Chapter 2: Human Resource Accounting 18

CHAPTER 2
HUMAN RESOURCE ACCOUNTING

2.1 Introduction

2.2 Concept of Human Resource Accounting

2.3 Need for HRA

2.4 Historical development of Human Resource Accounting

2.5 Management of information in HRA

2.6 Components of Human Resource Investment

2.7 Human Resource Accounting Models

2.7.1 Cost Models

2.7.2 Economic Valuation Models

2.8 Comparison of HRA Models

2.9 HRA Models and Human Resource Development

2.10 Study of HRA Disclosures in Sample companies

Chapter 2: Human Resource Accounting 19

CHAPTER 2
HUMAN RESOURCE ACCOUNTING

2.1 INTRODUCTION

The success of a corporate undertaking purely depends upon the

quality of its human resources. The quality of human resources is contingent

on its knowledge, skills, motivation and understanding of organizations‘ core

processes and goals. It is accentuated that; human element is the most

important input in any corporate enterprise. Human Resource Management

concerns itself with employing people, developing their capacities, utilizing,

maintaining and compensating their services in tune with the job and

organizational requirement. However, specific methods are required for

estimation and projection of the worth of human capital.

The global economic scenario has had a paradigm shift in the past few

decades. It has witnessed a transition from manufacturing to service based

industries; the basic difference between the two lying in the very nature of

their assets. For a manufacturing economy, the physical assets like plant,

machinery, etc, are of utmost importance, whereas, in a service based

economy, knowledge, skills, competence, motivation, understanding of

organizational culture and attitudes of the employees assume great

significance. In knowledge-driven economies, therefore, it is imperative that

the humans be recognized as an integral part of total worth of an organization.

For instance, the success of IT firms, hospitals, academic institutions,

Chapter 2: Human Resource Accounting 20

consulting firms etc depends absolutely on the quality of their human

resource.

Today, human and intellectual capitals are perceived to be the strategic

resources and hence a clear estimation of their value has gained significant

importance. The increased pressures of corporate governance and

transparency issues further support the need for developing methods for

estimation of human capital.

However, in order to estimate and project the worth of human capital,

it is necessary that some method of quantifying the worth of the knowledge,

motivation and contribution of human element is developed. Human resource

accounting denotes this process of quantification and measurement of human

capital. The terms ‗Human Resource Management‘ and ‗Human Resource‘

(HR) have largely replaced the term `Personnel management" as a description

of the processes involved in managing people in organization, but it still

continues to be used as a synonym.

Torrington and Hall (1987) defined personnel management as:

" ...a series of activities which: first enable working people and their

employing organizations to agree about the objectives and nature of their

working relationships, and, secondly, ensures that agreement is fulfilled."

Chapter 2: Human Resource Accounting 21

Miller (1987) suggests that HRM relates to:

―those decisions and actions which concern the management of employees at

all levels in the business and which are related to the implementation of

strategies directed towards creating and sustaining competitive advantage‖

2.2 CONCEPT OF HUMAN RESOURCE ACCOUNTING

Once the humans are recognized as integral part of the worth of

organizations, it becomes imperative to estimate and project their worth.

The theoretical discipline is based primarily on the assumption that

employees are individuals with varying goals and needs, and as such should

not be thought of as basic physical business resources such as trucks and

machineries.

HRA involves carrying out the process of quantification and

measurement of HR.

The American Accounting Association Committee on Human

Resource Accounting, 1973 has defined Human Resource Accounting as:

"The process of identifying and measuring data about human resources and

communicating this information to interested parties.‖

Flamholtz (1971) defines HRA as:

"The measurement and reporting of the cost and value of people in

organizational resources."
Chapter 2: Human Resource Accounting 22

HRA involves measurement of all costs and investments associated

with the recruitment, placement, training and development of employees and

the quantification of the economic value of people in an organization.

The goal of human resource management is to help an organization to

meet strategic goals by attracting and maintaining employees and also to

manage them effectively. Human resource management seeks to ensure a fit

between the management of organizations‘ employees, and the overall

strategic direction of the company (Miller, 1989).

