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Value Drivers Intangible Assets: Do We Need a New
Approach to Financial and Management Accounting?
A Blueprint for an Improved Management System
by Juergen H. Daum,
former Director Program Management mySAP Financials, SAP AG
- An article from November 2001 -
Find more information and additional articles about this topic at the authors website at
http://www.juergendaum.com
© copyright 2001 Juergen H. Daum (www.juergendaum.com). All rights reserved. Use of quotes of text taken from this article
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Value Drivers Intangible Assets – Do We Need a New
Approach to Financial and Management Accounting?
A Blueprint for an Improved Management System
By Juergen H. Daum, Heidelberg / Germany
Juergen Daum is the director of Program
Management for mySAP Financials at SAP AG. In
the past he has made a substantial contribution to
the conception of SAP Strategic Enterprise
Management in his role as Product Manager for
SEM, and was responsible for the market roll-out.
He was playing also a center role in the definition
of SAP’s new development strategy for mySAP
Financials and was responsible for its
repositioning. He is the author of the book
“Intangible Assets and Value Creation”. He can be
reached at www.juergendaum.com.
This article is based on an German article published in the January 2002 issue of the German
Magazine “Controlling”.
Since the beginning of the 1980s, the proportion of intangible assets has increased from c.
40% of the market value of an enterprise to more than 80% at the end of the 1990s.
Investments in innovations and related intangible assets are increasingly dominating
economic activities in all developed countries. The quality of the existing management,
performance monitoring and accounting instruments has so far not been able to keep the
pace, meaning that there is a need to catch up. It is increasingly important, particularly during
the economic downturn, for enterprises in all industries to be able to measure and compare
the returns on investment in tangible fixed assets and in intangible assets, to enable the best
possible resource allocation. Creating management and performance monitoring instruments
that can do this is an important investment in the enterprise’s ability to create long term value
for shareholders and other stakeholders, and to remain successful in today’s highly
competitive markets.
1. What is New in The New Economy?
Before the NASDAQ bubble burst (or the one at the “Neuer Markt” in Germany or at similar
stock exchanges in other countries) everyone was talking about a new economy that was to
run by different rules: “Profit and cashflow today“ was no longer important. Instead, time-to-
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market, market shares and product innovations were supposed to ensure above average
returns and cash flow in the future. However, there was a very simplistic way of thinking in
the judgement of this so-called future potential. Instead of serious assessments, people were
blinded by sublime visions. An innovative idea on the Internet was often sufficient to motivate
private investors and venture capital enterprises to make available large sums of money
without the usual caution, and for enterprises that in reality had very poor prospects.
Since then, investors have woken up to this fact. However, the danger of this is that we are
going now too far in the opposite direction, and are not seeing the fundamental economic
changes taking place behind all the hype and the subsequent crash on the stock exchanges.
For indeed, it does seem as though there is a type of “new economy“, which has developed,
almost unnoticed, over a period of several years, and is not just restricted to a few
(technological) industries.
New Value Drivers Intangible Assets
The phenomenon of a “new economy“ seems to have become a topic of public conversation
in 1997. During this year, three publications appeared internationally about the knowledgebased economy with the key word being “intellectual capital“ (cf. Stewart, 1997, Edvinsson /
Malone, 1997 and Sveiby, 1997). The tenor was the same in all three publications, being that
the source of the economic value added from investments in fixed assets had shifted to
investment in intangible assets. In recent years, the value drivers have, almost unnoticed by
the public, changed from finance capital to intangible assets such as human capital and
knowledge, relationships with business partners and the capability of enterprises to be
innovative. This becomes especially obvious with knowledge based enterprises.
Enterprises whose business is based on knowledge products such as software are governed
by a different economic logic than the usual logic that applies to traditional industrial
enterprises where the emphasis is on fixed assets. In traditional industries the economic rule
of decreasing returns apply meaning that the marginal yield decreases after a certain
investment amount has been reached. This, however, is often not the case in knowledgebased enterprises.
The marginal costs in these enterprises usually decrease to practically zero, and the assets
created in the form of coded knowledge do not normally have the typical bottleneck
characteristics that you might find, for example, in production facilities. Thus, once the
development phase in a software enterprise is over, and the software code has been
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produced, the end product (CD) that transports the program to the customer, can be created
by “copying“ at almost negligible manufacturing costs. This means that the enterprise, with
the given marketing options, is able to target economies of scale relatively quickly. These
economies of scale not only cover the high initial investments in the software development,
but also enable accelerating profits. This is leading to increasing returns when every
additional money unit invested, especially in marketing, is inducing at a certain point in time
(called inflection point) so called network effects. These network effects can transform initial
market success into market leadership if the network of users grows and the successful use
of the created “knowledge assets“ with, for example, an expanding partner network leads to
an accelerating positive feedback.
