human resource accounting for training & development shital jhunjhunwala institute of public...
TRANSCRIPT
Human Resource Accounting
for
Training & Development
Shital Jhunjhunwala
Institute of Public Enterprise
Dr. Shital Jhunjhunwala 2
The Importance of Human Capital
Intangible AssetAverage
Rank Top 5
Goodwill 2.48 61.90%
Brands 2.05 57.14%
Intellectual Property Rights (particularly Patents & Trademarks) 1.76 47.62%
Human Capital / Human Resource 1.67 71.43%
Technical Know-how/ Knowledge 1.00 23.81%
Marketing Rights & Distribution Networks 1.00 28.57%
R & D 0.86 28.57%
Processes & Recipe 0.86 28.57%
Software & IT Capabilities 0.62 23.81%
Customer List & Relationships 0.43 23.81%
Experience 0.38 9.52%
Social Responsibility 0.24 9.52%
Business Relationships 0.14 4.76%
Others 0.38 9.52%
3
“most important assets of my company walk out of the door
every night”.
Bill Gates, Microsoft
Dr. Shital Jhunjhunwala 5
The unquestionable Importance of HR …….
Myth “ROI from human capital cannot bemeasured! I am just going to treat it
as ashort term cost, not a long term
investment”
True there is an objective need to build a
credible case for the objective measurement of human capital
But there is a stronger case to build human
capital as an asset and expenditures relating to improved human capital as
a long term investment
Why HRA
• HRA communicates the worth of human resources to the organization and to the public
• Depicting the true value of the organization
• ESTABLISHING INVESTOR CONFIDENCE how efficient their personnel is to deliver returns on investments
The case for HR Valuation
• Monitor effective utilization
• Deciding about transfers, promotion, training and retrenchment
• Evaluating the expenditure incurred for imparting further education and training in employees in terms of the benefits derived by the firm.
It is important to be aware of the fact that HRA is not only about putting figures on human capital;
• It is also about supporting human resource development / management.
• It is about treating employees as assets and knowing whether the asset is appreciated, depleted or conserved;
• It is about acquiring and retaining (good) employees
Value of Training
Companies that scored in the top 20% of a
McKinsey ‘Talent Management Index’ on
average had a 22% higher return to stake
holders than peers in their industry
Echols, Michael E., ROI on Human Capital Investment(Arlington, Texas: Tapestry Press, 2005). pp. 29-30.
Value of Training
In a study by Accenture that measured the overall business impact of investment inlearning found those companies who did hada higher performance and produced higherresults:– Sales per employee = 27% greater– Revenue growth = 40% greater– Income growth = 50% greater
Echols, Michael E., ROI on Human Capital Investment(Arlington, Texas: Tapestry Press, 2005). pp. 29-30.
Value of Training
American Society of Training & Development(ASTD) found that the average 5 year returns instock market value related to the level of a
company training investment:
• Top 50 firms produced 86% returns• Bottom 50 firms produced 19% returns
Echols, Michael E., ROI on Human Capital Investment(Arlington, Texas: Tapestry Press, 2005). pp. 29-30.
Human Capital Matrix
• Revenue per Employee• Cost per Employee• Profit per Employee
- Can easily be calculated as based on financial reports
Training Indicators
Financial Financial & Non Financial
Non – Financial
Training Expenses Training Expense per Employee
Training hours per Employee
Training Exp / Adm Exp (%)
Training Expenses per Employee (Category)
Increase in Output per employee
Training Exp / Total Exp (%)
Increase in Revenue per Employee
Average satisfaction with competence developed by trainee
Training Exp / Employee Exp (%)
Change in Stock Prices per Employee
Average satisfaction with competence developed by immediate head of trainee
Score Card
Indicators
• Goal Setting & Performance Evaluation• Intra Firm Comparison
– Between departments/branches– Across Time periods
• Benchmarking
Can I Determine the Benefit derived from Training ?
