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Value
drivers intangible assets and intellectual capital: implications for the
reporting, management and corporate governance practice
– report from a workshop in Copenhagen with experts from Sweden, Denmark and Germany
News categories: The
New Economy Economics, Finance and Acounting, Performance Management and
Controlling, Investor and Stakeholder Relations
At 12 March 2003 in Copenhagen / Denmark, experts from Sweden, Denmark
and Germany presented and discussed concepts on how companies should report on
intellectual capital and should manage it. This included Peder Hofman-Bang vice
president strategic alliances at Intellectual Capital Sweden, a firm
specialized in IC (Intellectual Captial) RatingTM of companies, Jan
Mouritsen, professor at the Copenhagen Business School, co-responsible for
the research project of the Danish Agency for Trade and Industry on corporate
Intellectual Capital
Statements and author of the
official Danish "Guideline
for Intellectual Capital
Statements" (see below), Juergen H. Daum, expert and author on
enterprise and enterprise performance management concepts and senior business
consultant at SAP AG, Jesper Schou Nielsen, specialist in consultancy and
courses in financial consolidation and financial & management accounting
and director SEM Focus A/S, and Rolf H. Carlsson, senior advisor on issues of
business strategy, value creation, organisation, and corporate governance (find
here
the invitation brochure for the seminar).
The importance of Intellectual Capital and Intangible
Assets, the immaterial value of companies such as relationships with business
partners, brand awareness (customer/partner capital) and the ability to
innovate (e.g. R&D capital), but also the ability to multiply knowledge
within the organization (structural capital), has greatly increased in the last
two decades. Unfortunately financial accounting and traditional management
instruments are not able to capture these new values and report on them. What
is needed is an enhanced concept for corporate reporting and new management
tools that will enable companies to manage these new value drivers in a
systematic way. Companies like Skandia in Sweden, have adopted the concept very
early in the form of a supplementary IC report to the annual financial reports.
This concept is since January 01, 2002, part of the disclosure and accounting
rules in Denmark. Since then companies are obliged to report on their
intellectual capital if they own significant knowledge assets and their
auditors have to certify this report. This should enhance the capability of
investors to better understand the value and the potential of the hidden
intellectual resources of an enterprise in order to make better judgements
about its capabilities to perform in the future.
This is also the intention of
Intellectual Capital Sweden, a
firm specialized in the IC (Intellectual Captial) RatingTM of
companies. In his presentation Peder Hofman-Bang, co-founder and vice
president strategic alliances at Intellectual Capital Sweden, emphasized the
importance of intellectual capital:
Already in 1991 U.S. companies invested more in
non-financial assets than in financial ones. Since then, the gap has widened
for each year. He defined intellectual capital as the factors of critical
importance to a company’s future success that cannot be found in the
traditional balance sheet.
Therefore he suggested a new concept for companies to
report on their performance and capabilities. Introducing the concept of his
firm, named “IC RatingTM”, he stated that one of its main intentions
is to complement the purely historic perspective on investments, which
traditional financial statements provide, with insights into the future of the
firm (by making its hidden potential visible) and by focusing more on the “R.O.I”
of investments, that is on their effects. For this he introduced the “IC value
creation platform”, consisting of human capital (employee and their individual
knowledge), organisational capital (internal structures, work processes,
codified knowledge etc.) and relational structural capital (customer relations,
brands, business partner relations) that all interact in order to create
financial capital according to a company’s specific “business recipe”. These
are the factors that are assessed and which status is reported through the IC
RatingTM. An IC RatingTM is created through 35-50
in-depth interviews with customers, partners, suppliers, key employees,
management, scientists etc. and by analysing available “facts” in internal data
bases, about the product portfolio, of administrative systems etc.. The
analysis process is focusing on three dimensions in rating the status of
organisational capital, human capital, relational structural capital and the
business recipe of a company:
1.
Efficiency: the present value of IC efficiency in creating
future financial value
2.
Risk: threat against present efficiency * probability of
threat coming true
3.
Renewal and development: efforts to renew and develop present efficiency
The result is the rating of a company’s intellectual
capital in a form that is very similar to how rating agencies rate the
financial performance and capabilities of companies - like e.g. S&P is
doing it (see figure 1).