The Companies Act, 1956 does not demand furnishing of HRA related

information in financial statements of the company. Thus there is no statutory

requirement under the act. The Institute of Chartered Accountants of India

has, however been able to come up with an accounting standard (AS 16) for

the reporting of human resources costs. There are a few organizations that

recognize the value of human resources and furnish the related information in

their annual reports. In India some of these companies are: Bharat Heavy

Electricals Ltd. (BHEL), The Associated Cement Companies Ltd., Infosys,

The Oil and Natural Gas Commission (ONGC), The Steel Authority of India

Ltd. (SAIL), Oil India Ltd., etc.

A growing trend towards the measurement and reporting of human

resources particularly in public sector is noticeable during past few years.

Chapter 2: Human Resource Accounting 23

2.3 NEED FOR HRA

The fundamental function of Human Resource Accounting is to

provide value/cost of acquiring, developing, allocating, conserving, utilizing,

evaluating and rewarding the human resource in a proper way. This

information aids the HR professionals to manage the human resources

efficiently and effectively. Such information is very relevant for performing

the HR functions of acquiring, developing, allocating, conserving, utilizing,

evaluating and rewarding the human resources.

HRA provides quantitative information about the value of human asset,

which helps the top management to take decisions regarding the adequacy of

human resources.

HRA further allows the management personnel to monitor effectively

the use of human resources. Basically, HRA is a management tool which is

designed to assist the senior management in understanding the long term cost

and benefit implications of their HR decisions. This enables better business

decisions.

It provides a basis for human asset control by providing the knowledge

of whether the asset is appreciated, depleted or conserved.

Besides facilitating internal decision making, HRA also facilitates the

external decision makers in making realistic investment decisions. HRA

Chapter 2: Human Resource Accounting 24

provides the investors with an accurate amount of organisations‘ total worth

by incorporating the human capital element.

Thus, HRA helps in removing the distortion in the financial statements

which arises due to treating human resource investment as `expenditure'. By

treating human resource investments as `expenditures', the income statements

tend to treat the same as expenses during the year rather than capitalizing and

amortizing them over their expected service life. Consequently, the balance

sheet becomes distorted because it presents the `total assets' as well as the `net

income' and thereby, the `rate of return' incorrectly.

HRA shows the amount of contribution made by the organization

towards human capital by way of investing in its development. This

disclosure has become very important in the current scenario where CSR has

assumed great importance.

2.4 HISTORICAL DEVELOPMENT OF HUMAN RESOURCE

ACCOUNTING

The importance of human resources in business organization as

productive resources was by and large ignored by accountants until two

decades ago. Human Resource Accounting was introduced way back in

1980's. It has started gaining popularity in India recently. It is still considered

to be of recent origin and is struggling for acceptance.

Chapter 2: Human Resource Accounting 25

The importance and value of human assets were recognized in the early

1990s when there was a major increase in employment in the firms of service,

technology and other knowledge-based sectors. In such organizations, human

capital contributed significantly to the shareholder value. Soon after, the

manufacturing industry also seemed to realize the importance of treating

humans as assets.

Rudimentary traces of HRA can be found in the Medieval European

practice of calculating the cost of keeping a prisoner vis-a-vis the expected

future earnings from him. However, these representations were very rough

with limited use.

Today, Human Resource Accounting involves identifying, measuring,

capturing, tracking and analyzing the potential of the human resource of a

company and later transmitting the information thus produced to the

stakeholders of the company. It has become a specialized branch. Under HRA

a cost is assigned to every individual who is recruited into the company as an

employee and an estimate is made about the value that this employee would

generate in the future. Thus, Human Resource Accounting is a monetary

reflection of the potential of the human resources of an organization in its

financial statements.

With changing perspectives in the early and mid 1980's, behavioural

scientists leashed the conventional accounting systems for their failure to

Chapter 2: Human Resource Accounting 26

value the human resources of the organization along with its other material

resources. Accountants were thus called upon to assign monetary value to the

human resources deployed in the organization. HRA also involves the

dimension of cost incurred by the organization for all its personnel function.

Thus, the two main components of HRA were: a.) Investment related

to the employees and b.) The value generated out of them. Investment in the

human capital encompassed all costs incurred in increasing and upgrading the

employees' skill sets and knowledge of human resources. The output that an

organization generated from its human resources was regarded as the value of

its human resources. HRA is used to measure the performance of all the

people in the organization, and when this was made available to the

stakeholders in the form of a report, it helped them to take critical investment

decisions.

