Overview of Human Resource Accounting Implementation Essay Example

overview of human resource accounting in general.

Jan-Erik Grojer played a pivotal role in continuing a focus on the necessity of identifying how it might be possible to account for people. Together, with his colleague and fellow contributor to this collection, Ulf Johanson, Jan-Erik advocated the development of human reasource costing and accounting, a contribution that provides the critical link between human resource accounting, the principal approach to accounting for people in the 1970s, and intellectual capital, the development that has galvanised renewed interest in this topic as well as identifying why people should be taken into account. Roslender:2009)

The American Accounting Society Community 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. 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 organisation 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 occuring to the human resources of the business. ” 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 organisation. Another management consultant Stephen Knauf has defined human resource accounting as: “The measurement of quantification of human organisation inputs such as recruitment, training, experience, and commitment. ”

Human Resource Accounting (HRA) involves accounting for the company’s management and employees as human capital that provides future benefits. In the HRA approach, expenditures related to human resources are reported as assets on the balance sheet as opposed to the traditional accounting approach which treats costs related to a company’s human resources as expenses on the income statement that reduce profit.

HRA suggests that in addition to the measures themselves, the process of measurement has relevance in decision-making involving organizations. (Bullen:2010) Roslender (2009) explained that at base, human resource costing and accounting was created by marrying together two well established sets of ideas: human resource accounting and utility analysis. The principal focus of utility analysis is on investments in human resources: the costs of selection; recruitment; placement; training and performance measurement; rather than their value to organisation, as in human resource accounting.

History of Human Resource Accounting

The development of human resource accounting as a systematic and detailed academic activity, according to Eric G Flamholtz (1999) began in sixties. He divides the development into five stages.

These are:

1) First stage (1960-66): This marks the beginning of academic interest in the area

of human resource accounting. 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 oh human relations; as well as the measurement of corporate goodwill.

2) Second stage (1966-71): The focus here was more on developing and validating different models for human resource accounting. These models covered both costs and the monetary and non-monetary value of human resources. The aim was to develop some tools that would help the organisations in assessing and managing their human resource/asset in a more realistic manner.

On of the earliest studies here was that of Roger Hermanson, who as part of his Ph. D. tudied 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.

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 issues of application of human resource accounting in business organisations.

4) Fourth stage (1976-1980): This was a period of decline in the area of human resource accounting primarily because the complex issues that needed to be explored required much deeper empirical research than was needed for the earlier simple models. The organisations, however, were not prepared to sponsor such research. They found the idea of human resource accounting interesting but did

not find much use in pumping in large sums or investing lot of time and energy in supporting the research.

5) Stage five (1980 onwards): There was a sudden renewal of interest in the field of human resource accounting prtly because most of the developed economies had shifted from manufacturing to service economies and realized the criticality of human asset for their organisations. Since the survival, growth and profits of the organisations 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 human resources cost, investments, and value.

Today, human and intellectual capital are 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.

Methods of Human Resource Accounting

The biggest challenge in HRA is that of assigning monetary values to different dimensions of HR costs, investments and the worth of employees. The two main approaches usually employed for this are the cost approach and the economic value approach.

1. The Cost Approach

The cost approach which involves methods based on the costs incurred by the company, with regard to an employee. Two types of cost are of special importance in HRA. These are original or historical cost, and replacement cost. The historical cost of human resources is the sacrifice that was made to acquire and develop the resource. These include the costs of recruiting, selection, hiring,

placement, orientation, and on the job training. The replacement cost of human resources is the cost that would have to be incurred if present employees are to be replaced.

2. The Economic Value Approach

The economic value approach which includes methods based on the economic value of the human resources and their contribution to the company’s gains. This approach looks at human resources as assets and tries to identify the stream of benefits flowing from the asset. The economic value of human resources is the present worth of the services that they are likely to render in future.

This may be the value of individuals, groups or the total human organisation. The methods for calculating the economic value of individuals may be classified into monetary and non-monetary methods.

1) There are three methods of monetary measures for assessing individual value: Flamholtz’s model of determinants of Individual Value to Formal Organisations, Flamholtz’s Stochastic Rewards Valuation Model, The Lev and Schwartz Model, and the Hekimian and Jones Competitive Bidding Model.

2) The non-monetary methods for assessing the economic value of human resources also measure the human resource but not in dollar or money terms. Rather they rely on various indices or ratings and rankings.

