What is Human Resource Accounting (HRA) ?

Human resource accounting is the measurement of cost and value of the people for the organisation. Human resource accounting can be defined as a system of accounting which consider human resources as an asset and all the financial expenses on human resources such as wages, salary, training etc. are recorded in the books of account. The value of human resources is also recorded in the books of account just like other physical possessions. Assessment, budgeting and reporting the cost of Human Resource help the organisation in accurately documenting its assets and thus is very monetary part of every business association. A financial report of any organisation completely depends on the cost of manpower working in that organisation. 

Definition of Human Resource Accounting

According to R. L. Woodruff :
"Human resource accounting is an attempt to identify and report investment made in human resource of an organisation that are presently not accounted for in conventional accounting practice".

According to American Accounting Association committee :
"Human resource accounting is the process of identification and measuring data about human resource and communicating this information to interested parties".

According to Stephen Knauf :
"Human resource accounting is measurement and qualification of human organisation input such as training experience, requesting and commitment".

Human Resource Accounting

Objectives of Human Resource Accounting

Human resource accounting objectives are as follows :

1) It helps the organisation to plan an estimated budget for human resource expenses well in advance which include acquisition cost, training cost, cost for expansion of the human assets, salaries and wages etc.

2) Human resource accounting is one of the best way to measure the expenses done by an organisation on the human resource and the exact value of these resources. All the decisions regarding to manpower working in a particular organisation are based on the HRA.

3) Once the management has entire mathematical information about the human assets of the organisation, they start considering it as an important part of all their decisions. This further improves the managerial ideology as the organisation becomes clear about the economical effects of the human resources.

4) The HRA system help the management of any organisation to judge the employees on the basis of their performance and their standards and provide them with incentives accordingly.

5) In order to estimate the value of human resources an organisation has to follow certain principles and procedure as per the standards set by the Human Resource Department.

6) In case there are any upcoming changes in the value of the human assets working in the organisation. Human Resource Accounting gives an indication to the authority in advance so that appropriate step can be taken to preserve most valuable human assets of the organisation.

7) It helps the administration to scrutinize whether the available human resources are utilized in the best possible way or not, i.e. there should be the optimal utilization of the workforce. There should be no exploitation of labour in the organisation.

Nature of Human Resource Accounting

The nature of Human Resource Accounting is as follows :

1) It facilitates valuation of HR and recording it in the books of accounts. Records are maintained in order to meet the changes taking place in Human Resource from time to time.

2) HRA reveals information about the financial statement of the organisation for communication purpose.

3) It measures cost incurred by organisation in recruitment, selection, training and development of employees and helps in increasing their economic value to the organisation.

4) Human Resource Accounting is a process of identifying human resources. Personnel working in the organisation from top level management to lower level fall in the category of HR personnel.

Process of Human Resource Accounting

There is a particular procedure that has to be followed by the management to execute human resource accounting. The procedure is as follows :

Step 1 : HRA Objectives -
Every organisation has to accomplish a certain set of goals. These goals and the organisational requirements are the foundation for setting the objectives of the human resource accounting system.

Step 2 : Developing HRA Measurements -
There are two methods by which human resource accounting measurement can be made. They are explained below :
  • Monetary or Non-monetary methods can also be used as standard for measuring the cost or value or both of human resources.
  • Either the management can go for one particular measurement method or a number of methods for the measurements.
Before implementing any of these methods the validity and consistency of this method must be checked.

Step 3 : Developing HR Accounting Database -
The human resource accounting system is based on certain factors such as time management sheet, the cost of each employee working in the organisation, various psychological factors etc. These factors from the database of HRA system.

Step 4 : Pilot Testing the System -
Pilot testing means pre-checking the working of the system before finalising it as a part of the organisation. Management co-ordination and co-operation throughout the process of pilot testing is essential for its success.

Step 5 : Implementing the Human Resource Accounting System -
In this process, organisation introduced the the entire workforce and staff with a new accounting system. The importance and different methods of HRA are specified to the employees so that they become familiar with the new concept and accept it wholeheartedly.