Training Evaluation
Performance / Efficiency after training Performance before training
Salesman : Sales after Training
Sales before training
Worker: Output , Defects
IT Personnel : Time / Error
Training Evaluation
Managerial Level
• Increase in Revenue / Reduction in Cost
CFO – reduce cost of capital
- Better reviews from Financial Analysts
• Feedback from those who report to him – Satisfaction of subordinates
• Promotion to next level
Investment not Cost
As human resource is considered as an asset, any expenditure incurred in the acquisition and accumulation of human resource is treated as an investment.
Cost of training and development represents sacrifice that will have to be incurred today to acquire and develop people in future
ROI – Training
ROI = Returns (Net) x 100
Investment
• Investments (Costs)• Returns (Benefits)
Training Investments
• Design & Development - Internal resources , External experts , travelling, etc
• Promotional Cost – brochure, etc
• Administrative Cost – hours
• Faculty Cost - including accommodation & travelling cost
• Material Cost • Facility Cost – Room, Equipment, Lunch, etc
• Trainee Cost - Productive time for which he/she is paid
• Evaluation Cost
Returns from Training
• Productivity & Efficiency • Sales & Profitability • Customers & Markets• Other Saving – Health & Safety, Organizational
Culture
• Other Income
Productivity or Efficiency• Reduction in production costs per unit• Increase in Productivity - hours saved x Rs. Per hour (per worked hour, per shift, per machine, per annum )
– Reduction in Production/completion time per unit (e.g. forms, loans, clients ’ Project)
– Increase in Output
• Reduction in overtime (quantity, cost)
• Less Induction time for new employees• Better Equipment/facility/asset utilisation (e.g. down time due to
machine stoppages, shift changeover time)
• Lower Equipment maintenance or replacement costs• Capacity of staff to solve routine and non-routine problems
(saving of supervision time required)
• Less errors (less time spent on correcting errors)
• Faster access to information
Sales & Profitability• Reduction in overhead costs• Reduction in operating costs• Fall in operating costs as a percentage of total
costs/revenue • Increase in revenue/income/sales (monthly, annually, per
employee, per team, per branch or store)
• Rise in market share (number of customers, unit volume sold)
• Sales to new customers• Enhance Group operating profit• Profit per employee• Stock market performance (i.e. shareholder return)
Customer Satisfaction & Services
• More Sales ( customer satisfaction levels with timeliness, availability, quality and price of goods and services)
• Repeat business (customer retention or loyalty)
• New business resulting from client referrals• New or more customers or markets (e.g. contracts
won, loans processed, funding awarded)
• Less lost business (number of complaints , customers discontinued)
• Reduction in bad debts
Other Saving
• Safety: Reduction in accidents or injuries (number, time lost, compensation costs, premium cost/rating)
• Health : Less Absenteeism• Organizational culture : Less Turnover
(less recruitment and training cost)
Other Income
• Sales from referral of non-sales employee• New Product ideas leading to new product
launches
ROI Example 1
Returns Rs.
Increased Sales 2,40,000
Productivity increases 675,000
Other cost savings 160,000
Other income generation 0
Total Benefits 10,75,000
Investments
Design and development 40,000
Promotion 5,000
Administration 12,000
Faculty 87,000
Materials 15,000
Facilities 40,000
Trainee 550,000
Evaluation 1000
Total cost 750,000
Net Return (Return – Inv) 325,000
ROI ( Net Return/Inv x 100) 43%
ROI Example 2
Each data entry operators cost Rs. 100 per hour. 5 hours are spent on correcting errors per week. After training 20 percent less time is incurred correcting errors. 40 operators were trained at cost of Rs. 50000.