Importance of Human Resource

Accounting Flamholtz (1974b) identifies three objectives or purposes for human resource accounting. The first objective is to develop methods of measuring human resource cost and value designed to provide a quantitative basis for decision making by managers and investors.

The second objective is to develop methods for measuring human resource cost and value necessary to monitor the effectiveness of management’s utilisation of

human resources. The third objective identified by Flamholtz affirms the managerial emphases of human resource accounting: Another ultimate objective of human resource accounting is to develop a theory explaining the nature and determinants of the value of people to formal organizations.

This theory would serve a dual purpose. First, it would identify the variables which must be considered in developing measures (both monetary and non-monetary) oh human resource value. Second, the theory might ultimately become the basis for a new paradigm for human resource management. (Flamholtz, 1974b, p. 45) It is in these ways that human resource accounting helps management to plan and control their use of human resources effectively and efficiently.

According to Likert (1971), human resource accounting serves the following purposes in an organisation:

1. It furnishes cost/value information for making management decisions about acquiring, allocating, developing, and maintaining human resources in order to attain cost-effectiveness;
2. It allows management personnel to monitor effectively the use of human resources;
3. It provides a sound and effectove basis of human asset control, that is, whether the asset is appreciated, depleted, or conserved;
4. It helps in the development of management principles by classifying the financial consequences of various practices.

The strong growth of international financial reporting standards (IFRS) is another indication that the environment for financial accounting reporting is one that potentially encourages the consideration of alternative measurement and reporting standards. Accountants and others in the financial reporting environment have become accustomed to using more complex measurement approaches to the financial statement reported amounts. This would lend support to the possibility that future financial reports may include

nontraditional measurements such as the value of human resources using HRA methods. Bullen:2010)

Limitations of Human Resource Accounting

There are many limitations which make the management reluctant to introduce human resources accounting. Some of the attributes are:

1. There is no proper clear-cut and specific procedure of 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 human resources accounting may dehumanise and manipulate employees.
4. For e. g. , an employee with a comparatively low value may feel doscouraged 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 human resource accounting as a tool of 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.
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 amortisation to be decreasing, constant, or increasing?

Previous Research Results

In his journal, Roslender (2009) concluded that accounting for people has always held out the promise of providing a means of demonstrating the enduring potential that people have to deliver advance, progress, and betterment for the whole society.

Hitten’s (2008) research concluded that companies that use human resource accounting will me more realistic in their financial statements. This will assist in their decision making. Human resource accounting shows all the problems associated with employees, including the marketing and product planning divisions. The company may incur expenses to develop employees without fear of discouraging earnings for the year, as this will be included in the investment in human resources do that the assessment of the company will be more realistic.

Planning new products will be more effective because it usually require training costs of employees which is not a small amount and this expenditure is not charged as incurred. Corporate expenses that contribute to the profit gain will be calculated as cost of investment. On their study of Pakistani textile sector, Chaudry and Roomi (2010) observed that majority of the enterprises were merely raising slogans regarding

the importance of training and development of human capital, but most of them were not properly investing on the development of their human resources.

They also found that most of the organizations were facing difficulties in calculating their financial outcomes of investing in training and development of employees. The mainreason is that most of the enterprises were not maintaining any sort of informationsystem about their training and development programs. None of the organizations was using the human resource accounting as a tool for the evaluation of the outcomes of training in monetary terms.

The results provide evidence of an association between investment in the development of human capital and the benefits which organizations can reap from this investment. The independent variable, namely training and development cost, has a positive impact on individual employees’ and aggregate organizational performance in the shape of increased outcomes in the long run. The enterprises with high investment in the development of human capital have reaped huge returns both in the form of profits and growth.

Those organizations investing in training and development programs obtain high employee productivity that ultimately contributes towards high organizational performance. They concluded that the investment on the development of human capital has a direct impact on the bottom line of enterprises. From the point of view of international development of human resource accounting, Bullen (2010) deducted that international contributions made to the field of HRA have resulted in growth of both the field HRA and the wider study of human capital, human resource metrics, intellectual capital, and organizational management.

The movement toward fair value accounting seen in recent years, for both U.

S. GAAP as well as for international standards, indicates a more sophisticated approach to the measurement of assets, tangible as well as intangible. This might suggest a willingness to recognize the need for, and consider the measurement and use of HRA in future external financial reporting.