Valuation of human capital

 

After an interesting discussion regarding how to do valuation of companies and how to analyze financial ratios of the companies very interesting discussion regarding valuing human capital came up. Professor rightly pointed out that the financial statements are designed to capture assets such as plant and machinery, land, inventory and liabilities such as loan payable, accounts payable etc. But what about the human capital. Peter Drucker said 40 years ago that World is moving towards knowledge economy where people will be most valuable assets of the company. And he was spot on we are living the world where people make or break companies. Software giants such as Microsoft, Google, Facebook do not have assets in form of huge machineries, land and equipment but they have human talent, brightest engineers from across the world working for them. How to value the company with such assets then.

The world has changed a lot, few people from basement office can create company with sales of more than billions of dollars so balance sheet of these companies will be asset=negligible, liabilities= negligible, revenue=astronomical and profit=you can’t believe. So if you do the same ratio analysis that you do for say steel company, airline or big retail company then you will never invest in other companies. That is a big problem and often causes overvaluation of technology companies.

So how to value human capital. I can think of only sport to look for answers. Footballers are sold and bought by clubs and valuation is done based on goals scored, previous performance, merchandise selling potential etc. But still they can not put that value on the balance sheet as accounting rule do not allow it. Some other form of statements have to be started some parameters to be defined for such companies. I was thinking of Human capital index or Human resource index a measure of IQ of the employees or Standard test scores, something to tell potential investor what they are buying.

I can not think of any perfect solution as beauty of we humans is that each one of us is unique. So it’s a big challenge to all accountants to value the company correctly.

Signing off

Nikhil Parchure

Disclaimer : The thoughts above are directly influenced by Class discussions at Drucker school MBA class. Examples used are directly taken from class discussion. Company names used are only for the sake of example.

Electric Car : Hybrid or Full electric Which suits the time.

With launch of Chevy Volt and Nissan Leaf EV market is about to explode. Higher gasoline prices and government incentives for EVs means good business for next few years. But is the Complete electric vehicle way to go forward?. It sounds a perfect solution but not in near term. Maybe once technology in battery evolves and allows to store more energy in less space then we can think of 100% electric cars. Till then we have to live with hybrids. Toyota Prius and Chevy Volt. Many others like Ford, Honda driving in with their plug in hybrids as well so 2011 will be exciting year for auto industry.

I prefer Toyota Prius like hybrid and one that they will be launching in 2012. Hybrid which can run up to 10 miles on electricity and will have full gasoline engine is wise solution for current market. The cost of such vehicle will be less as you will be having less amount of batteries and it will also help in improving overall efficiency. I believe full electric is the way to go ahead but in stage manner.

Chevy Volt is a having engine but it is used to charge the batteries and not drive the car. It is good concept but due to that the overall price of the car goes up very high. I think hybrid car that can be used as normal car will be good success in short term. Car that can run on gas even without charging will give comfort to people to shift from their existing cars to such hybrids. The cost of such cars will also be less as battery which accounts for 50% for electric car’s cost is small in size.

At low speeds and traffic situations electric motor is the best option and at highways gasoline works fine. Car that merges these two (like Prius) will be very helpful in attracting masses to such cars. (Still hybrids are less than 3% of total vehicles). Nissan claims that 100% electric is the only car which is actually totally green. I think Green and eco friendly differently. Considering cost of Nissan leaf and Chevy Volt very few will actually buy these cars. And many buyers will be second car buyers. So this will not help environment directly. A car which can improve efficiency of gasoline engine by 25% and is affordable will be far more eco friendly on sheer numbers.

Jury is still out and experts have different opinions. So let us see how 2011 brings changes in Auto and EV market.

Sources: News about Chevy Volt, Nissan Leaf and Prius from different websites, Bloomberg report on EV market, Car reviews by CNN.

Signing Off

Nikhil Parchure

Happy New year and starting 2011 series

 

Dear All

Wishing you a Happy and Prosperous New year. May 2011 bring joy and success to you.

Also I will like to thank all of you who are reading my blog and contributing via comments and feedback. I really appreciate your efforts. Thank you very much for all the encouragement.

I have complied all my blog posts of 2010 in one pdf file. you can see or download the file from below mentioned link.

http://www.box.net/shared/9secr21vo7

Once again thank you for your contribution and looking to get similar support in 2011.

