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Human Resource Accounting

Introduction.
Human resource accounting (HRA)...

 Success of every firm depends upon caliber, honesty, quality


and character of employee working in it.
 Employees are the important assets of an organization and
the success and the failure depends upon the skill and
performance of the employees.
 Human resources are not properly valued.
 Companies consider salaries and wages as revenue
expenditure. No effort was made to calculate cost of hiring,
training and developing of human beings. Western countries
treat their human being as capital expenditure. They treat
human beings as assets of the organization

Unlike the physical assets, human resource do not depreciate


over a period of time

Infact with additional training and experience gained over a


period of time ,they tend to do well on the job .This fact however
is ignored when a firm balance sheet is prepared. All the
expenses relating to recruitment, training and development of
employees are charged against the revenues of a particular
accounting period.

Human resource accounting is one such method which endeavors to


measures both cost and the value of people to an organisation.In India,
several companies in the 1970s began to show the value of their human
resources in their annual reports such as BHEL ,Engineers’ India
,Associated Cement Corporation Of India ,ONGC,etc

Human resources, like any other asset, bring with them several costs.
WHAT IS HRA?
The American Accounting Association’s Committee on Human
Resource Accounting
(1973) has defined Human Resource Accounting as “the process
of identifying and
measuring data about human resources and communicating this
information to
interested parties”. HRA, thus, not only involves measurement of
all the costs/
investments associated with the recruitment, placement, training
and development of
employees, but also the quantification of the economic value of
the people in an organization.

Objective

1. Provide cost value information about acquiring, developing, allocating


and maintaining human resources so as to meet organsational goals
2. Enable management to effectively monitor the use of human
resources.
3. Find whether human assets are appreciating or depreciating over a
period of time.
4. Assist in the development of effective management practices by
classifying the financial consequences.

Advantages

HRA

1. It throws light on the strength and weaknesses of the existing


workforce in an organisation.This in turn help management in
recruitment planning whether to hire people or not?
2. It provides valuable feedback to managers regarding the
effectiveness of HR policies and practices. For e.g. high
training costs may warrant a change in policy ,additional
recruitment expenses in respect of a particular category of
employees may indicate the need for a better compensation
package, high training costs may compel managers to look at the
return over period of time.
3. It helps potential investors judge a company better on the
strength of the human resources can help investors decide which
company to be picked up as an investment.
4. It helps management in taking appropriate decisions regarding
the use of human assets in an organisation, ie, whether to hire
new recruits or promote people locally, incur additional training
costs or hire consultant keeping the impact on the long run
profitability in mind.

Approaches to HRA

MONETARY AND NON MONETARY


Monetary

1. Historical cost approach

This was the first attempt towards employee valuation made by R. G.


Barry Corporation of Columbus, Ohio in the year 1967. This method
measures the organization’s investment in employees using the five
parameters: recruiting, acquisition; formal training and familiarization;
informal training, Informal familiarization; experience; and development.
The costs were amortized over the expected working lives of individuals
and unamortized costs (for example, when an individual left the firm)
were written off.
2. Replacement Cost approach
Likert [Bowers, 1973] imagines an extreme situation for the firm's
management:

"Suppose that tomorrow all the jobs are empty, but you still have
available all the rest of the resources: buildings, factories, industrial
plants, patents, stocks, money, and so on; except, of course, for the
personnel. How much time would it take you to recruit the necessary
personnel, train it until they are able to assume all the existing functions
at the present competitive level and integrate it in the organization in the
same way they now are?"

The mental exercise necessary to rebuild an organization is an excellent


way to attract attention to human resources, which is now seen in a new
light. Certainly, Professor Likert's fiction includes the implicit posing of
human resource valuation under substitution (or replacement) cost
criteria.

Even though Likert's proposal is very unlikely, it enables calculating the cost of totally
substituting (or replacing) human resources. To calculate substitution cost, figure in the cost
of sacrifice to replace a human resource that is already employed. This cost includes exit
costs of the leaving employee and recruiting and training of the
replacement.
3. Opportunity Costs

Some authors consider that opportunity costs are not the alternative to
historical costs or substitution costs, but estimates these costs without
mistake. Opportunity costs are considered as "an asset value when [they
are] the target of an alternative use"

In this approach, all the managers within an organization will be


encouraged to bid for any scarce employee they want and the one who is
able to acquire his services puts the bid price as his investment .