Figure 1: IC RatingTM of a company according to the concept of Intellectual Capital Sweden
But,
according to Peder Hofman-Bang, the IC RatingTM represents only the first
step. By comparing these ratings with benchmarks, companies move in a next step
into “benchlearning”, develop guidelines for navigation (3. step), develop
human capital in a systematic way into structural capital that stays with the
firm when employees are leaving (4. step) and they start to communicate all
this in step 5 – both internally and externally. IC Rating does not only
provide investors and other external parties with more insight into the
company, but enables also management to better manage the most critical
resources and success factors of the company.
Jan Mouritsen, professor at the Copenhagen
Business School, co-responsible for
the research project of the Danish Agency for Trade and Industry on corporate
Intellectual Capital
Statements, and author of the
Danish "Guideline for
Intellectual Capital
Statements"
(see below),
started his presentation with the statement, that
knowledge is not a solution, but a problem. The reason is, that knowledge is
both the value and wealth creator in today’s companies and economies,
but at the same time we do not fully understand how knowledge behaves as an
economic resource – that is from a management perspective. Knowledge for
example does not create certainty – something that is needed for decision
making. The more someone knows, the more uncertain this person becomes. We also
have to understand, that knowledge is not productive in every situation. Only
when creativity is needed, knowledge counts.
Because knowledge does not
create certainty, we need other methodologies to create certainty. For example,
more and more companies can’t find stability in their products and customers.
When change becomes the standard, as it is the case today, companies have to
focus on other things to find a stable “reference point”. Change success
requires for example, that network participants such as customers, partners,
employees and other “stakeholders” accept change. To make this happen, they
have to understand the broad purpose of the company, the vision for the entire
network of the company and its stakeholders. This is also the only way to economize
knowledge (to make sure, not to get too much knowledge which creates too much
uncertainty): set focus on the broad purpose of the firm.
This is necessary because
knowledge represents no value per se. Knowledge is always “about” something and
requires an “object”. To define this object and to organize the necessary
“resource attraction” around it (attraction for investors, employees, business
partners, customers …), is the essential task of management in the knowledge
economy. As a consequence, Jan Mouritsen stated, we need a new theory of the
company. The Porterian thinking of strategy (products as differentiator) is not
appropriate anymore. Today, when companies have to become change leaders (as
Peter F. Drucker stated it once), not existing products/technologies and the
competitive advantage they create have to be in focus, but the broad knowledge
and competence platform a company can dispose of and that allows it to change
fast and innovate. This is the real competitive differentiator of companies
today.
And this requires management
to regard and treat knowledge not as an input, but as an asset. An asset – in
contrast to an input – is something that can be used for various purposes and
that allows change. An input refers only to one purpose. Therefore Jan
Mouritsen suggest, to separate knowledge management, innovation etc. (“value
creation”) from pricing (“value extraction”) and to separate the management
control system from knowledge management.
These explanations
represented a very good introduction into the Danish concept of Intellectual
Capital Statements as it is now recommended by the Danish government to be used
by companies when reporting on their intellectual capital. The underlying
philosophy is that
-
Intellectual capital bundles knowledge resources (how the ‘production
functions”, that is the constellation of employees, users, processes and
technologies, work)
-
Intellectual capital enables a company to make a difference to users via
its knowledge resources
An intellectual capital statement
(ICS) provides
-
Insights into the user’s situation (= the customers situation)
-
Insight into the colleague’s skills and improvements of teamwork
-
Insight in the practical skills e.g. craftsmanship: from knowing how to
develop and improve production methods to be capable of handling information
technology etc.
-
Insights in the know-how represented in the company’s processes and
systems and how these can be used to improve the quality of products or
services
-
Insight in the motivation or commitment as regards the further
development of the company’s products and services
-
Insight in the future needs for knowledge
-
Insight in the skills, competencies and qualification that can make a
difference to the company
An ICS starts with
the so called “knowledge narrative”, which explains the broad purpose of the
company, how it (wants to) makes a difference to customers and potential
customers, and what knowledge resources are required and what the relationship
between value and knowledge resources is. Because the intention of the ICS is
to both show the general capabilities of the firm (in following its purpose and
strategic goals) and in providing insight in the efficiency of the value
creation process, the other elements of the ICS are information
-
About the management challenges in the value creation process,
-
About initiatives required to master these challenges, and
-
Indicators about the progress of these initiatives (see figure 2).
