Valuable People – What is human capital and
how do you quantify it? A practical approach
from the utility industry
George Cobb and Kate Wallace, SSE
BUSINESS WITH CONFIDENCE
icaew.com
Companies the length and breadth of the country claim their people are their biggest asset. Now, SSE has become
the first company in the UK to quantify the economic value of the people it employs in our new report Valuable
people – Understanding SSE’s Human Capital.
SSE has a very deliberate approach to employing people. We directly employ the people we need; invest in
developing and growing our own talent; recruit the majority of our managers from within; limit redundancy in
favour of redeployment and retraining; and ultimately enable our employees to have long term careers with us.
We always believed this was the right approach to take, both for our employees and for our business, but we
had never really assessed empirically whether this was actually the case. We wanted the numbers to prove it, so
decided a need existed for a new and innovative way of thinking about our employees as an essential resource for
the operation of our organisation. It was time to rethink what ‘capital’ means to us.
Measuring the human capital embodied in our workforce seemed a good place to start. Human capital is unlike
other types of more conventional capital; it is not an asset that our company owns, but rather a key resource that
enables organisations to create value and grow.
So in September 2014 we began this challenging process with professional services firm PwC as our partner. We
can now confirm the human capital embodied in our 20,000 employees is indeed hugely valuable at £3.4bn.
Now we know the economic value embodied in our employees, we’re going to use this new knowledge as a
benchmark to understand how best to grow and manage our human capital over time. We hope to work with
others to refine the process of calculating this value, sharing the benefits of undertaking the process as well as the
challenges we faced and how we solved them.
Understanding human capital
Unlike more conventional and well-known kinds of capital, such as financial and manufactured capital, there is
limited consensus within the academic, private and public sectors on how to value, measure and report on human
capital.
So let’s start with the basics, what exactly is human capital?
Every individual has their own stock of human capital. An individual’s human capital is their productive capacity,
made up of two key components: innate ability and talent, and learned knowledge, skills and other attributes.
This means that certain individuals may start off with a higher level of human capital than others, but education,
training and life experiences will all contribute to growing and advancing our own personal stores of human
capital.
As individuals, our human capital determines our economic productivity and our ability to produce goods and
services and to generate ideas. To earn money we ‘lease’ our human capital to our employers, so a higher level
of human capital can raise economic productivity and increase earnings. It is therefore in the interest of both
employee and employer to invest in developing our human capital as it is a key driver of our own individual
earnings as well as economic business growth.
The human capital of an organisation is the sum of the current and future economic valuation of the skills and
capabilities embodied within all the individuals that make up the total workforce of the organisation at a certain
date – in SSE’s case, 19,631 individuals on 1 April 2014.
Quantifying human capital
To estimate the value of SSE’s total ‘stock’ of human capital, an income-based approach was used. This method
assumes the value of each individual’s human capital is equivalent to their expected total lifetime earnings, and the
company’s human capital is the sum of the human capital embodied within all employees for the duration of their
employment in the organisation.
A key assumption is at the core of our calculation: that our employees’ ability to be productive, their human
capital, is based on the fair wage SSE pays them now and expects to pay them in future. Of course, there could
be many reasons why employees may accept a lower wage than their maximum productivity would merit – for
example, there may be other benefits of their workplace which cannot be measured in monetary terms. Indeed,
the opposite may be true too. However, in the absence of such information, employee earnings are a reasonable
proxy of the implicit skills, competences, experience and capabilities of employees.
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Following this assumption, a high level approach for measuring human capital follows a relatively straightforward
process, outlined in the basic calculation below:
Future labour earnings are estimated for every individual employee, based on assumptions surrounding their job
function which determines their projected career progression.
An individual will only contribute to SSE’s total value of human capital for the length of time they are employed by
SSE. This length of service adjustment takes into account factors such as average SSE employee leaver rates. In the
theoretical scenario that all of SSE’s employees on 1 April 2014 continued to be employed by SSE for their entire
working life, the total value of SSE’s human capital would be much larger.
The methodology developed for this exercise is bespoke to SSE and uses SSE-specific inputs in the calculation. To
ensure results were not overestimated, a discount factor which incorporates a SSE-specific company risk profile was
also used.
Finding solutions to challenges
Every organisation is different, and likely their data systems for human resources will be unique to their
organisation too. Creating a model which could fit to the way SSE records and manages human resource
information was therefore a significant challenge.
The first issue arose very early in the process: SSE’s 20,000 employees are currently recorded on three different
human resource systems across two different countries, the United Kingdom and the Republic of Ireland. Whilst
the systems are not dissimilar, there were key differences between them such as job titles recorded in different
ways and whether wages were recorded as full-time equivalent or not. Our solution? Convert the two smaller
datasets into the same format as the largest dataset, which records information for approximately three quarters of
our employees.
We were then met with the challenge of determining how exactly to group 20,000 employees into a manageable
format so we could model realistic career progression for different types of roles within our company. There were
many different possible options, but we chose to group employees by job title. In total 16 ‘functional groups’ were
developed which determined, at 10 year intervals, the annual percentage wage increases that individuals within
this function could expect to experience. The ‘Engineer’ functional group for example contained individuals with
the following job titles: Assistant Engineer, Assistant Surveyor, Draughtsperson, Engineer and Surveyor.
