ECONOMIC VALUATION MODELS

• Established capital budgeting techniques are applied to people

• Do not record investment in human resources at historic or replacement cost.

• Argument: the value of firm's employees is their discounted future earnings

• Present value methods try to measure economic value

 LEV AND
SCHWARTZ MODEL
(1971)
 based on the economic concept of human capital.

 value of human capital is the present value of the future

earnings of people till retirement.

 This model is also known as compensation model.

 All employees are classified in specific/ homogeneous

groups according to their age and skill.

 Construction of average earning stream for each group.

 Discounting the average earnings at a predetermined rate in

order to get present value of human resources of each
group.

 Aggregation of the present value of different groups which

represent the capitalized future earnings of the concern as a
whole.
LEV AND SCHWARTZ MODEL (1971)
Accordingly "the value of human capital represented by a person of age "y" is the present value of
his remaining future earnings from his employment". Following fommula has been suggested to
quantify the value of human capital:-

Where

Vy = the human capital value of a person y years old.

I(t)= the person's annual earnings up to the retirement

r =a discount rate specific to the person.

t = retirement age.
LIMITATIONS
A person's value to an The model ignores the
organization is not possibility that an
01 entirely determined by
the salary paid to him.
03 individual may leave
the organization for
They tend to change in reasons other than
response to social, death or retirement
political and economic
conditions.

The model does not The model also ignores

consider the changes other considerations
02 which people make
during their career,
04 such as seniority,
bargaining capacity, skill
from one role to experience, etc., which
another, at one or more may result in payment of
times within the higher or lower salaries
organization itself to employees.
LEV AND SCHWARTZ MODEL - IMPROVEMENTS
Because Vy is an exposit value, given that I(t) is obtained only after retirement and because Vy
ignores the possibility of death before retirement age.
They refined the valuation model as follows:-

Where

E(VT) = the expected value of a person's human asset

I(t)= the future annual earnings.

r =a discount rate specific to the person.

P y =the probability of a person dying at age t.

t = retirement age
the total number of employees in a concern is 500
and their average earnings in different age group
are as below:- FOR EXAMPLE

Average annual earnings

Age group per employee (Rs.)
25 - 34 5000
35 – 44 7000
45 – 54 8000
55 – 64 10000

Let us assume a discount rate of 12%. The value of

human capital of the unskilled employees will be
calculated as follows:-

Let us assume that all the employment is 24 years

old. Each person will earn as follows:-

Rs. 5,000 per year for the first 10 years.

Rs. 7,000 per year for the next 10 years.
Rs. 8,000 per year for the next 10 years.
Rs. 10,000 per year for the next 10 years.
The present value of this series of 40 years is calculated in the following
manner:-

Annual Earnings Years Present Value IRS

(in Rs)
5000 10 5.650 28250
7000 10 1.819 12733
8000 10 0.586 4688
10000 10 0.226 2260
TOTAL 47931

Value of human resource

= (Total present value of an employee) * (number of
employees )
=Rs. 47,931 * 500
=Rs. 2,39,65,500
 LEV AND SCHWARTZ MODEL
MERITS

provides information Reporting the general represents an advance

about the changes in and specific human over Hermanson's
the structure of the resource values arbitrarily chosen five
labour force. indicate the firm's year period for
recruitment and wages valuation
policy
LEV AND SCHWARTZ MODEL
-DEMERITS
 A person's value is not
determined entirely by
the person inherent
qualities but also by
the organization role
 model ignores the  assumes that the
employees change remuneration of an
their roles during their employee as being
career due to equal to his value.
promotion, transfer
etc.

 The degree of objectivity to  does not take into  likelihood of subjectivity

be expected is to be low
and a strong assumption
for continuing of the
organisation will have been
made.
account the possibility
and probability of an
individual leaving the
organisation other than
death of an individual or
retirement.
being associated with the
determination of the level
of future salary, the length
of expected employment
and discount rate
Application
ApplicationOf OfLev
LevAndAndSchwartz
SchwartzCompensation
Compensation
Model
ModelOn OnThe TheAccounting
AccountingPractices PracticesOf
OfMCF
MCF
Limited
Limited
TIME PERIOD OF CONDUCTING STUDY: 2013 to 2015

CASE
STUDY

CASE
STUDY
OBJECTIVE:-

• To determine the worth of the human resources employed in Mangalore Chemicals and Fertilizers Limited.
• To establish the relationship between employee demographics, revenue, employee cost with human
resource value.

HYPOTHESIS:-

H1: There is a significant relationship between the employee age, education and career stage with the human
resource value of the firm.
H2: There is a significant relationship between the number of employees and total revenue of the firm.

DATA ANALYSIS & INTERPRETATION:-

• Employees are grouped based on their designation, and the economic worth of each designation is
calculated by considering the aggregate age, tenure at a particular designation, earnings, retirement age
and the adjusted discount rate.
• The overall concept of this method is to measure the current value of employees future earning.
• The model assumes that employee salary as a constant irrespective of future changes. However, this study
takes into consideration of employee promotional opportunities and salary increments.
• Contingent earnings, social assistance and other benefits are disregarded from the measurement of human
resource value.
Table 1 illustrates the HRV with
regards to MCF Limited during the
year 2013 to 2015. From the table, it is
evident that the value of human
resource from the year 2013 to 2015
is decreased due to the significant
number of employees from the
different cadre left the company and
also as the study identifies that as the
employee attain his or her retirement
age the value corresponding to the
employee decreases.

As Table 2 depicts the significant

value share is derived from the
employees between the age of 31 to
36 years. Employee belonging to this
age group possess substantial years
of work experience, training,
education, knowledge, skills and
more years of service balance. It
indicates that human resource value
has got a significant relationship with
employee demographics and thereby
supports H1
• The number of employees in a firm is also a
decisive factor in determining the HRV. The
present study result also strengthens the
argument as the correlation coefficient
indicates a strong association between the
number of employees and Human resource
value (rn1*hrv1=0.9557, rn2*hrv2=0.9816,
rn3*hrv3=0.9823).

• However, the above results need to be

considered as a deterrent to the practical
applicability of HRA as in the current
scenario of technological advancement
machines are replacing humans, thereby
reducing the number of employees.
technological advancements shift
production tasks directly from capital to
labor, thereby reducing labor's share of
output.

• The current study identifies that, as the

employee number increases the value of
human resource increases. Nevertheless, in
the changing scenario, organizational
efficiency is the result of the quality of its
staff not depends on the quantity it
possesses. Therefore, the study envisages
the need for an efficient model which could
facilitate measuring the intellectual capital
at its true potential.