The development of HRA as a systematic and detailed academic

activity, according to Eric G Flamholtz (1999) began in the sixties. He

divided the development into the following 5 stages;

 FIRST STAGE (1960-66)- This stage marked the beginning of

academic interest in the area of HRA. However, focus was primarily

on deriving HRA concepts from other studies like the economic theory

of capital, psychological theories of leadership effectiveness etc.

 SECOND STAGE (1966-71)- The focus during this stage was more on
Chapter 2: Human Resource Accounting 27

developing and validating different models of HRA. One of the earliest

studies was that of Roger Hermanson, who studied the problem of

measuring the value of human assets as an element of goodwill.

 THIRD STAGE (1971-76) - This period saw a widespread interest in

the area of HRA leading to rapid research in this area. The focus

mainly lied on the issues of application of HRA in business

organizations.

 FOURTH STAGE (1976-80) - This period saw a decline of interest in

this area primarily because the complex issues to be explored required

much deeper empirical research than was needed in the earlier simple

models. The organizations, however, were not prepared to sponsor

such research.

 FIFTH STAGE (1980 onwards) - There was a sudden renewal in the

interest in the field of HRA partly because most of the developed

economies had shifted from being manufacturing to service economies

and realized the criticality of human asset for their organizations.

An important outcome of this renewed interest was that unlike the

previous decades, where the interest was mainly academic with little practical

application, from mid 90‘s the focus has been on greater application of HRA

towards effective business management. Models were tailor-made to suit to

the specific requirements of corporates. As a result large number of

companies began to use HRA.

Chapter 2: Human Resource Accounting 28

Different models have been developed for valuing human resources

incorporating both the tangible and the intangible aspects. Some of them are:

a) Opportunity and cost Approach

b) Standard cost approach

c) Current Purchasing Power Approach

d) Present Value of Future Earnings Model by Lev and Schwartz

e) Stochastic Rewards Valuation Model by Flamholtz

Of these, the model suggested by Lev and Schwartz has become

popular.

In the present times, human and intellectual capitals are perceived to be

strategic resources and therefore, a clear estimation of their value has gained

significant importance. The increased pressures of corporate governance and

the corporate code of conduct demanding transparency in accounting have

further supported the need for developing methods of measuring human

value. Although many public and private companies in India have adopted

HRA, it is yet to be institutionalized.

2.5 MANAGEMENT OF INFORMATION IN HRA

HRA depends majorly on the availability of relevant and accurate

information. It is a tool to facilitate better planning and decision making based

on the information regarding `actual' HR costs and organizational returns. The

kind of data that needs to be managed systematically depends on the purpose

Chapter 2: Human Resource Accounting 29

for which the HRA is being used by an organization. This can be understood

taking the following examples:

If the purpose of an exercise is to `control the personnel costs', a

system of standard costs for personnel recruitment, selection and

training has to be developed. It helps in analyzing the projected and

actual costs of manpower and thereby, in taking remedial action,

wherever necessary.

Any information on `turnover costs' generates awareness regarding the

actual costs of turnover and highlights the need for efforts by the

management of the organization towards retention of manpower.

Any information on the intangibles in the organization like the

intellectual capital/human capital becomes necessary to measure its

true worth. This information, though unaudited needs to be

communicated to the board and the stockholders.

2.6 COMPONENTS OF HUMAN RESOURCE INVESTMENT

The human resource investment usually consists of the following

items:

• Expenditure on advertisement for recruitment

• Workforce planning cost

• Cost of selection

• Cost of Induction, orientation and on boarding

• Training and development cost

Chapter 2: Human Resource Accounting 30

• On the job training cost

• Skill management cost

• Subsistence allowance

• Personnel administration cost

• Contribution to provident fund

• Compensation in wage/salary

• Educational tour expenses

• Medical expenses

• Ex-gratia payments

• Employees' welfare fund

All these components directly or indirectly influence the human

resources and the productivity of the organization. Together all the above

costs are supposed to be invested to achieve the competent work force. When

effectively integrated they provide significant economic benefit to the

company.

2.7 HUMAN RESOURCE ACCOUNTING MODELS

Traditional accounting system treats human resources as current cost

and charges such cost as a revenue expense. On the basis of contractual

obligation, the organisation, pays only salaries, wages and related fringe

benefits for human resources, i.e. what the organisation pays in under normal

methods of accounting is chargeable to revenue only and no human resource

Chapter 2: Human Resource Accounting 31

is carried over as asset in the balance sheet.

