Human Resource Accounting – Valuation Models & Disclosure

When you look at a balance sheet, you see numbers that tell a story about a company's financial health. But what about the people who drive innovation, build relationships, and create value every day? Human Resource Accounting (HRA) aims to measure, record, and report the value of employees as organizational assets. This concept has revolutionized the way we understand corporate value, moving beyond tangible assets to recognize the hidden power of human talent. Human Resource Accounting brings this idea to life, seeking ways to quantify the worth of employees and present it alongside physical assets.

Valuation Models

a. Lev & Schwartz Model

This is the most widely cited model for human resource valuation. It estimates the present value of future earnings of employees, treating them as assets whose value can be calculated much like a machine or a patent. The steps are very systematic and logical.

Lev & Schwartz Model Formula:
V = ∑ (T = r to n) [I(T) / (1 + r)^T−r]

• V = Present value of an individual's future earnings
• I(T) = Earnings of the individual in year T
• r = Current age of the employee
• n = Retirement age
• r = Discount rate

Example

Suppose an employee is 30 years old, expected to retire at 60, with a current annual salary of ₹5,00,000, and a discount rate of 10%. For simplicity, assume the salary remains constant and the employee stays until retirement.

1. List years of service: 30 to 60 (31 years).
2. For each year, calculate discounted earnings:
   Year 1 (Age 30): ₹5,00,000 / (1.10)⁰ = ₹5,00,000
   Year 2 (Age 31): ₹5,00,000 / (1.10)¹ = ₹4,54,545
   Year 3 (Age 32): ₹5,00,000 / (1.10)² = ₹4,13,223
   ... continue until Year 31.
3. Add up all discounted earnings to get the present value.

Summing these values gives the present value of future earnings, representing the employee's value to the organization. This model is straightforward but assumes salary stability and ignores career progression or turnover probabilities.
Why does this matter? Because it translates human contribution into a quantitative asset, making the invisible visible for decision-makers and stakeholders.

b. Flamholtz Model (Stochastic Rewards Valuation)

The Flamholtz model improves on Lev & Schwartz by considering the probability of employees moving into different roles and the likelihood of their continued service. It assigns values not only based on earnings but also on future roles and the chances of occupying them. The process typically involves:

• Estimating an employee's expected tenure.
• Predicting career paths and possible roles.
• Assigning probabilities to each future position.
• Calculating the expected value for each possible outcome, then discounting to present value.

This probabilistic approach better reflects reality where employees may be promoted, transferred, or leave, and all these possibilities shape their value to the organization.

c. Morse Model (Net Benefit Approach)

The Morse model values human resources based on net benefits. It calculates the present value of future benefits derived from employees, subtracting costs linked to acquisition, development, and maintenance. This approach focuses on benefits rather than just earnings, recognizing indirect advantages employees bring, such as improved morale, reduced turnover, and innovation.

Disclosure Practices

a. How HRA Appears in Annual Reports

Human Resource Accounting disclosures vary widely. Companies often present HRA information as supplementary statements in their annual reports, separate from conventional financial statements. Disclosures may include:

• Valuation of human assets using chosen models.
• Methods and assumptions employed (discount rates, career progression, etc.).
• Comparisons across years, highlighting human capital growth or decline.

But why do firms bother to disclose such details? Transparent reporting of human assets signals commitment to employee development and helps investors and stakeholders assess organizational sustainability. It also prompts management to invest thoughtfully in training, retention, and recruitment.

b. Example: Infosys & BHEL’s HRA Disclosure

Infosys has been a pioneer in HRA disclosure in India. In its annual reports, Infosys presents the value of its human resources using the Lev & Schwartz model, detailing assumptions about discount rates and employee tenure. The company categorizes employees by age group and calculates the present value of future earnings for each group, aggregating the results. This information appears as a supplementary statement, demonstrating the significant value assigned to its workforce.

BHEL (Bharat Heavy Electricals Limited) also discloses HRA figures in its annual reports. BHEL details the process of valuation, including the model used (often Lev & Schwartz), salary assumptions, and retirement ages. The company provides year-on-year comparisons, showing how the value of its human assets changes over time. These disclosures help reinforce the idea that people are fundamental to organizational performance and continuity.

Final Thoughts for Learners

Human Resource Accounting is a philosophy that places people at the heart of business valuation. The models discussed are tools to capture this value, but always consider their limitations and the assumptions underlying each approach. When reviewing annual reports, look for how companies articulate their investment in people, and question the impact on long-term success.