Development of Human Resource Accounting

The development of HRA as a systematic and detailed academic activity according to Eric G. Flamholtz began in sixties. He divides the development into five stages. These are as follows :

1. First Stage (1960-66) -
This mark the beginning of academic interest in the area of HRA. However, the focus was preliminary on deriving HRA concept from other studies like the economic theory of capital, psychological theories of leadership effectiveness, the emerging concept of human resource as different from personal or human relation as well as the measurement of corporate goodwill.

2. Second Stage (1966-71) -
The focus there was more on developing and validating different models for human resource accounting. These models covered both cost and the monetary and non monetary value of human resource. The aim was to develop some tools that would help the organisation in assessing and managing their human resource/assets in a more realistic manner. One of the earliest studies here was that of Roger Hermanson, who as part of his Ph.D. studies 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 concept and methods of accounting for human resource.

3. Third Stage (1971-76) -
This period was marked by a widespread interest in the field of Human Resource Accounting leading to a rapid growth of research in the area. The focus in most cases was on the issue of application of HRA in business organisation. R.G. Barry experiments contributed substantially during this stage.

4. Fourth Stage (1976-80) -
This was a period of decline in the area of HRA preliminary because of complex issues that needed to be explored required much deeper empirical research than was needed for the earlier simple models. The organisation, however where not prepared to sponsor such research. They found the idea of HRA interesting but did not find much used in pumping in large sums for investing a lot of time and energy in supporting the research.

5. Fifth Stage (1980 Onwards) -
There was a sudden renewal of interest in field of Human Resource Accounting partly because most of the developed economies had shifted from manufacturing to service economies and realised the criticality of human asset for their organisation. Since, the survival growth and profit of the organisation were perceived to be dependent more on the intellectual assets of the companies then on the physical assets, the need was felt to have more accurate measure for HR costs, investment and value.

Different type of models to suit the specific requirements of the organisation have been developed incorporating both the tangible and intangible aspects.
An important outcome of this renewable interest was that unlike the previous decades, when the interest were mainly academic with some practical application from mid 90's the focus has been on greater application of Human Resource Accounting to business management. Also larger number of organisation actually began to use human resource accounting as part of their managerial and financial accounting practice.
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 pressure 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.

Problems / Disadvantages of Human Resource Accounting

Though there are many advantages of HRA, but there are certain disadvantages also, some of them are as follows :

1. Variety of Methods Create Confusion -
There are many methods which can be used to calculate the cost incurred on human resource. This creates misunderstandings, so management should exercise a particular method to evaluate the human resource cost to avoid any kind of uncertainty.

2. Uncertainty about Continuance of Employees -
Unlike machinery one cannot expect the workforce to stay within the organisation for a lifetime. Situation may arise that may force the employees to leave the job. Thus, it can be said that stability of an employee in the organisation is not certain. But this uncertainty increased the vacancies in the organisation, troubling the estimation of Human Resource Accounting which further disturb the working of entire organisation.

3. Results in expoitation organisation -
If the human asset valuation is not done correctly, it may result in exploitation of workers the evaluation done by the human resource accounting should be useful for the organisation, but not at the cost of partiality towards the employees.

4. Lack of Perfect Knowledge about Future Receiving of HR -
Future is unpredictable and full of uncertainties, nobody is sure whether an investment will be profitable or not. Thus, sometimes evaluation on imaginary basis creates a great problem for HRA system. Therefore, one can say that there is lack of perfect knowledge regarding future earning of any organisation.

5. Trade Union Resistance -
Estimating the value of human resources may give rise to industrial conflict and residence by the union leaders. The reason for this opposition can be the blasness on the part of management while estimating the value of the human assets. Thus, before introducing Human Resource Accounting in an organisation all the employees are leader must be made aware about the importance of HRA and how it can be beneficial for them.

