Impact of Human Capital on Financial Performance of the Insurance Companies in Pakistan; State Life & Efu.

Topic: Impact of human capital on financial performance of the insurance companies in Pakistan; State life & efu.

Abstract

The focus of this study is to examine the significance of the human capital on the financial performance of the insurance sectors in Pakistan. The back bone of this study is the secondary data comprised financial statement of insurance’s companies and literature review. The result will show the human capital effect will have a positive impact on the insurance companies.

This paper will proceed as follows. The first section will cover the literature review on insurance company. Afterwards conceptual framework will be presented on the basis of conceptual framework and its constructs propositions will be covered. Finally discussion and significance of this study in practical and academic perspective will be presented.

Keyword: Human capital (Independent variable), financial performance (Dependent variable).

Literature review:

In the most recent research suggest that human capital refers to the human capabilities, education, experience and skills and particularly the characteristics of top managers affect firm outcomes. (Finkelstein & Hambrick, 1996;Huselid, 1995;Pennings et al., 1998;Wright, Smart, & McMahon, 1995).

Investment in human capital is widely believed to improve the performance of employees. [Arthur, 1994; Bishop 1994; Boselie, Paauwe and Jansen, 2001; Gelderblom and de konting, 1996; Huselid, 1995; MacDuffie, 1995].

Many researchers have tried to explain the importance of human capital in various industry sectors. The empirical literature expose that human capital is one of the important and valuable strategic assets. (Hayton, 2005).

The internal structure capital contains innovation generated by the research and development teams, policies and internal environment etc. (Guthrie & Petty, 2000). Human capital is very important which creates values for the organization. (Royal and O’Donnell,2008).

The companies which have well and efficient stock of human capital have competitive advantage and these companies may have better capability to make strategic decision in turbulent business environment.

Many multinational companies (MNC’s) has huge budget on employees in the form of professional training and workers compensation benefits to enhance the intellectual abilities. Furthermore, many firms have failed to invest on employees for enhancing the motivation and loyalty of workers which put their success and survival at risk. [De Pablos (2003)]

Human capital has one of the import components of intellectual capital for raising the efficiency and effectiveness of employees. (De Pablos, 2003).

Although human capital has many positive benefits, it represents costs to firms as well. For example, the value of graduates from the top institutions in the external labor market is likely high, particularly shortly after their graduations (Bierman & Gely, 1995).

Partners own the most human capital in a firm and have the largest stakes in using the firm's resources to the greatest advantage. One of the responsibilities of partners is to help develop the knowledge of other employees of the firm, particularly its associates. For example, associates at law firms need to learn internal routines, the idiosyncrasies of important clients, nuances in the application of law, and more. Building associates' knowledge necessitates that partners leverage their own knowledge, particularly their tacit knowledge (Baron & Kreps, 1999). Tacit knowledge is revealed through its application and can only be acquired through its practice (Grant, 1996). Thus, transferring tacit ability is a slow and complicated process (Teece et al., 1997) that entails using the knowledge (Lei, Hitt, & Bettis, 1996).

Another researcher has said that human capital has positive relationship with firm’s performance. Companies which have better human capital efficiency have better financial performance. (Bontis et al. 2000).

According to the resources, performance difference across firms can be attributed to the variance in the company’s resources and capabilities. Resources are very valuable, unique and difficult to imitate can show the basis for firm’s competitive advantage. (Amit & Schoemaker, 1993; Barney, 1991).

It is the human capabilities which increases or decreases the organizational performance especially the financial performance of the organizations. Leadership has an effect on the financial performance and the climate of the organizations (Bas A. S. Koene, Ad L. W. Vogelaar and Joseph L. Soeters (2002)).

Severeral studies also have been conducted to measure the performance of the insurance compnies. For instance; Sloan, A and Conover, J.(1998) collected that operational status of insurers do not reflex the profitability of being insured but public coverage have little bit impact on profitability of insurance companies.

In addition, insurance companies must have to diversify their investment and use effective hedging techniques which help them to create better financial revenues.

In turn, these competing advantages produce positive returns (Peteraf, 1993). Most of the less factual tests of the resource-based view that have been conducted have backing positive, straightforward effects of assets (cf.Miller & Shamsie, 1996;Pennings, Lee, & van Witteloostuijn, 1998). However, scholars argue that resources form the basis of firm strategies (e.g.,Barney, 1991) and are critical in the implementation of those strategies as well (Schoenecker & Cooper, 1998).

Performance is the important function of the organization to manage all the resources of the organization in different ways and to gain the competitive edge (Sri Iswati, Muslich Anshori, 2007). To convert the performance of the organization into monetary terms is called financial performance. Researcher defined intellectual capital as a knowledge that can establish the value of the organizations (Edvinsson and Malone, 1997).

Firm performance, was defined as the ratio of net income to total firm revenue. These data were derived from a profitability index reported annually by theAmerican Lawyer, the API, which is the ratio of profits per partner to revenue per lawyer and is “an expression of how effectively a firm converts revenue into partner profits” (Brill, 1987: 16).

The effect of firm size was controlled through the dependent variable (profits adjusted for total revenues). However, we included three other variables to control for their potential effects on firm performance, our dependent variable. These were large corporate clients, clients in new markets, and mode of market entry.

Learning complex forms of knowledge requires face-to-face communications between partners and associates (Lane & Lubatkin, 1998). Thus, partners must work with associates to transfer tacit knowledge. Junior and senior employees (associates with one or more partners) are assigned to teams that work on major projects for clients (Maister, 1993). In this way, the partners' knowledge and capabilities are leveraged and associates also gain tacit and, often, firm-specific knowledge.

