Human Capital Evaluation : determining both the cost and value of a firm's human

Abstract

Many times, the phrase “our people are our most important asset” is used by company CEO’s. Yet personnel are not included on the balance sheet of any company. There are several reasons for this, including the fact that the personnel are not owned by the company. This thesis is informed by a literature survey spanning two hundred years, from the early comments of Joseph Whitworth in the Nineteenth Century till the present and by the writer’s 50 years of experience in industry and academia. The author’s CV is included in Appendix 7. What this dissertation attempts to do is put people onto the balance sheet, and to do it in two ways: what the company paid for the asset (that is, what the people cost) and secondly what the company got for its money (that is, what is the value of the personnel asset). The cost of the asset is determined by using Discounted Cash Flow calculations for every current employee, using their current Cost to Company, their years to retirement and the company’s current Cost of Capital. These costs are then aggregated for all personnel to achieve the cost of the asset. Such a calculation fulfils all the necessary accounting conventions. In a field test of the index, taken at a South African water supply company, the value of the Human Resource was calculated at R98 million. On the value side of the equation, an index has been devised consisting of four factors and four factors only: Experience, Qualifications, Heath and Intelligence. These four factors have been chosen for the following reasons: Their reproducibility, the fact that they are not selfadministered and their correlation with job success. The research has not yielded any other factors which meet these criteria. These four factors have then been combined into an index with a scale notionally from 1 to 9. All factors are given equal weight and adjustments are made to the values so that they all conform to an approximate 9-point scale. The values of the four factors are added together and divided by four, to achieve a composite index. In the field test of the Index, conducted at the maintenance department of a South African water supply company, the average values of the four factors were found to be: IQ: 93; Experience: 12 years; Qualifications measured by the SAQA system: 6 years; Health: 9 (estimated). The resultant average and adjusted value is 6.9 on a roughly 3 to 9 scale. This value can be used to compare this company with others in the same industry, nationally and internationally. It is also used to define the ratio Index/Cost of Asset, which in the case in question was 6.9/R93million. Future work should include analyses of other companies, so that a data base can be constructed for various companies in various industries. Further research is necessary to determine if the equal weighting of the four factors is optimal. It is further acknowledged that although the approach followed in this research will be of benefit in the assessment of human capital, it is not the be all and end all of company management. An excellent Human Resource still needs to be correctly managed along the lines of the classic scheme of Investigate, Plan, Delegate, Monitor and Adjust as necessary, followed by the establishment of motivational incentives as per Herzberg. Finally, even with all the above, there is no substitute for passion, as described in one of the appendices. What the present research has done however is to provide a tool for the assessment of the management itself as a Human Resource, what the company paid for it and what it got for its money. It is also necessary to note here that to fully implement the technique and prove conclusively that it is a valuable contribution to management science, could take years. We do not have the luxury of time, so validation has been done by interaction with experts in the field and by noting the comments from peer reviews in the published article.