Human Resource Accounting: Meaning, Definition,
Objectives and Limitations
Meaning:
Human resources are considered as important
assets and are different from the physical assets. Physical assets do not have
feelings and emotions, whereas human assets are subjected to various types of
feelings and emotions. In the same way, unlike physical assets human assets
never gets depreciated.
Therefore, the valuations of human resources
along with other assets are also required in order to find out the total cost
of an organization. In 1960s, Rensis Likert along with other social researchers
made an attempt to define the concept of human resource accounting (HRA).
Definition:
1. The American Association of Accountants
(AAA) defines HRA as follows: ‘HRA is a process of identifying and measuring
data about human resources and communicating this information to interested
parties’.
2. Flamhoitz defines HRA as ‘accounting for
people as an organizational resource. It involves measuring the costs incurred
by organizations to recruit, select, hire, train, and develop human assets. It
also involves measuring the economic value of people to the organization’.
3. According to Stephen Knauf, ‘ HRA is the
measurement and quantification of human organizational inputs such as
recruiting, training, experience and commitment’.
Need for HRA:
The need for human asset valuation arose as a
result of growing concern for human relations management in the industry.
Behavioural scientists concerned with
management of organizations pointed out the following reasons for HRA:
1. Under conventional accounting, no
information is made available about the human resources employed in an
organization, and without people the financial and physical resources cannot be
operationally effective.
2. The expenses related to the human
organization are charged to current revenue instead of being treated as
investments, to be amortized over a period of time, with the result that
magnitude of net income is significantly distorted. This makes the assessment
of firm and inter-firm comparison difficult.
3. The productivity and profitability of a
firm largely depends on the contribution of human assets. Two firms having
identical physical assets and operating in the same market may have different
returns due to differences in human assets. If the value of human assets is
ignored, the total valuation of the firm becomes difficult.
4. If the value of human resources is not
duly reported in profit and loss account and balance sheet, the important act
of management on human assets cannot be perceived.
5. Expenses on recruitment, training, etc. are treated as expenses and
written off against revenue under conventional accounting. All expenses on
human resources are to be treated as investments, since the benefits are
accrued over a period of time.
Objectives of HRA:
Rensis Likert
described the following objectives of HRA:
1. Providing cost
value information about acquiring, developing, allocating and maintaining human
resources.
2. Enabling
management to monitor the use of human resources.
3. Finding
depreciation or appreciation among human resources.
4. Assisting in
developing effective management practices.
5. Increasing
managerial awareness of the value of human resources.
6. For better
human resource planning.
7. For better
decisions about people, based on improved information system.
8. Assisting in
effective utilization of manpower.
Benefits of HRA:
There are certain
benefits for accounting of human resources, which are explained as follows:
1. The system of
HRA discloses the value of human resources, which helps in proper
interpretation of return on capital employed.
2. Managerial
decision-making can be improved with the help of HRA.
3. The
implementation of human resource accounting clearly identifies human resources
as valuable assets, which helps in preventing misuse of human resources by the
superiors as well as the management.
4. It helps in
efficient utilization of human resources and understanding the evil effects of
labour unrest on the quality of human resources.
5. This system can
increase productivity because the human talent, devotion, and skills are considered
valuable assets, which can boost the morale of the employees.
6. It can assist
the management for implementing best methods of wages and salary
administration.
Limitations
of HRA:
HRA is yet to gain
momentum in India due to certain difficulties:
1. The valuation
methods have certain disadvantages as well as advantages; therefore, there is
always a bone of contention among the firms that which method is an ideal one.
2. There are no
standardized procedures developed so far. So, firms are providing only as
additional information.
3. Under
conventional accounting, certain standards are accepted commonly, which is not
possible under this method.
4. All the methods
of accounting for human assets are based on certain assumptions, which can go
wrong at any time. For example, it is assumed that all workers continue to work
with the same organization till retirement, which is far from possible.
5. It is believed
that human resources do not suffer depreciation, and in fact they always
appreciate, which can also prove otherwise in certain firms.
6. The lifespan of
human resources cannot be estimated. So, the valuation seems to be unrealistic.
Methods of
Valuation of Human Resources:
There are certain
methods advocated for valuation of human resources. These methods include
historical method, replacement cost method, present value method, opportunity
cost method and standard cost method. All methods have certain benefits as well
as limitations.
Cost approach
This approach is also called an acquisition cost model. This method measures the organization’s investment in employees using the five parameters recruiting, acquisition, formal training and familiarization, informal training and informal familiarization, and experience and development. This model suggests that instead of charging the costs to profit and loss statement (p&l) accounting, it should be capitalized in the balance sheet. The process of giving a status of asset to the expenditure item is called capitalization. In human resource management, it is necessary to amortize the capitalized amount over a period of time. So, here one will take the age of the employee at the time of recruitment and at the time of retirement. Out of these, a few employees may leave the organization before attaining the superannuation. This method is the only method of Human Resource Accounting that is based on sound accounting principles and policies
Limitations
- The valuation method is based on the false assumption that the dollar is stable.
- Since the assets cannot be sold there are no independent checks of valuation.
- This method measures only the costs to the organization, but ignores completely any measure of the value of the employee to the organization.
- It is too tedious to gather the related information regarding the human values.
- it may be possible that the employee is already fully trained and there is no need to employ any development, training, recruitment cost.It will create difficulty for a company to find out CTC according to acquisition model.
Replacement cost approach
This approach measures the cost of replacing an employee. According to Likert (1985) replacement cost includes recruitment, selection, compensation, and training cost (including the income foregone during the training period). The data derived from this method could be useful in deciding whether to dismiss or replace the staff.
Limitations.
Substitution of replacement cost method for historical cost method does little more than update the valuation, at the expense of importing considerably more subjectivity into the measure. This method may also lead to an upwardly biased estimate because an inefficient firm may incur a greater cost to replace an employee.
Present value of future earnings.
Lev and Schwartz (1971) proposed an economic valuation of employees based on the present value of future earnings, adjusted for the probability of employees’ death/separation/retirement. This method helps in determining what an employee’s future contribution is worth today.
Limitation.
- The measure is an objective one because it uses widely based statistics such as census income return and mortality tables.
- The measure assigns more weight to averages than to the value of any specific group or individual.
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