The latest thinking on HRA considers that the human resources are

capital items. The most dynamic aspect of HRA now is of assigning monetary

values to different components of HR costs and investments. For this purpose,

the following are relevant about HR:

♦ They render future service that have economic value.

♦ The value would depend upon how the resource are utilised. Various

management actions such as training, development and technological

advances have the effect of conserving, enhancing and depleting the

value of human resources. Like the accounting for any other asset,

HRA involves:

a) Capitalisting the human resources-recording them as

investments.

b) Recording the routine expiration of the resources on the basis of

amortisation.

c) Record the loss of resources due to obsolescence or labour and

staff turnover.

d) Valuation of the human resources after adjustments.

From time to time many models have been suggested for valuation of

human resources. These models can broadly be classified into cost models

and economic valuation models.

Chapter 2: Human Resource Accounting 32

HUMAN RESOURCE ACCOUNTING MODELS

COST MODELS ECONOMIC VALUATION MODEL

1. Historical or acquisition cost model 1. Lev and Schwartz model

2. Replacement cost model 2. Hermanson‘s models

o Individual replacement 3. Stochastic rewards valuation model

o Positional replacement 4. Jaggi and Lau model

3. Opportunity cost model

2.7.1 COST MODELS

The following HRA models are based upon costs. These models

account for the costs in computation of value of human resources to the

organisation:

1. Historical or Acquisition Cost Model;

This model of accounting of human resources was first initiated by

Rinses Likert at R.G.Bary Corporation in Ohio Columbia (USA) in 1967.

This model involves capitalisation of the actual cost incurred on recruiting,

selecting, hiring, training and developing the human resources of the

organisation. The sum of such costs for all the employees of the organisation

represents the value of the human resources of the organisation. This value is

amortised over the expected length of service of individual employees. The

unexpired cost is considered to be the investment in human resources. If an

employee leaves the organisation due to resignation, death, dismissal etc.,

Chapter 2: Human Resource Accounting 33

whole of the amount not written off is charged to the current revenue.

The total cost of the investment includes those quantifiable

expenditures associated with recruitment, selection, hiring, training,

placement, familiarisation and development. This method simply capitalises

human resource costs and does not seek to value people. It is similar to the

approach followed when valuing fixed assets and writing off their cost over

their useful life. The cost is capitalised, not being charged against current

income and a deferred taxation charge is made on the notional increase in

profit. This method is simple and meets the test of traditional principle of

accounting i.e. matching of cost with revenue.

2. Replacement Cost Model

This method of valuation of human resources was developed by Eric

G. Flamholtz on the basis of concept of replacement cost suggested by Rensis

Likert.

Replacement cost refers to the sacrifice that would have to be incurred

to replace resources presently owned or employed. This method is based on

current value or replacement cost. Under this system, an organisation values

an employee at the estimated cost of replacement with a new employee of

equivalent ability. The application of such a method, however, is made

difficult by the problems of defining and measuring replacement costs. In the

context of human resources, it refers to the cost that would have to be

Chapter 2: Human Resource Accounting 34

incurred to replace human resources presently employed. Flamholtz has

referred to two different concepts of replacement cost viz., individual

replacement cost and positional replacement cost.

a) Individual Replacement Cost: The replacement cost of individuals in

an organisation as conceptualised by Flamholtz comprises of:

i) The present estimated cost of hiring, training and developing

individual's upto the normal level of productivity of the existing

individuals, i.e. it includes the basic cost elements like:

 Recruiting outlay cost

 Acquisition cost

 Formal training and orientation cost

 Informal training cost

 Efficiency recovery cost

 Familarisation cost

 Cost of lost productivity during training

 Investment building experience cost

 Development cost, etc.

ii) Costs associated with moving the existing position holders

either out of the organisation or to new positions within the

organisation, i.e.

 The cost of carrying a vacancy until a suitable

replacement can fill it i.e. likely loss of contribution

Chapter 2: Human Resource Accounting 35

during the period when vacancies remain unfilled.

 Cost of moving and displacement

 Loss of productivity of the employees and their co

workers prior to their separation.

 The effect of a vacant position on other employees

b) Positional Replacement Cost: Besides the assessment of replacement

cost of individuals, such a cost item may be estimated with reference to

different positions in an organisation rather than specific individuals.

The value thus computed is referred to as positional replacement cost.

The following are the limitations of Replacement Cost Model:

This model claims to incorporate the current value of company's

human resources in its annual accounts at the year end.