Therefore it is very important link between the utilization of human capital and the performance of the organization (Lahteenmaki et al, 1998; Baird And Meshoulan, 1998). Just like other intellectual capital the capabilities of the human resource or the strategic human resource cannot be seen on the balance sheet (Tomer, 1987; Analoui, 1998b).

Background of Insurance:

The concept of insurance, according to (Gollier C., 2003), involves capital from many insured firms in order to pay for deficits which can occur to these things.

The purpose of insurance is to protect the financial stability of an individual, company or other stuff in the case of deficit.

Insurance can be explained from view point of discipline, including laws, economics, history, actuarial science, risk theory and sociology. It is equitable transfer of the risk from one object to another, in transaction for a premium. (Rejda, 2008).

History of insurance is very old, in other words insurance appears to have some sort of link with human society. Romans and Greeks started the origins of health and life insurance back in 600 AD when they established guilds called “benevolent societies” which look after the families who lost their relatives. (John, 1961).

A researcher found a significant relationship with the financial performance of the organization and the sturutural capital in Malaysian firm and concluding that the investment in intellectual capital especially in the structural capital grows the competitive edge of that firm (Bontis et al., 2000).

Internal structural capital therefore includes items such as strategy, patents, and brand names. Finally relational capital captures relationships with third parties, such as customers and suppliers (Bontis, 2001).

If IC is linked to firm performance, firms and investors would benefit from this disclosure. However other barriers to disclosure exist such as the cost of obtaining information on intangibles, or the perceived loss of competitive advantage with disclosure (Vergauwen et al., 2007).

Financial performance is the main objective and the main tool of every entity. So every firm wants to increase its financial performance by different ways. By financial performance we mean that it is the monetary measuring of the results of firm’s processes and operations e.g. return on equity, assets, investment etc (Business Dictionary).

However, the number of multinational firms slips from 77 in 1947 to 25 in 1972 due to political unpredictability and separation of East Pakistan (Talha, 2007; Khan, 2007).

Insurance in (Pakistan):

The government of Pakistan inaugurated the office of insurance in April 1948. The main aim of this sector is to check the affairs related to the insurance sector.

Main features of insurance ordinance, 2000:

• The insurance business has been divided into two main divisions,
• Life Insurance Business; and
• Non-Life Insurance Business. Each of these two divisions has further been divided into various categories.
• Funds for the life insurance and as well as for the non-life insurance firms have been jumped from Rs. 100 million to Rs. 150 million and from Rs. 40 million to Rs. 80 million appropriately.
• Punitive provisions for conflicts the insurance laws have been made stricter.
• Plan has been made for the firms of an Insurance Ombudsman who shall have the right to examine mal-administration of insurance firms and to amend grievances of the insurers.
• Provision has been made for the constitution of an Insurance Tribunal which shall have civil as well as scandals.
• Administration of the insurance law has been made more sufficient by giving to the Commission powers of investigate and issuance of directives.
• The minimum solvency margin has not been fixed and is to be prescribed under the rules from time to time.
• Limited provisions have been made for the development of a small conflicts resolution committee for speedy settlement of minor cases.

For the last few decades, Pakistani life insurance companies have shown positive result which not only creates the employment opportunities but also increase the business activities in the economy. However financial statistics has shown that in Pakistan the growth of life insurance companies as these firms comprises 52% and 69% share of all (life plus non insurance life) insurance markets in the form of net premiums. (Insurance Year Book, 2007)

In addition the premium result was jumped by 36%, therefore it shows remarkable progress in life insurance department of Pakistan. (Insurance Year Book, 2007)

In Pakistan insurance sectors act as financial intermediaries. Insurance companies includes private and public that involves the companies which provides life, marriage, health and many other forms of insurance. Pakistan’s financial sector has revealed the positive flexibility to a face macroeconomic environment and global developments. (State Bank’s Financial Stability Review 2008-09).

The size of the country’s financial sectors that are Banks, Non-Bank Financial Institutions, Microfinance Sectors, and Central Depository of National Savings, the Insurance area, and financial providers, in terms of things or assets, has shoot up to Rs 8.2 trillion during the end of June 2009 from Rs 7.1 trillion in the end of December 2007. The record analyzes the developments in 2008 and during the first six months of 2009 (State Bank’s Financial Stability Review 2008-09).

Further this analyze insure us that the insurance underwriting cycle may play a vital role in influencing insurance premium growth rates.

(Chen et al. 2009) has expressed that profitability of insurance companies decreased with the increased in equity ratio. In addition, insurance industries must have to diversify their investment and use effective hedging techniques which will help them to generate better financial revenue.

For the last few decades, Pakistani life insurance companies have shown positive result which not only creates the employment opportunities but also increase the business activities in the economy. However financial statistics has shown that in Pakistan the growth of life insurance companies as these firms comprises 52% and 69% share of all (life plus non insurance life) insurance markets in the form of net premiums. (Insurance Year Book, 2007)

In addition the premium result was jumped by 36%, therefore it shows remarkable progress in life insurance department of Pakistan. (Insurance Year Book, 2007)

In the consideration of life insurance industry is an important debate for the regulators and rules makers to support the sector in achieving their goals so that desirable result can be achieved in the sector of insurance sectors in Pakistan.

The focus in this research is on the performance effects of human capital, the leveraging of that capital and as well as the interaction of human capital with the firm strategy. Moreover, this research contributes the mutual expertise ideas on the resource based view of the organizations. Specifically, it will target the effects of human capital on organization’s performance and importantly, illuminates how resources, such as human capital, moderate the relationship with service and geographic diversification strategies and firm performance.

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