Understanding the Importance of Human Capital

The value of the knowledge and skills that employees and owners collectively bring to a company is the business's human capital. Developing and managing this valuable business asset can be important to a company's success.

The concept of human capital

Traditionally, employees were viewed as part of the cost of doing business rather than as part of the business's capital. The wages or salaries paid to employees, and the costs of any employee benefits were considered business expenses. The concept of human capital, which began to be developed in about 1960, offers a new way for companies to view their employees.

The idea of human capital is to see the workforce as a capital asset of the company, similar to traditional physical capital assets like buildings, machinery, and office equipment.

The workforce is not an expense but rather a capital asset that adds to productivity.

Human capital is an imprecise term that can be defined as the combined knowledge and abilities of the employees and business owners that contribute to productivity and profits.

In describing human capital attributes, various terms may be used, including experience, intelligence, creativity, talent, education, skills, expertise, judgment, and wisdom. The individual personality and habits of employees can also fit into the equation.

Developing and managing human capital

Just as a company can invest in physical capital such as buildings or machinery, a company can invest in human capital. Human capital development, also called human capital management, involves creating systems and practices to attract and hire new employees and retain them. This includes:

• Recruiting and hiring employees
• Training employees
• Monitoring and analyzing employee effectiveness and efficiency
• Retaining employees through factors such as work environment and employee benefits

Creating and fostering a good workplace environment encompasses many factors, such as flexible working hours, giving employees input in decision-making and problem-solving, performance bonuses and other expressions of appreciation, communication between employees and managers, company social activities and events, and a company culture that values a balance between work and personal time. In short, the idea is that a happy employee is a productive and loyal employee.

In larger companies, developing and managing human capital is typically done by a human resources (HR) department, sometimes called a human capital management (HCM) department. The HR department may have several employees. In smaller businesses, this responsibility generally falls to one or more of the owners.

Measuring human capital

Recognizing that the workforce contributes value to the company is one matter. Measuring that contribution is something quite different. Unlike the tangible physical capital of a building, a fleet of trucks, machinery, office computers, and desks, human capital is intangible. Measuring it is difficult, if not impossible. But that hasn't stopped some from trying to do so.

The idea is that you compare the company's profits both before and after implementing a human capital management program. This looks good in theory, but at least some of the improvement in profits may be due to other factors, such as improving products or services, marketing efforts, business expansion, or other companies' acquisition.

Also, human capital really belongs to the employee, not to the company. If an employee leaves the company, her part of the human capital leaves too. Depending upon the nature of the job and the ability of the person leaving, this can have anywhere from a minimal to a devastating effect on the company.

While today's businesses tend to view their employees as assets rather than as expenses, the concept of human capital is still evolving. Even though it may be difficult to quantify, developing, and managing the human capital of your business is important to success.