SAP AG is taken here as an example. SAP AG managed to obtain this type of network effect
by transferring 80% of its consulting business for its R/3 software product to consulting
partners. The partners were sufficiently motivated by this to advertise R/3 among their
customers and were thus able to increase the marketing capacity of SAP. SAP was,
therefore, able to take its own market opportunities relatively quickly, and progressed to
global market leader for ERP software. In the end, this meant that the remaining 20% of the
consulting revenue at SAP was probably significantly greater than it would have been if SAP
had retained 100% of this business.
This economic logic, which is inherent in knowledge-based products and enterprises, is
strengthened by two further developments: by the emergence of an open global economy,
and by the dramatic improvements in the information and communication technologies, in
particular the Internet. An open and global economy facilitates international trade and
marketing, and the improved information and communication technologies enable a simple
dissemination of product knowledge, which is absolutely essential for realizing network
effects. In this case, both factors strengthen the positive economic effects of knowledgebased products, especially scalability, and enable network effects and increasing returns (cf.
Fig 1). It is thus no coincidence that in knowledge and R&D intensive industries such as the
software and pharmaceutical sectors which are characterized by huge initial investments in
product development and therefore with large fixed costs, enterprises can only be profitable
and survive in the long run if they are able to market their products worldwide.
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Fig. 1: The three driving factors in the new economy
In the OECD countries, investments in knowledge capital and knowledge production (such as
in R&D) were continuously increasing over the last decades and matched those in fixed
assets in 1999 (cf. OECD, 1999, p. 2). Investments in intangible assets, particularly those
that enable enterprises to innovate, bring in returns that are significantly higher than costs of
capital and than returns of fixed asset investments, even in traditional industries such as the
chemical industry (cf. Aboody/Lev, 2001, p. 18-21). It is not surprising, therefore, that
enterprises from all industries now invest more in intangible assets than they did ten years
ago. As a result, even enterprises from traditional industries dispose today of significant
intangible assets, sometimes even more than enterprises in industries such as software (cf.
Gu/Lev, 2001, p.12). Consequently, every enterprise must create the structures that help
them to systematically accumulate knowledge capital and create intangible assets and to
convert it to value for their customers in order to gain competitive edge and create long-term
shareholder value.
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Structural Capital as a Basis
Already in the mid-eighties, enterprises were making significant investments in organizational
or structural capital. Initially the emphasis lay in the transformation from the hierarchical
parent company model to a true global enterprise. This global enterprise had to be able to
optimize globally resources, consolidate business processes, serve large customers
worldwide, as well as to share and use knowledge and best practices worldwide. At the start
of the 21st century, we are now in another wave of reorganization: The change to networked
E-Business enterprises (cf. Fig. 2).
Fig. 2: The evolution from the parent company model structured by function to the global enterprise,
and from the global enterprise to the networked E-Business enterprise
An enterprise that can network better, and, for example, work more efficiently with partners
than other enterprises has the upper hand in the competition of the knowledge-based new
economy. This is because it is able to delegate activities, which represent according to its
own strategy non-value adding tasks, to partners. In addition, it can increase its depth and
speed, for example, in development and marketing of new products because it can
concentrate on its core competencies and the main value adding activities.
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A forerunner enterprise that created this kind of enterprise structure, and an often cited
example, is Cisco. Cisco initially specialized in and led the market for routers (a device that
can connect different types of network), and nowadays for Internet network technology and
infrastructure. Although the once exemplary enterprise is currently in a difficult economic
situation as is the entire industry, its development from 1993 to 2000 is still a model example
for the creation of a modern, networked enterprise.
The Cisco case
In 1993, the management team at Cisco set itself the strategic goal of becoming the world
market leader for Internet network technology (cf. Bunnell, 2000, p. 30 ff.). Management
identified as the core competence and the actual assets of the enterprise the capability of
recognizing new product segments and customer requirements, designing products for these
requirements, and, in particular, to create and expand long-term and intensive customer
relations. Therefore, the Cisco management team decided the following:
-
To concentrate less on the product development, but far more on customer relations.
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To innovate in product development to a large extent by acquisitions rather than by
developing everything in-house in order to obtain the necessary time-to-market.