Functional grouping was initially straightforward – until we realised there were ‘generic’ job titles. For just under
20% of our employees, job titles could not easily be matched to a functional group. For example, ‘Team Leader’,
‘Trainee’, ‘Manager’ and ‘Head of’ could potentially fall within any one of the 16 functional groups. Rather than go
by the 80/20 rule and simply apply a proportional split from the easily matched employees to the 3,500 generic
job titled employees, we decided that investing the time into fully understanding our entire dataset would add
significant value – for this first time at least. We relied heavily on the expertise of HR colleagues who undertook
the task of manually mapping these employees to an appropriate functional group – time consuming but, as we
concluded, certainly worthwhile.
Next were decisions about retention rates, retirement ages, sickness and mortality rates, productivity growth rates
and, crucially, an appropriate discount factor. All but the latter were relatively straightforward; using a combination
of SSE-specific information derived from company data and government statistics when that wasn’t available. The
discount factor however required extensive discussion and consideration. We wanted to ensure our results weren’t
overestimated so, for our first year of carrying out this estimation, we selected a discount factor significantly
higher than the HMRC discount factor of 3.5% used by the ONS when calculating the total value of the UK’s
human capital. This way, we could feel comfortable that our human capital estimate was conservative yet realistic,
incorporating things like the probability of our workforce size changing significantly in coming years.
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With limited external resources to use as guidance, our decisions on how to resolve these challenges were made
internally and with our partners PwC along the way, using the best information or assumptions available to us. As
the human capital dialogue quickly develops and moves forward, we hope other organisations will engage in this
debate, sharing their own data and findings.
Gaining new knowledge
So, what did we actually find out and what exactly do these numbers tell us?
Our main finding was the total value of our company’s human capital at 1 April 2014, an impressive £3.4bn
which corresponds to an average human capital of £173,000 per employee. But how did we know what this value
actually meant?
As the first organisation in the UK to quantify its human capital in this way, there was no way of judging what
a value of £3.4bn in human capital meant in relation to others. So instead we placed our human capital in two
contexts: in comparison to our company’s biggest physical assets and relative to several of our key financial
indicators for FY14.
SSE is the second biggest energy company in the UK and the largest generator of renewable energy. Consequently,
our company has an extensive portfolio of generation assets including onshore wind, offshore wind and hydro,
as well as gas, gas storage and coal assets too. We also have regulated assets which form our distribution and
transmission networks in the north of Scotland and south of England. Evaluating the size of our human capital
against the value of these assets confirmed its place as one of SSE’s key resources, bigger in size than our historic
hydro schemes, our power stations and our pipelines – in fact, technically more valuable than all of our assets
except onshore wind.
We also benchmarked our human capital value against several of our key financial indicators:
These ratios are interesting, but they will also provide benchmarks for the future that should be instructive too –
allowing SSE to track the changing role of human capital within the organisation over time.
Growing human capital
Without the hard work of individuals, no organisation could produce the goods and services the economy needs to
function and thrive. A strong labour force therefore has significant worth to everybody in society. Understanding
the economic value of people instructs us on the best ways to invest in growing our human capital and developing
our workforce.
We discovered there are a large number of factors which can generate an increase or decrease in an organisation’s
human capital over time. These include variables which change the number of people employed and variables
which change the value of human capital per employee.
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Some of these variables can be directly influenced by the human resources strategy of an organisation, for example
recruitment drives, whereas other factors such as retention rates or the productivity of employees can only be
partially influenced by the organisation.
Providing employees with training is one effective way of growing human capital. So, as well as estimating
the total human capital asset value of our entire company, we worked out the economic and social return on
investment for two of our key training schemes: our apprenticeship scheme and our Technical Staff Trainee
(TST) scheme. The results showed the huge benefits which come from investing in increasing the skillset and
qualifications of our employees – shared between the individual through an increase in wages, the company
through an increase in profits and wider society too from a greater tax contribution.
The methodology for calculating the value of this ‘flow’ in human capital was more straightforward, simply
attaching a premium to the wages of those with increased skills and higher qualifications gained through training.
We found out for every £1 we invest in apprentices there’s a return of £4.29 and for TSTs that return is £7.65.
Beyond training there are many ways to use human capital measurement as a way of understanding our company’s
management of human resources. As we refine and advance our measurement methodology over time, with
the insight of others as well as our own evolving knowledge, we can begin to answer more and more questions
that will help generate new knowledge for our company – things like how do we influence retention rates across
different job functions? Where are the most impactful business areas to focus on? How do different types of
incentives impact performance?
Next steps
Internally, quantifying our human capital has provided us with a benchmark to assess year after year the difference
our actions and investments make on the human capital embedded in the people we employ. It allows us to
evaluate, in a completely new way, how we make decisions and develop our strategy.
The quantification of SSE’s human capital value also provides other organisations with a benchmark to use when
assessing their own human capital. For the future, we know that data quality and insights into human capital
accounting will advance and therefore we know the way we analyse and measure our human capital will progress
in future too. By working with other organisations, we can create new benchmarks together and better understand
the value of the people we all employ and need to be commercially successful over the long term.
© ICAEW 2016. TECPLM15059 06/16
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