The bid price is arrived by calculating the actual or expected rate for
capitalization of the differential earning supposed to be earned by the
employee

4. 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.

5. Expense model

According to Mirvis and Mac, (1976) this model focuses on attaching dollar
estimates to the behavioral outcomes produced by working in an
organization. Criteria such as absenteeism, turnover, and job performance
are measured using traditional organizational tools, and then costs are
estimated for each criterion. For example, in costing labor turnover, dollar
figures are attached to separation costs, replacement costs, and training
costs.

6. Economic Value Method

In this method human resources are valued on the basis of the


contribution they are likely to make to the organization during their
continuance in the organisation.The payments to be made to the
person by the employing organization in the form of pay, allowances,
benefits, etc. are estimated and discounted appropriately to arrive at
the present economic value of the individual.

7. Asset Multiplier Method


In this method, the employees working in an organization are classified
into four categories: top management, middle management, and
supervisory management, operative and clerical staff. The salary bill
of each category is multiplied with a suitable multiplier to calculate
the total value of each .Multiplier is an instrument for relating the
personal worth of employees to the total assets values of the
organization.

B NON-MONETARY METHODS FOR


DETERMINING VALUE

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. These methods may be used as
surrogates of
monetary methods and also have a predictive value. The non-monetary
methods may
refer to a simple inventory of skills and capabilities of people within an
organization
or to the application of some behavioral measurement technique to
assess the benefits
gained from the Human resource of an organization.

1. The skills or capability inventory is a simple listing of the


education, knowledge,
experience and skills of the firm’s human resources.

2. Performance evaluation measures used in HRA include ratings, and


rankings.
Ratings reflect a person’s performance in relation to a set of scales. They
are
scores assigned to characteristics possessed by the individual. These
characteristics include skills, judgment, knowledge, interpersonal skills,
intelligence etc. Ranking is an ordinal form of rating in which the superiors
rank
their subordinates on one or more dimensions, mentioned above.

3. Assessment of potential determines a person’s capacity for


promotion and
development. It usually employs a trait approach in which the traits
essential for
positions are identified. The extent to which the person possesses these
traits is
then assessed.
4. Attitude measurements are used to assess employees’ attitudes
towards their job,
pay, working conditions, etc., in order to determine their job satisfaction and dissatisfaction.
Limitation

It is not easy to value the human assets in an organization.


HRA is full of measurement problems
Employees and unions may not like the idea.
There is no empirical formula.

Conclusions

In a systematic way, this paper presented the accounting treatment for


human resources in organizations. First, general costs relating to human
resources have been analyzed, considering the possibility of including
them as assets in financial statements. Second, this paper has focused on
the training costs, studying different alternatives regarding recording.
After a detailed exposition, it is concluded that training costs can be
treated in a similar way as any other capitalized expense. Last, exit costs
have been proposed. Although several treatments have been suggested in
order to record them as an expense, a provision, or a capitalized expense,
this paper prefers the first option. There cannot be one alternative only
when treating discharge indemnities, but any approach can be considered
when it better suits the individual firm's needs.

Human Resource Audit


A healthy HR function in an organization is as important as the
physical and mental well being of a human body. Typically the
basic reason why organizations prefer to conduct an HR audit is
to get a clear judgment about the overall status of the
organization and also to find out whether certain systems put in
place are yielding any results. HR audit also helps companies to
figure out any gaps or lapses and the reason for the same. Since
every company plans certain systems and targets, an HR audit
compares the plans to actual implementation.

The concept of HR audit has emerged from the practice of yearly


finance and accounting audit, which is mandatory for every
company, to be done by external statutory auditors.

This audit serves as an examination on a sample basis of


practices and systems for identifying problems and ensuring that
sound accounting principles are followed. Similarly, an HR audit
serves as a means through which an organization can measure
the health of its human resource function.

Definition:
HR Audit means the systematic verification of job analysis and
design, recruitment and selection, orientation and placement,
training and development, performance appraisal and job
evaluation, employee and executive remuneration, motivation
and

morale, participative management, communication, welfare and


social security, safety and health, industrial relations, trade
unionism, and disputes and their resolution. HR audit is very
much useful to achieve the organizational goal and also is a vital
tool which helps to assess the effectiveness of HR functions of an
organization.