-
To delegate all operational activities, which do not directly affect customer
relationship management or product design to business partners.
For this to work, the enterprise had to make significant investments in organization capital:
ƒ
Customer Relationship Management:
A web-based customer portal was implemented (CCO Cisco Connection Online), which
enables customers not only to configure network equipment online, but also to complete the
whole ordering transaction online and to call up certain services.
ƒ
Supply Chain Management and Vendor Relationship Management:
A web-based supplier portal (MCO Manufacturing Connection Online) linked Cisco’s
business processes directly to these of its suppliers. Customer orders, which are
electronically transferred to the supplier production planning systems after the customers
have completed the ordering transaction at CCO.
ƒ
Employee Productivity:
The communication between sales staff at Cisco and the customer was no longer dominated
by order processing, but by more value adding consulting aspects. In addition, the web-
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based employee portal (CEC Cisco Employee Connection) greatly facilitated the
administrative tasks of all employees. Employees can, for example, book their own business
trips, report PC problems, or settle their travel expenses. Managers can call up reports for
decision making at any time (cf. Fig. 3).
Fig 3: The Cisco ecosystem with the three web based enterprise portals which are integrating
employees, suppliers and customers in to a „single enterprise”
ƒ
Product Development and Innovation Management:
Cisco had to, at the absolute minimum, keep pace with market development in its product
development in order to remain the trusted advisor and complete provider for network
technology for its customers. They mainly did this by means of selective acquisitions. For this
reason, Cisco devised methods aimed at increasing the success rate of these acquistions,
and in particular, the integration speed of the acquired employees and the new technology.
An example is the acquistion of Crescendo in 1995 (cf. Bunnell, 2000, p. 35 ff.). Cisco paid
97 million dollars for Crescendo, an enterprise that had an annual turnover of 10 million
dollars. Wall Street analysts found this to be hopelessly overpriced. However, Cisco went on
to gain a 500 million dollar turnover a year later with the Crescendo products. In the light of
this new figure (500 million instead of 10 million) Cisco's acquisition of Crescendo was
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cheap. The analysts had overlooked the fact that the combination of Crescendo technology
and Cisco sales potential (the Cisco customer base) meant that Cisco was able to
immediately gain a much higher sales volume than Crescendo would ever have had in the
foreseeable future. This is an impressive example of a successful strategy where intangible
assets are involved, that is able to combine different assets to realize an enormous leverage
of value.
ƒ
Management System
However, this means that the management must have the relevant information to be able to
make this kind of decision. It has to know the status of the important value-creating
processes in the enterprise (e.g. the progress of the product development processes or the
creation of customer relations). In addition, the management also needs to be able to control
the long-term strategy in an enterprise environment that is changing quickly, and to deal at
the same time with the daily business and short-term (annual) performance. Therefore, Cisco
implemented a management system that institutionalized strategic and operational enterprise
management as a continuous process. As a result of the integration of both processes, or the
connection between long-term planning and short-term performance management, Cisco
was able to reach its ambitious strategic goals in a highly dynamic and highly competitive
environment (cf. Fig. 4).
Fi
Fig 4: Cisco’s Managementsystem
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These days, however, most enterprises lack a financial accounting and management
accounting system that can provide the necessary basis for a management system that is
suited to the challenges posed by the knowledge-based network economy.
2. The Restrictions of Traditional Practices of Financial and
Management Accounting and of the Traditional Management
System
The problems involved with traditional practices of accounting and management in
knowledge-based enterprises (these days most enterprises) are mainly focussed on the fact
that the decisive value drivers are either insufficiently, or not at all represented in the
accounting and management system. The management systems are too inwardly oriented,
and in most enterprises cannot keep pace with the changed enterprise activity, thus showing
a growing need to catch up. As examples of the inadequacy of the existing financial and
management accounting practice and of the traditional management systems, I would like to
cite the following:
ƒ
Focus on Internal Resource Management and Cost Accounting
It is assumed that accurate internal management of resources and costs also automatically
optimizes the overall result. The traditional cost accountant toolbox is lacking in instruments
for the systematic monitoring and optimization of external output factors, for example,
network effects, sales partnerships, or user communities. Nowadays, these factors are just
as important to the success of an enterprise as managing costs.
ƒ
Lack of Appropriate Accounting and Management Instruments for Monitoring and
Managing the Product Development Processes
Product development projects are still often managed as pure investment projects with a
fixed budget. The danger of this is that product development becomes too strongly based
upon technology without seizing decisive market opportunities. Often, the most important
information needed for successful management is missing: the valuation of the market side,
and thus the development risk, but also opportunities that may be missed.
