Stretch Global owner and founder John Stretch reveals that intellectual capital and intangible assets can and should be accounted for.
In 2019 the internet can be accessed by the majority of the world’s population, driving the world economy with intellectual capital instead of physical capital.
Winning companies are constantly introducing new innovations and improving themselves by re-investing their earnings in new products, technology, and the skills and knowledge of their employees, rather than in physical assets such as vehicles or machines.
This is because they expect the value of the intangible assets on their balance sheets to continue growing faster than the tangible assets.
Counting intellectual capital
The components of intellectual capital include customers, brands, data warehouses, software and information systems, staff capabilities, patents, trademarks, research and development, technology, and products designed but not yet launched.
The components of intellectual capital include customers, brands, data warehouses, software and information systems, staff capabilities, patents, trademarks, research and development, technology, and products designed but not yet launched.
Accounting systems don’t measure intellectual capital
Measuring intangible assets poses a challenge for the accounting profession, as their systems often treat expenditure on intangibles as a cost to be written off against profits in the month of spend. Managers, however, are rejecting the idea that only tangible assets should be measured in value. Their argument is that ideas should be considered valuable, just as physical things are.
However, in many cases, accounting systems and processes don’t give managers enough support to manage and measure the intellectual capital assets in their organisations. Return-based financial measures may encourage managers to hold back investing in intangibles. Managers need multiple targets that balance financial and operational measures.
Jack Welch of General Electric instituted a system in which each GE division reported monthly on eight key areas: profitability, market position, employee attitudes, productivity, public responsibility, personnel development, product leadership, and balance – between short and long-term goals.
He recognised that his monthly management accounts didn’t capture many of the realities of what was going on in his company every month and realised that no single measure, financial or otherwise, could provide a universal performance target. So he prescribed the performance areas he wanted reported on, but left it to each division to decide on the best measure in each area.
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Key performance indicators
General Electric was a pioneer of Key Performance Indicators (KPI), which is a number that tells you whether an organisation (or even an individual) is reaching its target. Many industries have developed their own KPIs, and companies use these internally developed unique measures to manage non-financial areas of performance, and share their successes with shareholders and investors to influence their value and share price.
Advances in both hardware and software technology enable improved performance measurements and data capture systems. Data recording is automated. Today’s accounting systems produce graphical analytics and exception reports on request, and combine financial measures with operating metrics.
The Balanced Scorecard
Professor Robert Kaplan of Harvard developed the “Balanced Scorecard” in 1992 and publicised it through his book of the same name with David Norton.
He felt that all the measures that different companies used had merit and could be divided into four categories:
- Shareholder measures (how we look to shareholders)
- Customer measures (how customers view us)
- Internal measures (what must we excel at?)
- Innovation and learning (can we continue to improve and create value?)
However, managers realised that a measurement model using only four perspectives doesn’t capture the complex nature of business today, as they believe everything and anything can and should be measured.
In a world of Responsible Capitalism there are multiple perspectives, including suppliers, labour, and society at large.
Real-time performance dashboards
The use of performance dashboards for reporting increased as KPIs and Balanced Scorecards made their way into the way companies measured asset value.
A dashboard is a web-based status report, which draws information from a database which is continuously updated. They provide managers with continuous financial and non-financial real-time, hourly and daily information, communicated in ways that can be understood and used by all levels of business. They are designed to report on short-term operations while scorecards are longer-term and more strategic.
While some companies prefer to develop and maintain dashboard applications in-house, personalised to each employee’s needs, it is possible to get the digital dashboard technology from software providers.
The role of finance
The finance and accounting professionals of today have to oversee a company-wide information system which combines KPI, scorecard and dashboard information with financial reporting.
It is also their responsibility to provide advice and insight into managing, nurturing, protecting and growing intangible assets, with the same diligence as tangible assets. As masters of measurement, they should play a leading role in building and maintaining a company-wide information network that combines financial reporting with excellent non-financial key performance indicators, scorecards and dashboard analytics.
They should partner with colleagues throughout the business to design processes and metrics that measure the heartbeat of the organisation in non-financial areas including operations, customer satisfaction, shareholder communications, productivity, safety and risk, innovation and learning, because these are true representations of a company’s value.
