In February of this year, Facebook bought WhatsApp for $19 billion. With the application charging users just $1 per year, this eye-watering valuation was clearly based on some calculation of future potential, although nobody has explained this calculation in detail. Nonetheless, the consensus seems to be that Silicon Valley’s billionaire wunderkind Mark Zuckerberg probably knows what he’s doing.
If the price tag for WhatsApp is astonishing, so too is the number of employees that created this valuation: just 50. WhatsApp is a piece of software. The Company has almost no tangible assets – just a few computers, no land, order books or revolutionary patents – so each of the employees contributed on average $400 million to that valuation, a figure unparalleled in history.
Spectacular though WhatsApp is, its high valuation, with little foundation in solid, tangible assets, is part of a trend that’s been growing since the late 1990s. Such extraordinary valuations have only become possible as we move away from the production of tangible things to the creation and distribution of information products. As we do so, we are still trying to find ways to describe the new, knowledge economy; understanding the value of the intangible is one of the issues we face.
In this new territory, knowing what a Company is worth is an uncertain science. One thing we can be sure of – companies are worth much more than their book value. Ocean Tomo, specialists in this field, calculate that in 1975, over 80% of the value of a Standard & Poor’s 500 Company was tangible, and 20% intangible. By 2010, those numbers had flipped: 80% of the value of the US’s leading companies had no basis in physical or monetary assets at all.
While it’s a straight forward task to calculate how much of a Company’s value is intangible (by subtracting the tangible book value from the market capitalisation), understanding what makes up that 80% is a lot harder.
Most companies would say that a substantial part of the difference is their human capital – the value of the people in the organisation. None has ever claimed, however, that it could put a number on that.
This might seem strange. After all, some very intangible assets – like brand equity, for example – are frequently valued on companies’ books. Not human capital, though. The prime reason: people are not assets in the usual accounting sense of the word. Unlike fixed assets, they can walk out of the door. Their value and impact can vary enormously from day to day. Again, unlike most assets, they do not depreciate but rather accumulate value over time, as they grow in knowledge and expertise. And unlike most assets, the value of a person can vary dramatically from one Company to another, ostensibly very similar, one – just ask any football fan who has seen their club buy a new striker, only for him to fail to produce the form of his previous club.
Various initiatives have tried to tackle this. Following the Accounting for People report in 2003, listed companies in the UK were required to report on their human capital, albeit in largely narrative form. Two years later, before any reporting occurred, the requirement was axed. Almost exactly a decade after the Accounting for People report, the Valuing your Talent initiative is backed by the CIPD, UKCES, IIP, CMI, CIMA and the RSA. Its aim: to create a framework for understanding and valuing human capital.
An important part of the Valuing your Talent (VyT) initiative is that the consultation has been open-sourced, allowing people to share their existing human capital practices. This focus on good practice will be a key factor if VyT is to succeed, because in our current, very early understanding of human capital, good practice may be as close as we can get to shared metrics.
Because people are so different to inanimate capital, it is not possible to treat people as assets in a classic accounting sense, with metrics and indexes that are comparable across different companies. Practice is different. While it may be implemented differently in different organizations, good practice certainly yields results. Laurie Bassi ran an investment Company for over 11 years. Almost every one of her funds out-performed the S&P 500 index. The secret? Backing stocks of companies which demonstrated key human resources strategies.
For me, the first step to really understanding human capital is to understand the practices that lead to most tangible results. From that, perhaps it will be possible to create some coherent human capital reporting.
It is worth remembering that our current, detailed approach to financial auditing has been built up over more than 150 years, beginning with a series of financial scandals in the mid-nineteenth century. We are not going to replicate the intricacies of this system for human capital overnight. It will take time, and above all, an understanding of what really works in practice. But it is necessary that we have something to work with. At present the only gauge we have of human capital’s value is calculated hunches based on experience. That might suit someone with the resources of Mark Zuckerberg; the rest of us need something more accurate – and we can start the journey to it by sharing good practice.