As the first
country in the world, Denmark is obliging its companies to report on the
intellectual capital “if they dispose of significant knowledge assets”. The
Danish government recommends to report on corporate intellectual capital
according to these principles as described in Jan Mouritsen’s presentation
(see
“A Guidelines for
Intellectual Capital Statements”,
published by the Danish Agency for Trade and Industry
and written by Jan Mouritsen).
Figure 2: The concept of the Danish Intellectual Capital Statements
(ICS): example of the ICS of Coloplast, a Danish company that participated in
the ICS research project of Jan Mouritsen
Juergen H. Daum,
expert and advisor on enterprise management
concepts to CFO’s, corporate professionals and business managers and author
of “Intangible Assets and Value
Creation” (Wiley, 2002 – his presentation was a summary of the ideas
concepts that he has developed in his book), focused in his presentation on a
new concept for enterprise management that comprises all resources (knowledge
assets and traditional assets) and all value creating activities of today’s
companies.
He started his presentation
with several examples that demonstrated, why our current management tools (as
created in the 1920s) are falling short in helping companies to manage their
business and optimise value creation in today’s economic environment:
-
In most companies financial capital efficiency is replaced as success
factor by human capital efficiency (which requires management to focus its
efforts on the effectiveness of an enterprise’s structural capital as the mean,
to translate human capital into customer value)
-
The ever changing business world of today with an increasing number of
so called “disruptive changes” that occur today in many industries challenges
traditional management control concepts such as budgetary control represented
through the annual budget. In order to be able to steer the company ship in
today’s wild sea, management requires tools to actively manage the “purpose”
and the strategy, that is the overall “value creation recipe” of the company
over a longer period than just a fiscal year. On the other hand, management has
to actively manage the increasing “trade-offs” in its business system by always
leveraging sudden market opportunities and by limiting systematically risks.
This requires more short term oriented adaptation of company activities and
resource allocation and more often than it is foreseen by the annual budgeting
process (that allows it only once a year).
-
Companies have invested more and more in knowledge resources and
intangible assets over the past decades. Because knowledge assets behave
economically different than physical assets (increasing returns, network
effects, but also larger risks), this is changing the business economics of an
enterprise. But the tools to manage and optimise the new and old economics from
a holistic perspective are not available (see figure 3).
Figure 3: The knowledge economy changes the internal business economics
of enterprises
The democratisation of
capital markets and the growing influence of institutional investors as well as
the growing influence of other corporate stakeholders (employees, customers,
business partners, activist groups/NGOs…) creates an environment, where
management has to carefully consider stakeholder expectations when making
decisions and in managing the company: the growing importance of external
relationships to stakeholders for enterprise success (these relationships in
essence become assets) require a performance management approach based on
external benchmarks rather than on fixed internal management objectives.
Because these external benchmarks may change over time, sometimes also
suddenly, flexibility and more flexible concepts for performance management
than the budgetary control concept provides are required. In addition, the
performance measurement and control system has to focus on all relevant
activities for value creation and for creating “an effect” and “a difference”
in the market (see figure 4).
Figure 4: Required is the extension of the performance measurement and
control system
The major element in such a
control system is a comprehensive yet compact set of metrics and key indicators
– the so-called Tableau de Bord (see Figure 5). This
scorecard, which enables the systematic monitoring of performance and risk in
the company’s overall value creation system, is a cornerstone of
the
new enterprise management
system. In addition, companies need management processes that permit quick and
efficient exchange of background knowledge between individual managers to
ensure optimal usage of this information. Such processes include a strategic
management process that establishes continuous, strategic dialog throughout the
company and thus ensures that the company remains a nose ahead of external
developments that could harm its intangible assets based competitive position.
Companies must also have a process for performance management that optimizes
the exploitation of existing assets in order to achieve short-term
profitability goals (see Juergen H. Daum’s article on “Corporate Performance
Management” and on “Beyond
Budgeting”).