Post date: 1/1/11 …wow

Signing off

Nikhil Parchure

Copy Paste Won’t Work (Ctrl C+ Ctrl V = Error)

Studying in US gave me opportunity to see the other side of world. The place from where all technology and concepts are exported to all over the world. As I come from India, I can see many things back home which are direct replica of systems in US. This created many questions in my mind.  The systems which look very practical and obvious in US are not at all practical in India. But still companies refer best practices from abroad and implement in India without any modification.

Online retail. One of the biggest thing in US. Online retailers are selling billions of dollars worth of goods. Selling every possible things that can be sold. Many people want to replicate the model in India. They are banking on the calculations that if 400 Millions US citizens can buy Billions of dollars worth goods online, 1 Billion Indian citizens few years down the line will buy goods worth hundreds of billions. But the situation is different as I see. Here buying online very helpful and convenient. The stores are miles away and you need to drive down to store to buy the goods. Most of the stores store standard furniture, standard designs. So online retail is all about convenience and comfort for customer. When Indian online retailers are selling online they have to keep in mind that customer will always check online and buy local. Customer want’s to touch and use the product before he buys it. So people will buy online only if its having large price difference some reward point deals, some bonus point redemption deals. Many will disagree and say online site revenues are growing rapidly but you have to look at what is sold. Rail tickets, air tickets, hotel reservations, car bookings, music CDs, Standard Electronics and list almost ends here. These products need not be handled or checked before you get them. Will you ever buy shoes online. Or will you ever buy a clothing online I guess not.

For India model should be hybrid, I think online retailers should appoint franchisees in local markets, stores that will be used only to display products as car showrooms. One piece of everything that is to be offered. Once customer visits, reviews and decides to buy the product then it gets transferred to online model. Showroom owners gets some commission and online retailer sales the actual product. This will not only help the transition in mindset but will also give customer confidence in website and products that it sells. Current model is targeting only gen next. People who are comfortable buying online but hybrid model will allow all customers to participate in online buying. Also Biggest worry in India is quality and whom to contact if there is any problem. Customers are afraid to order from unheard websites as they suspect frauds this makes entry very difficult. Hybrid model will help in solving this problem.

There are many things similar in the retail industry which I observed. I will post about them at later date.

Signing off

Corporate Social Responsibility (Part 2)–Not for Profit Organizations

 

Yes its time for part 2. After very good comments from you all and discussion with fellow students I decided to post this to explain my views about this subject in more depth. I thank all of them who shared their views and contributed.

What has changed? As I spoke to some NGO’s and people working in non profit industry I sense there is a major shift in Non profit sector. Now people and businesses are no longer giving donations and expecting nothing in return. Now donors want to know how Non profit organization is going to use it with emphasis on how they will be self sustainable in years to come. People are now realizing that you can not indefinitely bail out poor or under privilege,its not practical and World economy going through tough times and corporate donations drying up this is way forward for self sustained Not for Profit movement.

So now there is demand from donors that Non Profit organization makes enough profit to survive without external help. So this is a major shift in thinking. Shift from “Giving people food” to “Teach them how to fish”.

I like the way it is shaping up as I totally agree that Organization should be self sustainable to make an impact in society.  Now I see NGO’s creating innovative revenue models to make profit to survive. Some people argue that such mentality will only take organization towards profit making and will distract them from their main purpose, but my argument is organization will continue to work on its purpose if it survives. If World economy do not recover quickly then we will see half of the NGO’s shutting their operations or holding back on expansion plans which will be great setback to those who need help.

The shift will also cause major effect in management of Not for profit organizations. Today Organization’s Management was wholly focused on philanthropy but now they have to tackle revenue, deficit, forecasting, planning tasks. I don’t know how things will go but my sense is you will have Not for Profit companies fighting with for profit companies for talent. So It’s a major challenge for businesses as they fight with attrition. Not for Profit sector will give tremendous satisfaction factor to work force which for profit companies hardly give and Once Not for profit companies start using community services and local businesses to generate revenue they can surely offer more compensation to people working for them.

It will be really interesting to monitor this development. I have decided to keep a watch on this and I will update once I find some real life example.

Disclaimer: The ideas mentioned are not unique and have been used in real life. Many NGOs are already working on this model. Also the opinion is not based on any actual data to prove it.

Signing Off

Nikhil parchure