productivity. Even workers, who continue, may not
perform up to expectations. In concluding remarks, the human resources, could be stated
as a variable factor which causes both increase in cost and cost reduction which are the
factors dominantly affecting the future performance of the human resource structure of
the organization.

# COST CONTROL THROUGH RESPONSIBILITY ACCOUNTING

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The essence of responsibility accounting, as discussed above, is the collection of costs
according to responsibility centers in order that variances from standard costs and
budgets can be identified with persons, and based on the causes of variances, corrective
actions may be initiated. Reports are prepared to inform a responsibility centre manager
how well he has performed in terms of costs. The purpose is not to indicate failure or to
find fault. To be effective, control must be conceived as a means of locating those
activities and people in the organization in need of help so that assistance can be rendered
and the scarce resources of the firm more effectively utilized.

# Controllable and Non-controllable Costs

For each responsibility centre costs should be classified as controllable and non-
controllable.9 Responsibility accounting is based on the notion that a responsibility centre
manager should be help accountable for controllable costs. A cost is said to be
controllable when it may be regulated by a person at a given level of responsibility during
a specified time period. Non-controllable costs are those costs over which a person, at a
given level of authority and during a specified time period, has no control. Level of
responsibility and time are the two factors which demarcate between controllable and
non-controllable costs. Costs which are not controllable at one level of responsibility
would always be controllable at another level.

For example, factory rent may be non-controllable by the plant superintendent but would
be controllable by the plant manager or by some higher authority. Time also has an effect
on controllability. A cost non-controllable in the short run would be controllable in the
long run. For example, if management has committed to a contract for a period, then it is
not controllable for that period. However, it can be controlled by management at the time
when contract comes up for renewal.

# Responsibility Reporting
Responsibility reporting is the crucial phase of responsibility accounting. Responsibility
reporting requires grouping and defining responsibility within an organization structure,
determining and assigning costs to appropriate levels and activities and placing a strong
emphasis on cost controllability. Reports prepared under responsibility accounting may
be known as performance reports. These reports are prepared with the purpose of:
1. Informing each manager of his achievement in controlling costs of his centre;
2. Pointing out each manager’s accountability for costs incurred; and
3. Presenting cost information in such a way that motivates each manager to take
remedial action for improved future performance.

In preparing performance reports, management should focus attention on three aspects:

(a) frequency of reporting; (b) details to be presented in reports;
(c) format of reports. The amount of details and frequency of reports depend on the
management level

For which reports are being made. First line supervisors, for instance, would need reports
more frequently with considerable details, expressed in physical as well as financial

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terms. Management at higher level, on the other hand, would need condensed reports,
containing only that information that needs their attention and action. Reporting to higher
levels of management would not be too frequent. What is important is that reporting
should be timely; that is, information should be made available to management when it
needs. As regards the format, reports should be comprehensive. They should clearly
indicate activities controllable by the manager. Both actual and budgeted performance
with variances should be given. It is also desirable that explanations, whenever possible,
for the occurrence of variances and the remedial action taken or to be taken may also be
given. The criterion to decide about contents of reports should be the usefulness of
information for indicating accountability and controlling cost. Reports should not be
presented in highly technical and complicated manner. They should be easily understood
even by non-accounting managers.

External Financial Reporting of HR Information

# Why HR Value is to be incorporated in financial statement?

Most of those financial analysts who preferred HRA-incorporated financial reports stated
the following reasons for their preference:
1. HRA-incorporated financial reports seemed to provide a relatively more realistic
picture of both income and financial position.
2. HRA-incorporated financial reports seemed to reflect a more accurate picture of
net worth, return on capital employed, return on investment and debt-equity ratio.
3. Information regarding HR investment in addition to physical and financial assets
investment seemed to be more useful in decision-making for the selection of an
organization for share investment purposes.
4. A total picture of all assets including HR seemed to be very helpful for predicting
an organization’s future financial position which they identified as one of the
main concerns of investors.

# Utility-Value of External Financial Reporting of HRA information:

1. External reporting of information on employees training and development cost
may attract promising personnel.
2. External reporting of information on rewards of employees after proper evaluation
may motivate employees to work more efficiently.
3. External reporting of HRA information may help the investors predict future
performance of an organization and consequently in making optimal investment
decisions.
4. External reporting of HRA information will enable the shareholders to evaluate
the stewardship by management.
5. External reporting of HRA information will help the financial analysts make
proper financial analysis of different organizations.

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 6. External reporting of HRA information will help the government know the correct
financial position of any industry.

