Human Capital

Human Capital, The Value of Training and Obstacles for Calculating Training ROI

All of the preceding appears to present a rather gloomy and pessimistic portrait of the value of training. This is definitely not the intent of this paper. An avowed purpose is to present a critical analysis of poor training selection and lack of systemic support of the training effort within organizations. We now alter our discourse and offer a more positive view of training, what it offers and how its benefits may be calculated.

A central concept to the calculation of ROI for training is that of human capital. At this point, it is useful to define two key terms and from these derive the important contribution training can make to organizational performance.

Capital: The common dictionary definition of this word is "any form of wealth employed for the production of more wealth". During the agricultural era, land represented the major unit of capital. By the time of the industrial revolution, money and physical plant or machinery emerged as the preeminent units of capital wealth. Now that we have entered the information era, knowledge has replaced physical assets as the most valuable capital asset (Crawford, 1991).

Human Capital: This leads to the theory of human capital which is based on the notion that education, by its very nature, transmits useful knowledge which increases the productivity of individuals and which in turn justifies increases in wages and salaries tied to greater worker productivity (Gravot, 1993, p. 2). This suggests that education and training, specifically targeted to meet an organization´s needs, can increase the value of its human capital. Both the organization and the individual employee benefit from the increased value.

More than "just a theory", economists such as Thomas W. Schultz (1981) and Gary S. Becker (1993) have won Nobel prizes for their demonstration of the impact and value of human capital at macro-economic levels. In 1995, the American Management Association conducted a national survey of major businesses and identified a very strong interaction between increased training budgets and decreases in personnel. They found that 68% of businesses which had increased their training budgets after a significant downsizing improved their profits. Only 42% of companies maintaining the same training budgets as before showed profit gains. The companies with larger training budgets saw their profits jump an average of 44% compared with the other companies whose profits went up 29% (Gordon, Lee, Picard, Stamps and Zemke, 1996).

Many economists and researchers have provided powerful evidence that the intellectual assets of a corporation are usually worth 3 to 5 times its physical assets (e.g. Lickert and Pyle, 1971; Stewart, 1994). All of this suggests that human beings represent immense wealth for organizations and that training, appropriately delivered, can lead to increased wealth.

The problem, however, is that virtually no companies, other than those owning sports teams, calculate the value of their human assets. Examination of any annual report not receive the careful attention it should. If managers perceived training as an investment illustrates that physical assets are clearly identified (e.g. buildings, machinery, inventory) while gifted engineers, marketers and managers appear nowhere on the balance sheet. Furthermore, training expenditures merely show up as costs that decrease company profits.

All of this creates a climate that explains why training does with strong potential to increase the value of a company´s capital assets, perhaps they would consider its selection, delivery, support and maintenance more carefully.

A second problem is the difficulty training managers experience in calculating the value of the training effort -- training ROI. Crane (1989, p. 47), in a doctoral study on quantitative measures and cost/benefit analysis in human resource departments, concluded that "training is measured subjectively rather than quantitatively. Few programs are measured in terms of results. The most common evaluation method used is participant feedback sheets. Training is seen as an expense...training results are usually presented in demographic rather than economic terms."

Lombardo (1989, p. 61) found that training managers strongly desire methods and models for calculating training ROI. They want to know "whether the training curriculum is based on genuine organizational need or simply a carry-over of past practices." However, they complain that they do not know how to find out.

Grove and Ostroff (1990) identified four major barriers that discourage verifying training ROI:

• Senior management does not ask for it.
• Training managers do not know how to do it.
• Training managers do not know what to measure and evaluate.
• The effort may be both costly and risky.

This is confirmed by Meignant (1991, p. 23) who also found training managers anxious about their inability to calculate "the famous return on investment of training". He goes on to deplore the situation asking "what, then is the contribution of training to the quality of performance. He concludes by stating that the existence of training courses has no worth; only the added value they provide counts. (p. 24)."

To summarize, people generally represent greater value for an organization than its physical assets. Education and training can increase this value. However, these must focus on organizational needs. Handy, Gordon, Gow and Randlesome (1990, pp. 60 - 67) make the following observation: "Many courses are nothing more than entertainment as opposed to carefully planned, strategically useful events...with very little follow-up." They add that " training in business and industry is more concerned with appearances than effectiveness...".

Training managers desire change and state that they want to demonstrate the added value of their efforts. How to do this in a reasonable manner remains a key question for them. What follows provides an answer in the form of a clearly defined procedural model for calculating not only training ROI, but also the increased value of human capital for both the organization and the individual.