Figure 5: Elements of the new enterprise management system as proposed
by Juergen H. Daum
Here, the forecasting process
is playing a key role. As Juergen H. Daum stated, its main intention is not to
provide better financial forecasts. Its main intention is to provide an
institutionalised framework for managing management knowledge about emerging
opportunities and risks. In the forecasting process knowledge from many
managers about future uncertainties is aggregated. If the underlying information
about changes concerning positive and negative trends are made transparent
(which is easily possible through the forecasting and reporting process), this
information can be used to facilitate an active and productive management
dialog in order to find optimal answers and make decisions that leverage new
opportunities and limit risks in order to create value and optimise performance
(see figure 6).
Figure 6: Actuals provide facts about the past and presents, forecasts
collect and aggregate opinions from managers about future opportunities and
risks – which represents the starting point for a productive management dialog
and active trade-off management
In addition, companies have
to take care to provide even more and better information that enable their
managers to make optimal decisions. This requires new concepts for operations
management in the area of sales and marketing (such as e.g. the concept of
customer lifetime value management), product development (product lifecycle
management) etc.. Also the management organization need to be considered. With
the growing level of knowledge assets and intangibles in the assets base of
business enterprises, tensions between different value creating activities such
as sales and marketing (“customer relationship management”/value extraction)
and product development (“value creation”) increase. This is challenging the
traditional approach for structuring a business from a management point of view
(which is based product related profit centers). A better concept for the
future might be a management organization that separates these different value
creation activities with their different business economics from each other and
established an active and powerfull “trade-off” management on the (higher)
enterprise level. That might be a better way to optimise the total factor
productivity of the entire value network (see figure 7).
Figure 7: From the traditional profit centre organization to the value
network organisation
As the two major consequences
for accounting and corporate reporting Juergen H. Daum stated, that
-
The financial statements should reflect the individual value creation
system of a company as far as possible (report separately on the costs of the
different value creation activities – see figure 4 - in the income statement,
and capitalization of investments in intangibles in the balance sheet as soon
as the value of these investments is secured by tests – such as clinical or
beta tests)
-
Companies should in addition report on the process performance of their
main value creating processes, such as in R&D, customer relationship
building, employee development etc.
Whereas the first proposal is in most areas dependent on changes in the
accounting rules, companies can start immediately with the second proposal, by
disclosing supplemental reports. Most of the initiatives for improving
corporate reporting are recommending just that (see figure 8).
Figure 8: Corporate reporting and communication developments
In addition Juergen H. Daum
recommended that companies should set focus on two other areas as well
-
Information capital management (see for this Juergen H. Daum’s
article: part 1,
part 2),
knowledge assets management and intellectual property management
-
The corporate leadership model, human capital management and a
systematic approach to organizational development
Jesper Schou Nielsen, specialist in
consultancy and courses in financial consolidation and financial &
management accounting and director
SEM
Focus A/S, wanted to show and demonstrate with is presentation, how
companies can improve corporate reporting and planning through information
technology.
All the described suggestions
from the speakers before require from companies more effort for management
reporting, planning and forecasting as well as for accounting and corporate
reporting. To free up the necessary resources for these new tasks (reporting on
new additional performance indicators, introduce new management processes and
supporting forecasting and performance management tasks etc.) CFOs have to
think about how to intelligently use information technology to automate the
non-value adding tasks in these processes as far as possible.
This is starting with the
improvement of the corporate reporting and financial consolidation process.
When an enterprise is not able to close its books and to come up with the
financial figures for the entire group in a timely and accurate way and without
much efforts, it will not have the time and resources to extend their reporting
and to introduce supplemental management and corporate reports. Using
analytical software applications to support the financial and management
consolidation process can substantially increase data quality, reduce rework
and can significantly accelerate inter-company reconciliation – a process that
typically cost most of the time in the closing process. Many of these tasks
cane be automated by an appropriate software system.
Analytical applications also
provide a common platform for strategic planning, forecasting and operational
planning and budgeting. They can share the same application functions and
logics and because these applications are integrated on a common OLAP (Online
Analytical Processing) platform with the consolidation, strategy management
(such as the Balanced Scorecard) and reporting applications, they can easily
share as well master data and transaction date with all of them – which again
reduces rework and makes management reporting, KPI (key performance indicator)
reporting, planning and forecasting an integrated process (see figure 9).
