Financing Human Capital: A Survey and Synthesis

This article surveys a large body of literature that investigates the relationship between corporate finance developments and human capital. Human capital has become increasingly important as a factor of production for firms, where it now rivals physical capital, and as an asset, which constitutes a substantial proportion of wealth in modern economies. The increased importance of human capital has been linked to several trends in corporate finance and corporate governance: firms rely less on debt and public markets, hold more cash, and conserve cash through their payout policies. The literature has established multiple mechanisms that connect these trends, which suggests that the link between them is causal. The key insight is that firms manage two types of constraints that intricately depend on each other: financial constraints and human resource constraints. Contractual solutions, ownership structures, and power-sharing arrangements between investors and employees emerge as second-best solutions to balance these constraints. The article then argues that resource constraints and optimal governance arrangements necessarily change over the life cycle of the firm, which gives rise to different ownership and governance structures. This part discusses start-ups, the increasingly delayed decision to go public, private-equity buyouts, and M&As, and argues that firms change ownership and governance structures as they prioritize different constraints over the course of their life cycle. The final part shows how human capital is reflected in stock prices, which incorporate the value of human capital investments and employee relations, albeit only partially, which may potentially lead to underinvestment. Moreover, human capital constraints increase risk, which is priced in financial markets. The conclusion offers some reflections on the theory of the firm and provides a tentative outlook on future research.