Example 2
Returns : Saving of time : 20% of 5 hours
i.e. 1 hour per week – Rs.100
ROI = 100 x 40 - 50000 x 100
50000
= - 46000/50000 x 100
= - 92%
Example 2
Is the benefit for only 1 week
For a year
ROI = 100 x 40 x 52 - 50000 x 100
50000
= (208000 – 50000)/50000 X 100
= 316%
Example 2
What was the benefit in 3 months
ROI = 100 x 40 x 13 - 50000 x 100
50000
= (52000 – 50000)/50000 X 100
= 4%
Pay Back Period on Training
How long did it take to recover the investment
Example 1
Benefit of 12 months 10,75,000
Benefit in a month 89, 583
Cost 7, 50,000
Pay Pack (cost/ Benefit per month) 8.3 months
Value of Training
Year SavingsPV Factor
(12%)Present Value
1 208000 0.833 1733332 166400 0.744 1238103 133120 0.664 884354 106496 0.593 631685 85197 0.530 45120
Present value of Savings 493866Less: Investment 50000Value of the Program 443866
Merck Model
Gain = Sd x R x P x N
Sd = Shift in performance by average trainee from pre training expressed in standard deviation
R = The Rupee value of the standard deviation of performance shift
P = Percentage of employees impacted
N = Number of employees who underwent training
Valuation of Human Assets
Cost based approaches:i) Historical Costii) Replacement Costiii) Opportunity Costiv) Standard Cost
Economic value based approaches:i) The Lev and Schwartz Modelii) The Eric Flamholtz Modeliii) Morse Model
Historical Costs
Acquisition cost (i) Recruitment Cost
(ii) Selection Cost(iii) Placement Cost(iv) Campus Interview Cost
Learning Cost (i) Formal Training Cost(ii) On the Job Training Cost(iii) Special Training(iv) Development Programmes
Welfare Cost(i) Medical Expenditure
(ii) Canteen Expenditure(iii) Specific and General Allowances(iv) Children Welfare Expenses(v) Other Welfare Expenditure
Other Costs (i) Safety Expenditure(ii) Ex-gratia(iii) Multi-trade incentives(iv) Rewarding Suggestions
Total cost approach
Example: A firm has started its business with a capital of Rs.10,00,000. It has
purchased fixed assets worth Rs.5,00,000 in cash. It has kept Rs.2,60,000 as
working capital and incurred Rs.2,40,000 on recruiting, training and developing
the engineers and few workers. The pay and benefits of engineers and workers is assessed at Rs.8,00,000.
Putting People on the Balance Sheet
Replacement Cost Estimated that the replacement cost of an
executive in middle management level is about 1.5 to 2 times the current salary paid in that position
a) Communication of job abilityb) Pre-employment administrative functionsc) Interviewsd) Testinge) Staff Meetingsf) Travel Costg) Medical Examinationh) Induction i) Pay & Benefits
Opportunity Cost Method
This model envisages computation of monetary value and allocation of people to the most promising activity and thereby to assess the opportunity cost of key employees through competitive bidding among investment centres.
Present Value Of Future Earnings Method
It recognizes an individual’s expected economic value to the enterprise during his remaining service period. An estimate about the future earning is made, for his entire service period till the date of retirement of the employees. Such earnings are discounted by an appropriate range to get the present value.
The Lev and Schwartz Model (Present value of Future Earnings
method)
All employees are classified in specific groups according to their age and skill
Average annual earnings are determined for various ranges of ages
The total earnings which each group will get upto retirement age are calculated
The total earnings calculated as above are discounted at the rate of cost of capital
The value thus arrived at will be the value of human resources/assets
The Lev and Schwartz Formula
Vy =∑t= yPy (t +1) ∑T I (T) /(I + R) t-y
Where, • Vy= expected value of a ‘y’ year old person’s
human capital• T = the person’s retirement age• Py (t) = probability of the person leaving the
organisation• I(t) = expected earnings of the person in period I• r = discount rate
Example: Low Skill Worker
Age (Years ) Annual Earnings per Employee
23-32 40000
33-42 50000
43-52 60000
53-62 70000
Example: Low Skill Worker
Age (Years )
Annual Earnings per Employee
PV Factor (10%) Present Value
23-32 40000 6.145 (1-10 years) 245800
33-42 50000 2.369 (11-20 years) 118450
43-52 60000 0.913 (21-30 years) 54780
53-62 70000 0.352 ( 31-40 Years) 24640
Human Value = Rs. 443670
If they are 100 such workers at the age of 23 then the total value is Rs. 4,43,67,000 . If the attrition rate is 10% the net value is 90% of 4,43,67,000 i.e. Rs. 3,99,30,300
Flamholtz Model (Reward Valuation method)
Measure of an individual’s value to an organization is his expected realizable value. An individual’s value to the organization can be defined as the present worth of set of future services that the expected to provide during the period he remains in the organization.