# Rationale of Treating Employees as Assets and Putting their Value in External

Financial Reports:
1. The attachment of “legal ownership” to employees is too narrow an argument to
classify them as assets for presentation in external financial reports.
2. The logic of long-term leases may equally apply to manpower because such a
lease is an example of asset treatment where the item is not owned in the legal
sense.
3. The objection of measurement subjectivity of manpower value in respect of
awarding asset status to employees is not very serious since this problem is not
vastly different from that involved in physical capital budgeting, depreciation,
accounting, inventory control models, etc.
4. There is no evidence, which proves that reporting of employees, as assets will be
an insult to human dignity, rather it may prove beneficial as several motivational
theories suggest.
5. The notion that the employees would resent/dislike treatment of them as ‘asset’ is
probably the weakest argument against HRA, since the implementation of such a
system would be accompanied by general upgrading of management practices and
employee morale.
6. Absence of any reference to depreciation allowances in respect of HR from
Bangladesh Tax Law is not a justifiable argument against asset treatment and
write-off of HR, because all sorts of expenses chargeable to revenue as per
accounting principles are not considered deductible expenses in Bangladesh Tax
Law.
7. If different organizations of Bangladesh start practicing external financial
reporting of HR value and demonstrate its usefulness, the government of
Bangladesh may eventually recognize its importance by passing special
ordinances of Companies Act and Income Tax Act.

# Merits of External Financial Reporting of HRA information:

1. Reporting of HRA information in financial statements fulfills the ‘matching of
costs and revenues’ Principle.
2. Reporting of HRA information in financial statements help in fair measurement of
income.
3. Reporting of HRA information in financial statements fulfills the ‘full disclosure’
of information principle.
4. Reporting of HRA information in financial statements depicts a picture of fair
earnings and true financial position.

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 5. Reporting of HRA information in financial statements will enhance the
employees’ motivation and sense of responsibility leading to greater profitability
of an organization.
6. Reporting of HRA information in financial statements will help decision-making
in regard to selection of an organization for investment purposes.

# Constraints in External Financial Reporting of HRA information/Value:

1. No organization has any legal right to own the future services of its manpower
because an employee may leave the firm at any time.
2. Manpower lacks ‘exchangeability’, which means manpower cannot be sold by
one organization to another like physical assets.
3. Lack of quantifiability, verifiability and objectivity of employees’ skills,
intelligence, loyalty, morale and devotion to work hinders measurement and
reporting of HR value.
4. External reporting of employees as assets may make them feel transformed into
physical assets causing ultimately a detrimental effect on their psychology.
5. Cultural constraints and taboos prohibit a monetary measure of HR and hence,
constrain external reporting.
6. Absence of (i) any objective method of measuring humans by attributing
monetary value to them and also (ii) any scheme for HRA.
7. Capitalization of HR Costs as well as allocation of the same for external financial
reporting is a very intricate matter.

# Reasons/Arguments for Recognizing HRA in Bangladesh Tax Law:

1. Giving recognition to HRA in Bangladesh tax law by making a new provision for
normal depreciation allowance in respect of HR will mean giving recognition to
HRA at the National and State level which, in turn, may stimulate the working
capacity of the employees and add to the productivity/ serviceability of the
industry they are serving.
2. HRA recognition in tax law may encourage industries to implement HRA in
accounting practice which, in turn, will help in fair measurement of national
wealth since HRA fulfills the accounting principle of ‘matching of costs and
revenues’.
3. HRA recognition in tax law will hopefully help in fair assessment and recovery of
taxes on the income fairly measured by assesses through application of HRA in
normal accounting framework.

# Reasons/Arguments against Recognizing HRA in Bangladesh Tax Law:

1. There is probably no need to make a tax law provision for normal depreciation
allowance in respect of HR because Bangladesh Tax Law is never a bar to any
assessee’s claiming the entire cost of employee recruitment, hiring, selection,

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 placement, orientation and formal training and development as admissible or
deductible expenditure in the year of incurrence.
2. Absence of any provision for depreciation allowance (from Bangladesh tax law)
in respect of HR is not a problem for any industry’s installing HRA because all
sorts of expenses chargeable against revenue according to normal accounting
principles and practices are not allowed as deductible expenses under tax law.
3. The existing tax accounting personnel may be initially reluctant to readily accept
a new dimension of work on HRA because of the problems of added workload
and complexity in integrating HRA within the prevailing tax accounting
methodology.
4. A problem of cost involvement will arise when a detailed new orientation will be
needed for the tax computing personnel to begin with a new method of human
resource valuation and accounting.

# Reasons/Arguments against Recognizing Extra-Shift (Double or Triple Shift)

Depreciation allowance on HR in Bangladesh Tax Law:
1. The more a person works, the more he/she gains experience and efficiency and as
a result, his/her market value appreciates. Hence, the concept of such provision,
which is available in tax law for physical assets (whose value should normally
depreciate gradually with the passage of time), does not seem appropriate for
human resources.
2. The question of tax law provision for extra-shift depreciation allowances in
respect of HR does not arise because the need for a tax law provision even for
normal depreciation allowance in respect of HR is not being keenly felt in this
modern economic world.
3. It does not look nice to equate the status of human resources with that of physical
assets considering all sides of the matter.

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