However its utility in actual practice is limited as it is very

difficult to find exact replacements for individuals as no two

human beings are alike in terms of abilities.

The estimation of the replacement cost of individuals or the

rebuilding cost of human organisation would be based on the

best judgment of the managers rather than facts and figures, thus

being subjective in nature, may not be acceptable to the

traditional accountants.

The replacement cost of individuals may affect their behaviour

significantly and they might feel themselves indispensable,

leading to subsequent increase in the cost of retaining them.

Chapter 2: Human Resource Accounting 36

Again if the replacement cost figure is substantially low for

certain individuals the management may not perhaps be taking

that much efforts and the development rate of those individuals

might be low or retarded. The attitude of those employees may

also be not favourable, thereby lowering down the effectiveness

of management's efforts towards their development.

Decrease in the rebuilding cost of human organisation may also

be a cause of concern for the employees.

Market imperfections may make the replacement of an

individual having specific skill more costly. Moreover, costs are

escalated due to inflationary conditions and other influencing

factors like union agreements, government legislations and

external labour market situations.

An increase in the capitalised value due to increase in

replacement cost may reflect spurious organisational profit

primarily attributable to the operational inefficiency, the effects

of inflation, external factors and constraints whereas a decrease

in the cost reflect apparent loss due to operational efficiency and

better management of the human resource.

In view of above limitations replacement cost as a basis of accounting

of human resource and as a basis of assigning their values may not be an

acceptable proposition.
Chapter 2: Human Resource Accounting 37

3. Opportunity Cost Model

This model of HRA seeks to measure the value of human resources on

the basis of common concept of opportunity cost. This model was proposed

by Hekimian and Jones to overcome the limitations of replacement cost

model. It attempts to estimate the value of human resources by establishing an

internal labour market in an organisation through the process of competitive

bidding. Under this model all managers of profit centres are encouraged to bid

for any scarce employee they want. This is largely artificial method involving

the concept of the competitive bidding process. Under this system, profit-

centre managers are encouraged to bid for scarce employees, the successful

bid being included in the organisation's human investment calculations.

Employee abilities are related to profit generation, and may lead to a

more efficient allocation of human resources. The employee is allotted to the

highest bidder among the divisional managers and the bid price is included in

that division's investment base. The authors of this approach claim that this

bidding process is helpful in:

♦ More optimal allocation of human resource and

♦ Planning, developing and evaluating human resources of a business as

it provides a quantitative base for decision making.

Chapter 2: Human Resource Accounting 38

The following are the limitations of Opportunity Cost Model;

a) Firstly, it excludes the value of employees who can be readily hired.

b) Secondly, circumstances in which the manager would like to bid will

be very rare. Moreover no employee would like to be treated as a

saleable commodity.

2.7.2 ECONOMIC VALUATION MODELS

Under this model, established capital budgeting techniques are applied

to people, the argument being that the value of firm's employees is their

discounted future earnings. Present value methods try to measure economic

value rather than simply record investment in human resources at historic or

replacement cost. An alternative approach to value measurement is that of

estimating the contribution of human resources to the economic value of the

firm. Valuation is determined by allocating to human resources a portion of

the firm's present value (this being defined as discounted future earnings)

Present value model seeks to measure the value of human resources on the

basis of present value of the services to be generated by the employees of an

organisation in future. Two approaches have been suggested for this purpose:

a) By discounting the future salaries and employee related capital costs

(such as cost incurred on recruiting, training and developing

employees) by a certain rate of discount, and

b) By discounting the future earnings of an organisation at a certain date

by a suitable rate and allocating a part of such present value to human

resources.
Chapter 2: Human Resource Accounting 39

Based upon these premises the following HRA models have been

developed:

1. Lev and Schwartz Model

Based upon the economic concept of value this model was suggested

by Baruch Lev and Abaa Schwartz. According to them, the value of human

capital embodied in a person of age X is the present value of his remaining

earnings from employments. They have given the following formula for

calculating the value of an individual:

I(t)
Vx T-x
(I r)

Where

Vx = the value of an individual X years old.

I(t) = the individuals annual earnings upto retirement.

r = a discount rate specific to a person.

T = retirement age.

The model of HRA given by Lev and Schwartz ignored the possibility

of death prior to retirement age. The model given by Lev and Schwartz can be

considered as an improvement over the cost models as it seeks to value the

human resources of an organisation on the basis of the economic value of

employees of total organsiation.