Flamholtz (1971)model
Flamholtz Model
Employee mapping in service states (Roles &
Positions)
Tenure in each Service State
Estimation of the value derived by the
organization when a person occupies a particular position
Aggregate to get the total value
The Value thus arrived is discounted at a
predetermined rate to get the present value of
human resources
Morse Model (Net Benefit Model)
The value of human resources is equivalent to the present value of net benefits derived by the organization from the service of its employees.
1. The gross value of services to be rendered in future by the employees in their individual as well as their collective capacity is determined.
2. The value of future payments (both direct and indirect) to the employees is determined.
3. The excess of the value of future human resources (as per 1 above) over the value of future payments (as per 2 above) is ascertained. This, as a matter of fact, represents the net benefit to the organization on account of human resources.
4. The present value of the net benefit is determined by applying a predetermined discount rate (generally the cost of capital). This amount represents the value of human resources to the organization.
Morse (1973)
Human Capital Measures An Example
• Revenue = Rs. 10,00,00,000• Expenses = Rs. 8,00, 00,000
• Pay & Benefits = Rs. 2,40,00,000• Absent Cost = Rs. 39,50,000 ( including extra
employees)• Turnover Cost = Rs. 36,00,000• Full time Equivalent (FTE) Employee = 500
HCM Example
• Human capital cost = pay + benefits + absent cost + turnover cost
• HCC = 2,40,00,000 + 39,50,000 +36,00,000 • = 3,15,50,000
31 % more than pay & benefits in financials
Human Capital Value Added
HCVA = Revenue – (Expenses – Employee Expenses)
Or Profit + Employee Expenses
HCVA = Rs.10,00,00,000 - (8,00,00,000 -2,40,00,000)
= 4,40,00,000
HCVA per employee is = HCVA/FTE = 4,40,00,000/500 = 88,000
Human Capital Return on Investment
HCROI = HCVA / Employee Expenses
= 4,40,00,000/2,40,00,000
= 1.83
Return on Talent
Human Economic Value Added
HEVA = EVA / FTE
EVA = Net operating Profit after Tax – Cost of Capital
Dr. Shital Jhunjhunwala 57
Type of Asset
Valuation Value Time Who Focuses on It
Tangible/ Physical
AbsoluteCost
Historical Accountants & Auditors
Monetary/ Financial
Interest/ Return
Present Managers & Analysts/ Investors
Intangible/ Intellectual
Potential Value
Future Boards of Management
How do we measure it ? Who should focus on Intangibles?
Thank You
• Human Resource Costing and Accounting [advocated by Johansson (1996)]: This methodology
• "calculates the hidden impact of Human Resources related costs which reduce a firm's profits.
• Adjustments are made to the P & L. Intellectual Capital is measured by calculation of the contribution of
• human assets held by a company divided by capitalized salary expenditures."
• Human Capital Intelligence [advocated by Jac Fitz‐Enz (1994)]: By use of this methodology, "sets
• of human capital indicators are collected and benchmarked against a database."
• In 1900 = 17% of jobs required knowledge workers.
• In 1997 over 60% of jobs (at least) require an educated workforce
• Today ????