6. Expensive -
While introducing HRA in an organisation the first thing which should be kept in mind that it should be cost-effective. Thus, the expenditure made on the system should be made sensibly otherwise it can incur additional cost to the organisation. If its adoption is affecting the profit of the organisation then the system is useless.

7. Non Availability of Standards -
The main problem faced by the organisation is non availability of proper standard that are required to evaluate the cost incurred on human resources. Institution of Chartered Accountants of India (ICAI) must formulated certain criteria to measure the value of human assets.

Importance / Advantages of Human Resource Accounting

With the passage of time, Human Resource Accounting has occupied a significant position in almost all the organisation. Its importance has been discussed below :

1. Sign of Good Health of the Organisation -
HRA serves as an indicator of the well-being of any organisation. The amount of investment made on the human resources of any organisation help in measuring the amount of profit that may be earned in future.

2. Help in Determining the Need of Recruitment -
HRA reports about the changes of getting returns and how much expenditure should be made on the manpower of the organisation. If the profits are high demand for recruiting new employees increase and if no profits are gained no further recruitment take place. These decision are completely based on the information provided by HRA.

3. Ascertains Negative Effects of the Programmes -
HRA system also helps the management in determining the negative effects of several programmes running in the organisation.

4. Facilitates Scheduling and Implementing HR Policies -
HR policies of an organisation include policies regarding HR functions such as promotion, training, demotion, transfer etc. Proper scheduling and implementation of these policies is very important for the smooth functioning of every organisation. This functions is controlled by the human resource accounting system of an organisation.

5. Helps in Calculating ROI -
HRA is an accounting system which recognises the expenditure made on the human resources of an organisation. Once the investment is calculated an organisation can easily ascertain the exact return on investment (ROI) by calculating the profit made by the organisation. This will help the management to determine how much they should spend on the human resources to achieve maximum Return on Investment.

6. Motivates Employees -
Employees get motivated to improve themselves once they come to know their real value in the eyes of Human Resource Accounting system of the organisation. The amount invested on them will inspire them to increase the output in proportion to the investment made on them by the organisation.

7. Improves Process of Decision Making -
HRA works as a centre to gain information regarding the actual value of human resources working in the organisation. This information helps the management to take appropriate decisions regarding the organisational issues.

Methods / Models of Human Resource Accounting

There are different methods that contribute the human resource accounting system. These methods can be classified into the following categories :

A) Monetary Models :
The models which incorporate the monetary aspects are called monetary models.

1. Cost Based Models -
There are many cost based models which are given here under.
i) Replacement Cost -
This is a measure of cost to replace a firm's existing human resources. Human resources are to be valued on the assumption that a new similar organisation has to be created from scratch and the cost to the firm is calculated if the existing resources were required to be replaced with other persons of equivalent talents and experience.

ii) Historical Cost Approach -
It is on the basis of actual cost incurred on human resources. Such a cost may be of two types, Acquisition Cost and Learning Cost.

iii) Current Purchasing Power Method -
The capitalised historical cost of investment in human resources is converted into current purchasing power of money with the help of price index numbers if the index double then the value of Human Resource also doubles. The converted value becomes the value of human resources for amortisation in rest of the years.

iv) Opportunity Cost Method -
This method of measuring the value of human resources is based on the economist's concept of opportunity cost. The opportunity cost of an employee in one department is calculated on the basis of offer made by another department for the employees working in this department in the same organisation.

v) Standard Cost Method -
Standard cost of recruitment, placing, training and developing per grade of employee are calculated and made up to date every year. The standard cost so arrived at for all human resources are treated as the value of human resources for accounting purpose.