Figure 9: Architecture of an integrated analytical software application
to support enterprise performance management
Jesper Schou Nielsen stated,
that a successful implementation of such a system requires
-
Top management commitment and sponsorship
-
“Total” agreement between all members of the top management team
-
Clear and well known success criteria
-
Effective communication and change management
-
Acceptance by the organisation
He reported that his clients
follow usually one of two possible implementation methods:
-
Methods based on comprehensive as-is / to-be descriptions, based on
clear definition of goals and success criteria (this method is typically used
for projects where the intended outcome can be clearly described in detail
before the start of the project)
-
Methods based on prototyping (again based on clear definition of goals
and success criteria) – with extensive use of “business content” delivered by
software vendors etc. (this method is typically used when the intended outcome
cannot described yet in every detail – when a more evolutionary approach is
required).
Rolf H. Carlsson,
senior advisor on issues of business strategy,
value creation, organisation, and corporate governance and author of the
book “Ownership and
Value Creation – Strategic Corporate Governance in the New Economy” (Wiley,
2001) started his presentation on the corporate governance challenges of the
knowledge economy with the statement, that the “stakeholder model” based
corporate governance approach, which is the dominating model in use, is based
on a misconception of the market economy.
The stakeholder model based
corporate governance approach claims, that owners are just another category of
stakeholders. Other stakeholders (e.g. unions, employee representatives, banks,
government officials/politicians) are involved in policy/strategy formation,
final decision making and governance of a corporation, usually by
representation in the board of directors of the corporation. Governance is then
a matter of finding a compromise of all special interest claims on the
corporation.
Rolf H. Carlsson wanted to
make the case with his presentation that ownership counts and that an ownership
based corporate governance model is superior to other governance models. This
statement is based on his research (as explained in his book) for example in
the sphere of the Wallenberg family in Sweden.
An owner (with owner he means
a dominating shareholder) takes risks by supplying a considerable amount of
this personal fortune as equity. As a result, an owner behaves much different
from an institutional investor: whereas the institutional investor is trying to
reduce his risk through portfolio techniques, that is by giving his capital to
many firms in different industries (that is by making his investment anonym),
the owner tries to reduce his risk by providing entrepreneurial guidance to the
management of the corporation (that is by establishing a personal relationship
to the company, its management and may be even to key employees that allow him
to influence activities and decisions in a risk minimizing way). The owner is
the ultimate “meta manager” who can and has to make difficult decisions.
The main characteristic of an
owner is the long term interest and view on the business and corporation, which
is especially of importance, the more a company owns significant knowledge /
intangible assets (that is because effective intangible assets management
requires a more long term approach). An owner, in contrast to corporate
executive management that behaves more as an agent with a short term view, is
always concerned with change and overall risk management from a broad and long
term entrepreneurial perspective. With a distance to the day-to-day business,
the owner is more capable to see broad long term trends and development than
executives that are involved in the day-to-day problems of the corporation.
“The most concerned are often the last to recognize the need for change and
doing the least about it”, Rolf H. Carlsson said. Also “success sometimes
corrupts”.
Critical for the capability
for “meta management” according to Rolf H. Carlsson is the competence to change
the power structure to support the new type of corporate competence required.
He cited the example of Ericsson’s mobile phones business as an example of
failure in that respect: Ericsson and its owner, the Wallenberg sphere didn’t
recognize that the mobile phone business was becoming a consumer product
business and was not a electronics business anymore. In addition the Wallenberg
sphere has never been a competent owner of consumer product businesses.
Ownership therefore requires
specific competencies – very rare competencies as Rolf H. Carlsson stated. The
Owner, who is in charge for the overall self-renewal of the corporation, has to
back on the other hand corporate or group management, who’s main concern is to
use synergies within the group and create new business ideas. The business
management level is engaged in integration and renewal of the fundamental
value-creating process. Such a multilevel corporate governance model assures
appropriate risk and opportunity management on each level (see figure 10)
Figure 10: The ownership model based corporate governance approach and
its multi-level concept
The current problem with
corporate governance has, according to Rolf H. Carlsson, much to do with the
biased stakeholder model, which is the dominant model today. It gives executive
management too much power – beyond its competence and capabilities.
Unfortunately, this model is reinforced by the various actors on the stock
market and financial community (such as fund managers).