Chapter 2: Human Resource Accounting 40

The model suffers from certain deficiencies as it ignores that:

a) The individual's value to an organisation depends upon the role in

which an individual's is placed in addition to his qualities, traits and

skills;

b) Employees change their roles during their career due to promotion,

transfer etc. and

c) An individual may leave the organisation for reasons other than death

and retirement.

2. Hermanson's Models

Roger H. Hermanson has suggested two models for the measurement

of human resources; one is unpurchased goodwill model and the other is

adjusted discounted future wages model.

Under the first model it is argued that super normal profits in a firm are

the indicators of presence of human resources. The model requires

computation of the ratio of net income after taxes (EAT) to total assets

(excluding human assets) of each firm. This in turn is compared with the ratio

for the industry as a whole. The value of human resources of a firm is then

measured with the help of differential rates.

The second model uses compensation as a surrogate measure of

persons value to the firm. Compensation means the present value of future

stream of wages and salaries to employees of the firm. The discounted future
Chapter 2: Human Resource Accounting 41

wages stream is adjusted by an `efficiency ratio' which is weighted average of

the ratio of the return on investment 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., 5 to the current

year and 1 to the preceding fourth year. The following formula is used;

RF(0) RF(1) RF(2) RF(3) RF(4)

Efficiency Ratio= 5 4 3 2
RE(0) RE(1) RE(2) RE(3) RE(4)

Where,

RF (O) is the rate of accounting income on owned assets for the firm

for the current year.

RE (0) is the rate of accounting income on owned assets for all the

firms in the economy for the current year.

RF (4) is the rate of accounting income on owned assets for the firm

for the fourth previous year.

RE (4) is the rate of accounting income on owned assets for all the

firms in the economy for the fourth previous year.

The efficiency ratio measures the rate of effectiveness of the human

resources operating in the given entity over a five year period. A ratio greater

than one implies that the rate of return of the firm is above the average ratio of

return for all firms in the economy. The efficiency ratio has been criticised by

certain authors as subjective because of arbitrary weighting scheme and

restricting the valuation period to five years only.

Chapter 2: Human Resource Accounting 42

3. Stochastic Rewards Valuation Model

The Flamholtz's stochastic rewards valuation model identifies the

major variables which determine the value of an individual to the

organisation. The model advocates that a person generates value for an

organisation as he occupies and plays different roles and renders services to

the organisation. The movement of people from one organisational role to

another is a stochastic process. As people move and occupy different

organisational roles, they render service (rewards) to the organisation. Based

upon the above concept, a person's expected realisable value of an

organisation can be measured as the discounted mathematical expectation of

the monetary worth of the future rewards (services) a person is expected to

render to the organisation in future roles he is expected to occupy, taking into

consideration the probability of his remaining in the organisation.

The model suggests a five step approach to assess the value of an

individual to the organisation.

 Forecasting the period a person will remain in the organisation i.e., his

expected service life.

 Identification of service states i.e. the roles he might occupy and the

time at which he will quit the organisation.

 Estimating the value derived by the organisation when a person

occupies a particular position (service state) for specified time period.

 Estimating the probability of occupying each possible mutually

exclusive service state at specified future times

Chapter 2: Human Resource Accounting 43

 Discounting (at a specified predetermined rate) the expected service

rewards to their present value.

Theoretically, the model suggested by Flamholtz is the most scientific

model as it provides a future oriented economic value of human assets.

However its practical use is very difficult, as the collection of reliable data

regarding the value of a service state, a person's expected tenure and the

probabilities of occupying various service states at specific times is not an

easy job.

4. Jaggi & Lau Model

The model suggested by Jaggi and Lau is based on valuation of groups

rather than individuals. A group implies homogeneous employees who may or

may not belong to the same department or division. It might be difficult to

predict an individual's expected service tenure in the organisation or at a

particular level or position, but on a group basis it is easier to ascertain the

percentage of people in a particular group likely either to leave the firm

during each of the forthcoming period, or to be promoted to higher levels. In

order to consider the role movements of employees within the organisation a

Markov Chain representation can be used. The model required the

determination of Rank Transitional Matrix and the expected quantities of

services for each rank of service. The matrix can be prepared from the

historical personnel records of the employees available in the organisation.

Chapter 2: Human Resource Accounting 44

For the purpose of measurement of quantities of services, a certain service or

performance criteria are used.