Scope of Audit:

a) Generally, no one can measure the attitude of human being and


also their problems are not confined to the HR department alone. So
it is very much broad in nature. It covers the following HR areas:
b) Audit of all the HR function.
c) Audit of managerial compliance of personnel policies, procedures
and legal provisions.
d) Audit of corporate strategy regarding HR planning, staffing, IRs,
remuneration and other HR activities.
e) Audit of the HR climate on employee motivation, morale and job
satisfaction.

Benefits of HR Audit:

It provides the various benefits to the organization. These are:

1. It helps to find out the proper contribution of the HR department


towards the organization.
2. Development of the professional image of the HR department of the
organization.
3. Reduce the HR cost.
4. Motivation of the HR personnel.
5. Find out the problems and solve them smoothly.
6. Provides timely legal requirement.
7. Sound Performance Appraisal Systems.
8. Systematic job analysis.
9. Smooth adoption of the changing mindset.

The audit process


The HR audit process is conducted in different phases. Each phase is
designed to build upon the preceding phase so that the organization will
have a very strong overview of the health of the HR function, at the
conclusion of the audit. These phases include:

1. Pre-Audit Information:

This phase involves the acquiring and review of relevant HR manuals,


handbooks, forms, reports and other information. A pre-audit information
request is forwarded to the client who compiles the necessary information
for review by auditors.

2. Preparation for an audit

Auditor engagement:

If external firm carrying out the audit, it is preferable to set terms in


writing defining and agreeing on scope .If using internal resource it is
better to appoint them formally with clarity on scope and select persons
who are non political or those who are not high on hierarchy. Also, if
internal persons are auditing there must be training in auditing.

Documents, manuals, handbooks, forms and reports auditor must have


access to relevant information contained in employee files and other
confidential documents of the organization. Auditors must be given
unrestricted access to records, once they sign agreement for
confidentiality.

3. Pre-Audit Self-Assessment:

In order to maximize the time spent during subsequent portions of the


audit, a pre-audit self-assessment form, if sent to the client can be of use.
The self-administered yes/no questionnaire asks a number of questions
about current HR policies and practices.

The completion of this self-administered questionnaire allows auditors to


identify key areas for focus during the HR audit.

4. On-site Review:

This phase involves an on-site visit at the client's facility interviewing staff
regarding HR policies and practices. A very in-depth HR audit checklist is
completed.

5. Records Review:

During the on-site visit, a separate review is conducted of HR records and


postings. Employee personnel files are randomly examined as well as
compensation, employee claims, disciplinary actions; grievances and
other relevant HR related information are checked.

6. Audit Report:

The information gathered is used to develop an HR audit report. The audit


report categorizes action needs into three separate areas. The areas that
are urgent and important (UI), not urgent needs but important (NUI), not
urgent but not important needs (NNI)), and important opportunities needs
(IO). As a result of this scheme of classification, managements can
prioritize their steps.

The critical areas

The comprehensive HR audit covers all areas of HR management like


recruitment practices, training and development, compensation and
benefits, employee and union relations, health, safety and security,
miscellaneous HR policies and practices-welfare, strategic HR issues,
manpower planning/budgeting.

Besides classifying needs in each of the above areas, the HR audit also
cites relevant laws, cases and research to support the recommendations.

Organizations undertake HR audits for many reasons:

1 To ensure effective utilization of human resources.

2 To review compliance with tons of laws and regulations.

3 To instill a sense of confidence in the human resource department that


it is well- managed and prepared to meet potential challenges and
opportunities.

4 To maintain or enhance the organization's reputation in a community.

An audit is a systematic process, which examines the important aspects of


the function and its management, and is a means to identify strengths,
weaknesses and areas where rectification may be warranted. An audit is
done on sampling basis. And in sampling, not every instance or situation
can be examined.

An HR audit can be used by an organization for multiple purposes. Some


of the more common reasons are:

 To identify and address HR-related problems.


 To seek out HR-related opportunities.
 To conduct due diligence for mergers and acquisitions.
 To support initial public offerings.
How an audit is conducted is very often determined by its intended use.
For instance, the type of audit used to ascertain HR practices may be
significantly different from the type of audit used to support an initial
public offering. Although the areas examined may be similar, the process
used and the depth of inquiry will vary from the intended outcome.

Conclusion:

The auditors always prepare and submit an audit report to authority of the
organization, which may be clean or qualified. The clean report indicates
the appreciative of the department's function, but the latter one
represents the gaps in performance and therefore contains remarks and
remedial measures. HR Audit is very much helpful to face the challenges
and to increase the potentiality of the HR personnel in the organization.

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