But institutional investors
have to wake up: the traditional approach to corporate governance does not only
fail increasingly in the area of accountability. The other aspect of corporate
governance, Rolf H. Carlsson, is stating is systematically overlooked from the
“stakeholder model” based corporate governance approach: value creation. And
this is exactly where the ownership model can provide most benefit.
Institutional investors,
particularly pension funds that have to assure performance for 20, 30 years
ahead, should start building up their own competence and resources to practice
active ownership to achieve sustainable value creation.
Websites of the speakers / of their
companies:
www.intellectualcapital.se
- the company of Peder Hofman-Bang that is specialized in the IC (Intellectual
Captial) RatingTM of companies
Jan Mouritsen’s website, professor
at the Copenhagen Business School
Juergen Daum’s Website about the enterprise management challenges and solutions for the
knowledge based economy - with regular updates, new articles and reports
SEM Focus A/S – the company of
Jesper Schou Nielsen that specializes in consultancy and teaching in financial consolidation,
enterprise management, dynamic simulation, value based management and the
implementation of supporting software applications such as SAP’s Strategic
Enterprise Management solution.
Rolf
H. Carlsson’s website, senior advisor on issues of business strategy, value
creation, organisation, and corporate governance
Additional Resources:
Intangible Assets and Value
Creation – a brand new book from Juergen Daum, focusing on a new enterprise
model and on the new management system for the new knowledge and intangible
assets based economy of today, comprising many examples and case studies. It
describes the new environment and its consequences for businesses, the rules
that can be extracted from this understanding for the design of a new
management system, and it develops a framework for a new management system and
describes its elements, as well as how a company can set it up and bring it to
live. It’s the first book on the market that
summarises in a synopsis all relevant aspects of intangible assets management
and that comes up with precise suggestions for an improved accounting,
corporate performance management and corporate reporting and communications
model
deutsche Version
A
Guideline for Intellectual Capital Statements - A Key to Knowledge Management
-
published by the Danish Agency for Trade and Industry
and written by Jan
Mouritsen, Prof. at the
Copenhagen Business School
A European Peer
Discussion: “Measuring and
Managing Intangible Values in Today’s Economy”
- At 6 November 2002 a group of around 30 European experts, representing
the academia as well as consulting and business organizations (from the
services, financial services, and software industry) met near Zurich in
Switzerland at the Swiss Re Rüschlikon Center of Global Dialogue to discuss the
implications of the growing significance of intangible values for enterprise
management, corporate reporting and communications, and corporate governance.
Enterprise Total Factor
Productivity (E-TFP) - The Fundamental Value Creator (Presentation
held by Baruch Lev at SAP's
European mySAP Financials Conference, June 2002, Strassbourg / France)
deutsche Version
Performance
Management and Business Controlling in the 21st Century (Presentation held by Juergen Daum at SAP's European
mySAP Financials Conference, June 2002, Strassbourg / France)
deutsche
Version
Intangible
Assets: a central topic at the
mySAP Financials conference in Strasbourg
Value Drivers
Intangible Assets – Do we need a new approach to
accounting, controlling and
management systems ? – article by Juergen Daum
deutsche Version
Approaching the next
level of shareholder value management
(part 1) by Juergen Daum
Approaching the next level of shareholder
value management – the art of corporate performance management
(part 2)
by Juergen Daum
Corporate Performance
Management: Managing profitability and growth in the new environment – by Juergen Daum
Performance Management
Beyond Budgeting: Why you should consider
it, How it works, and Who should
contribute to make it happen
–
article by Juergen Daum
A revolution in stakeholder oriented
corporate disclosure – case
study: The Shell Report – by Juergen Daum
The new FASB rules for
reporting on Intangible Asset - The European versus the U.S. way - Report about the new US-GAAP rules for Goodwill and Intangible Assets
as the American way to deal with Intangibles. In addition the new Danish rules
are presented, which oblige companies with significant Intellectual Capital to
report about them through a Intellectual Capital Supplement in addition to its
financial reports
The drivers for the future wealth of
nations - Why the productivity gap between the US economy and the rest of the
world is widening – by
Juergen Daum
Interviews:
Intangible
Assets: The Art of Creating Value - in an interview with sapinfo.net,
Jürgen H. Daum explains the limitations of our traditional management tools in
our economies of today and why an overhaul is necessary
deutsche
Version