The value of the services an organisation's current employee render in

a future period is computed by multiplying the estimated number of current

employees that will be in each service state in that period, by the value of the

service an employee in each state (i.e. rank) renders to the organisation. The

equation for the computation of value of human resources of an organisation

using Jaggi & Lau models is given below.

TV = (N) rn (T)n(V)

Where,

TV = Column vector indicating the current value of all current

employees in each rank.

(N) = Column vector indicating the number of employees currently

in each rank

n = time period

r = Discount rate

(T) = Rank transitional matrix indicating the probability that an

employee will be in each rank within the organisation or

terminated in the next period given his current rank.

(V) = Column vector indicating the economic value of an employee

of rank 1 during each period.

Chapter 2: Human Resource Accounting 45

The model given by Jaggi & Lau tries to simplify the calculations of

the value of human resources by taking groups of employees as valuation

base. However, this method is also difficult to apply in practice because of

difficulty in obtaining reliable data.

2.8 COMPARISON OF HRA MODELS

The cost models of HRA fail to recognise the factors which determine

the economic value of human resources. Also no serious effort is made in

these models to identify the factors which can enhance the value of human

resources. The historical cost model computes the value of human resources

on the basis of capital cost incurred to acquire and develop these resources.

Since this model fails to recognise the economic value of human resources of

an organisation, the data generated through this model is very less significant

for making decisions regarding matters relating to human resource

development. The replacement cost model seeks to incorporate the current

value of company's human resources in its financial statements. However, this

model cannot be used in practice as it is really difficult to find identical

replacements of existing employees. The opportunity cost model is based on

the economist's concept of opportunity cost. This method can be used for

computing the value of only those employees who can be employed on

alternative jobs. This method fails to measure the value of those employees

who are specialists in certain fields. From the above analysis it can be said

that cost models of HRA are of little use in the process of Human Resource

Development.
Chapter 2: Human Resource Accounting 46

Among the present value models, the Lev and Schwartz Model and the

Hermanson's Model do not make any serious attempt to identify factors

determining the value of human resources. At the same time these models

also fail to explain the factors which can improve the value of human

resources. Both these models have suggested to use the future wages and

salaries of employees of an organisation as a surrogate of the value of its

human resources. Both these models assume that wages and salaries paid to

the employees fairly represent the contribution made by them to their

organisation. However, in actual practice the things might be quiet different;

as there are evidences that employees sometimes are not fairly compensated.

Therefore, the information generated by the above two models cannot help the

management in making HRD related decision to a significant extent.

The Flamholtz's Stochastic Rewards Valuation Model and Jaggi and

Lau's model explain the factors determining the value of human resources to a

considerable extent. These models also explain the factors which can improve

the value of human resources. The Flamholtz's model focuses on individual

employees for the measurement of human resources whereas Jaggi & Lau

suggest the use of homogeneous groups of employees as the basis for the

same. However, there are a number of computational problems which make

the practical use of these models a difficult proposition. An organisation

desirous of using these models for human resource valuation must create

facilities for estimating the reliable value of variables determining the value
Chapter 2: Human Resource Accounting 47

of human resources. If this could be achieved, then the information so

generated could be of considerable importance for making HRD related

decisions.

A discussion of the HRA models reveals that there is not even a single

model which fulfills all the requirements of a model which could help in the

process of HRD. Certain models fail to recognise the factors determining the

value of human resources whereas others have computational problems.

Therefore, there is a need for great deal of research which could be of

considerable help in the process of human resource development.

2.9 HRA MODELS AND HUMAN RESOURCE DEVELOPMENT

The usefulness of a HRA model in the process of HRD would depend

upon how best it meets certain basic requirements. These requirements are:

 The model should identify the factors which determine the value of

human resources.

 The model should identify the factors which can improve the value of

human resources.

 The model should be capable of measuring the value of human

resources operationally. A model can be made operational only if the

data which it requires can be made available. Very often, a model can

be theoretically sound but, if the required data are not available its

usefulness shall be greatly reduced.

Chapter 2: Human Resource Accounting 48

 The information generated by the model should help users to make

decisions relating to the process of human resource development.