2. Value Based Models -
The various value based models are described as follows :

i) Robbinsons Human Asset Multiplier Method -
It advocate the use of a multiplier which when the applied to earnings of individual provide a current valuation last reported company earning into market capitalisation. After deducting the amount of net assets from the capitalised value the balance is assumed to represent the value of human resources.

ii) Jaggi and Lau's Human Valuation Method -
The problem of predicting the expected tenure or promotion changes of individual employees was the catalyst for Bikki jaggi and Hon Shiang Lau in suggesting the valuation of human resources on the group basis. By group they meant homogeneous group of employees who may not necessarily be working in the same department. It become easier to ascertain the percentage of people in a particular group likely either to leave the firm during each of the forthcoming periods or be promoted to higher levels.

iii) Lev and Schwariz Present Value of Future Earnings Model -
The model divides the whole labour force into certain homogeneous group such as unskilled, Semi skilled, skilled etc. The total present value of different group represent the capitalized future earnings of the firm as a whole.

iv) Hermansons Unpurchased Goodwill Method -
The unpurchased Goodwill method that a business will earn a normal rate of return on resources. If a business show return i.e. different from the normal rate it may fairly presumed that some resources must be exist that have not been taken into account in preparing the balance sheet. These unrecorded resources are assumed to represent human assets.

v) Morse's Net Benefit Method -
Morse has developed this method be states that the value of human resources is equal to the present value of gross value of services to be rendered in future by human being both in an individual capacity as well as collective capacity minus the present value of future payment both direct and indirect to human beings.

vi) Friedman and Lev's Human Resource Valuation Model -
The human resource value as per this model is the difference between actual wages paid and the average market wages assumed that may be taken to reflect organisation personal policies because otherwise it will be reasonably expected that their employees would move from the employment to another to eliminate the difference.

vii) Daves Modified Present Value Model -  
This model reflects the effect of live factors which often affect the contribution of employees to the organisation and thereby the calculated value of human resources.

viii) Ogan's Certainty Equivalent Net Benefits Method -
As per this model the value of human resource is equal to the present worth of certainty equivalent net benefit of all employees. The net benefit mean the difference between expected benefit and total costs.

ix) Chakraborty's Human Resource Valuation Model -
The model advocate the valuation of human resources on aggregate basis instead of individual.

x) Flamholtz Model (Reward Valuation Method) -
According to this model the ultimate measure of an individuals value to an organisation is his expected realizable value.

xi) Economic Valuation Method -
Under this method future earning that can be generated by the employees in his service is calculated. This cost is subtracted from the present cost incurred on them on various functions such as recruitment etc. The reason obtained by performing this calculation is the economic cost of the employees.

xii) Return on Efforts Employed Methods -
Organisation benefit or return completely depend upon the efforts made by employees of that organisation. Under this method the gain provided by the employees for the organisation in terms of profits, productivity etc. are measured.

B) Non- Monetart Models -
The model which are dominated by behavioral variables can be classified as non monetary models.

i) Likerts Causal, Intervening and End Result Variables Model -
The model assumes that the organisational productivity can be explained in terms of the human organisation. The model had classified certain human variables into three categories :

a) Casual Variables : 
These are independent variables which can be directly or purposely altered or changed by organisation and its management which in turn, determine the course of development within an organisation.

b) Intervening Variables :
These variable reflects the internal state, health and performance capabilities of the organisation, e.g., motivation, loyalty, attitude etc.

c) End Result Variables :
These are depended variable which reflects the results achieved by the organisation such as its productivity, cost, scrap loss, growth etc.

ii) Skills Inventory -
Skill inventory means a record of capability. It classified employees as per their skills.

iii) Potential Assessment -
 potential assessment as the name denotes is the evaluation of the capability of the human resource of an organisation for the future.

iv) Performance Evaluation Methods -
Another way by which human resource can be evaluated is on the basis of performance. The two methods by which performance evaluation can take place are Rating and Ranking methods.

v) Subjective Expected Utility -
First utility means the value of any resource or usefulness of that resource for its user. Second subjectivity means individuals own point of view regarding the possibility of any event. There are various psycho-physical methods by which utility and subjective probability can be calculated.

vi) Attitude Measurement -
Organisations following attitude measurement techniques can easily understand the view point of their employees like whether the employees are satisfied with their job or not, are they happy with the working conditions do they want increment in their salary etc.