Finance and Accounting's Glaring Omission

• Author: Tom Pryor
• Date: 01 September 2015
• Published date: 01 September 2015
• DOI: http://doi.org/10.1002/jcaf.22081

61

© 2015 Wiley Periodicals, Inc.

Published online in Wiley Online Library (wileyonlinelibrary.com).

DOI 10.1002/jcaf.22081

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Finance and Accounting’s Glaring

Omission

Tom Pryor

THE GREATEST

ASSET

Ask the ques-

tion the world over:

“What is your orga-

nization’s greatest

asset?” The global

answer is always “our

people.” Winston

Churchill once said,

“Healthy citizens are

the greatest asset any country

can have.” A company is only

as good as the people it keeps.

People are definitely a com-

pany’s greatest asset. It doesn’t

matter which industry. A pro-

fessor was once asked: “What

do you teach?” He answered:

“Students.”

HUMAN CAPITAL

Some say that human

capital is a measure of the

economic value of an employ-

ee’s skill set. The education,

experience, and abilities of an

employee have an economic

value for employers and for the

economy as a whole.

Economist Theodore

Schultz invented the term in the

1960s to reflect the value of our

human capacities. He believed

human capital was like any

other type of capital; it could

be invested in through educa-

tion, training, and enhanced

benefits that will lead to an

improvement in the quality and

level of production (“Human

Capital, n.d.).

KNOWLEDGE WORKERS

In 1959, Peter Drucker

predicted that major changes

in society and business would

be brought about by informa-

tion. He argued that knowledge

had become the central, key

resource that knows no geog-

raphy. Drucker said the largest

working group would become

what he termed knowledge

workers.

Drucker’s predic-

tion over 50 years

ago has been ful-

filled. Knowledge

workers, like those

who work at Apple,

Google, Yahoo,

Microsoft, and thou-

sands of other orga-

nizations worldwide,

are the most valuable

asset missing from

the balance sheet. Human capi-

tal is not listed as a financial

asset or numerically measured.

THE BURNING ISSUE

Omission of the value of

human capital from the bal-

ance sheet has several negative

implications:

1. Return on capital employed

(ROCE) is overstated when

the numerical value of human

capital is omitted from the

denominator. ROCE mea-

sures how efcient a com-

pany is using its capital.

ROCE is calculated as:

ROCE= Earnings

Before Interest and

Tax(EBIT) / CapitalEmployed

By omitting the monetary value of human capital

from the balance sheet, Finance and Account-

ing professions are significantly understating the

asset valuation of publicly traded and private

firms. The author in this article makes a case for

treating human capital as an asset. Failure to do

so distorts certain financial ratios and value repre-

sentations in balance sheets. © 2015 Wiley Periodicals, Inc.