2.10 STUDY OF HRA DISCLOSURES IN SAMPLE COMPANIES

An analysis has been done of the disclosure practices followed by

various companies which publish human resource accounting information in

India. According to a recent survey, only around fourteen companies in India

are practicing the human resource accounting system. It's also seen that the

concentration of most of the companies has been to disclose the information

regarding computation of human resource value and very few companies have

given attention to the other aspects of human resource accounting which are

relevant for decision making purposes.

The Indian Corporate sector, of late, has shown some interest in

assigning cost and value to its human resources. All these companies which

publish human resource accounting (HRA) information have adopted the Lev

and Schwartz Model (1971) of economic value. There is absence of HRA

disclosures as there is no statutory requirement in India to publish HRA

information. Besides, because of absence of any prescribed format or

guidelines for the disclosure, the voluntary initiatives are also not prominently

seen. As a result, there is complete lack of availability of comparable Human

Resource information.
Chapter 2: Human Resource Accounting 49

HRA is the processes of identifying and measuring the data about

Human capital. However, very few studies have been made in relation to

disclosure practices of HRA in companies in India.

Therefore the present study is made to attempt and analyze the

disclosure of Human Resource Accounting.

Here, 4 companies which have been reporting on Human capital have

been selected for the study. The analysis has been done on 8 variables in

selected Indian companies. This can be understood from the following table 1.

Table 1 helps us to understand which of the companies are providing

more information regarding its HR. It can be seen that INFOSYS provides all

8 items in 4 years but only one item in 2010. Likewise ONGC provides 6

information's in all 5 years but details of EVA are missing in all years. BHEL

provides 7 items (i.e. 84.61%) in 2006-07 to 2010-11 and Reliance Industries

Limited provides only 2 type information in the years 2006-07 to 2010-11.

Chapter 2: Human Resource Accounting 50

Table 1
HRA Disclosures by Selected Companies

Disclosed Variables No. of Times Companies Doing Disclosure

in 5 Years (2006-2011)
ONGC BHEL INFOSYS RELIANCE
Value of HR 5 5 4 0
No. of employees 5 5 5 5
Valuation model 5 0 4 0
Groupwise distribution 5 5 4 0
Genderwise distribution 5 5 4 0
Employee cost 1 5 4 5
Value added 5 5 4 0
EVA 0 5 4 0

Disclosure of Human Resource Accounting in 5 Years

6

0
value of no.of valuation grpwise genderwiseemployee value EVA
HR employee model distt distt cost added

ONGC BHEL INFOSYS RELIANCE

From the above chart it can be seen that there is significant difference

in disclosure practices by ONGC, BHEL, INFOSYS and RELIANCE. ONGC

is Public Sector Company. ONGC has provided information like income,

Chapter 2: Human Resource Accounting 51

value added, No. of employee, age wise distribution group wise distribution,

gender wise distribution but turnover per employee and employee cost were

not disclosed .BHEL has provided the information like income, value added,

No. of employee, group wise distribution, genderwise distribution turnover

per employee cost but it did not used valuation model for HRA in the year

2006-07 to 2010-11. BHEL has provided the information regarding particular

of employees under the provision of section 217 (2A) of the companies rules

1975.

INFOSYS has provided additional information regarding particular of

employees under the provision of section 217(2A) of the companies Rules

1975. INFOSYS used the Lev &Schwartz model. INFOSYS provide the

information like Income, value added, No. of Employees, category wise

Distribution of Employee, Net worth, EPS, Economic Value Added, Value of

Human Resource, Value of Human Resource per employee and also present

the ratio like Value Added/Human Resource value, Return on Human

Resource Value in percentage.

A study of annual reports of these companies reveal that normally the

expenses for procurement, development and maintenance of human resources

are treated as revenue expenditure but now a days some of the Indian

companies are considering the real value of human resource and hence

capitalising the expenses incurred for the future benefit and revealing the

same in the balance sheet as human assets value.

Chapter 2: Human Resource Accounting 52

Human assets are the real asset of a company. The other physical assets

will not be effective without Human Resource. To ensure growth and

development of any organization, the efficiency of people must be accounted

in the right perspective. It is the Human knowledge and their effort that leads

the organization towards success. The concept of HRA is of recent origin and

is struggling for its acceptance even in the west. It is said that this concept

does not hold good to labour surplus economies of developing countries like

India. An analysis of present day situations prevailing in India makes it clear

that this concept is of paramount importance here than perhaps to the west. In

India, a growing trend towards the measurement and reporting of human

assets, particularly in the public sector is noticeable during the past few years.