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Lack of Instruments for Measuring and Optimizing the Return on Investment in
Intangible Assets
The accounting system is thus often not able to provide this information, since these
investments are not posted as investments, but as expenses. This also means that in the
earnings statement, the revenues cannot be compared according to cause with the
corresponding costs that were posted in earlier periods. On the revenue side, there is the
problem that revenues induced by this type of investment often cannot be determined using
traditional accounting methods, because revenue objects differ from investment objects.
ƒ
Lack of Transparency in External Reporting Where Intangible Assets are
Concerned
Studies have shown that if the public cannot access information on the success of R&D
activities in an enterprise that invests heavily in this area and is listed on the stock exchange,
then the share price of that enterprise becomes more volatile. This creates higher capital
costs (and thus a higher standard that needs to be reached for management success). In
addition, the likelihood of undervaluation and a (possibly unjustified) takeover increases.
To conclude, it can be said that the management system and its management processes, the
underlying system for management accounting and performance measuring, as well as the
traditional practices of financial accounting and external reporting all require improvement.
This improvement needs to be made in that order for reasons of practicability.
3. An Approach for an Improved Management, Accounting and
Reporting System
Enterprises whose value-added is mainly based on knowledge-based products or intangible
assets have the following positive and restrictive business characteristics (cf. Lev, 2001, p.
21-49). These characteristics must be taken into consideration when a new management
accounting and management system is devised.
Positive Effects
ƒ
Lack of Bottleneck Characteristics or The Simpler Scale Effect
Knowledge-based assets such as a software program or the manuscript of a book can be
copied almost as often as required. They can also be made available to more than one
customer at a time and therefore do not create bottleneck problems in the same way as
physical assets.
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Growing Marginal Yield or the Occurrence of Network Effects
Due to the typical cost structure of knowledge-based products (high fixed costs in the form of
product development costs, very low variable or marginal costs), profit usually increases
quickly with the number of units sold. This is especially the case once the initial investments
in the product development have been paid off. This often leads to increasing marginal
yields. Since the positive effect for the existing users normally increases with the number of
new users, these kinds of products can often also profit from network effects that trigger an
exponential growth of the network, providing the new product can be established as a
"standard" in the market.
Negative Effects
ƒ
Lack of a Complete Control Over the Benefits of Intangible Assets
Knowledge-based assets are often characterized by "spill over effects" where competitors
detract from the use of an innovation that its investors have, by copying it. This can be
partially restricted by means of patents or protection of proprietary rights, but usually not
completely. This is because knowledge products can be copied much more easily than other
products. The problem can often only be solved by use of "time-to-market", where the
investors are on the market with the product faster than the competition, and where the
investors rapidly increase their own market share. The management system must help in this
case to quickly recognize and overcome growth limits, and to control output.
ƒ
Investments in Intangible Assets are Riskier
Investments in, for example, product development are much riskier than in other enterprise
activities such as production. As the option theory shows, risk itself is not a bad thing and
can even be used as a value lever, providing possible losses can be successfully restricted.
This is precisely one of the tasks of the new management and management accounting
system.
The Management System
The most important challenge for enterprises, whose value added is increasingly based on
intangible assets and knowledge capital, is to develop the ability to use and expand this
intellectual capital to increase value for the enterprise. This requires the use of a suitable
management system and supportive management accounting instruments. The main task of
this system is firstly to increase the positive effects of the intangible assets belonging to the
enterprise. This usually means the systematic triggering and retention of growth (such as by
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effective monitoring of the partner activities) and to quickly recognize and overcome growth
restrictions, for example, in the strategy management process. Secondly, the efficiency of the
operational processes must continually be increased, and their risks minimized. The latter
also applies to strategic (long-term) risks, such as the risk of following the wrong market
trends.
The key to this is the availability of the corresponding objective information on the process
and market status of the enterprise activities and the existence of methods and processes
that enable a fast and efficient knowledge exchange between the managers in the enterprise
around the information provided. This is to ensure that the information is put to its best use,
which is enabled by the implementation of suitable management processes. Both,
management processes and management accounting or monitoring systems, are the main
elements of the management system. It institutionalizes decisions on strategy adjustment,
but also adjustments on the enterprise activities and resource allocation in the management
processes, enabling the enterprise to react very fast to changing internal or market
conditions. This should enable the enterprise to continually control and optimize its short and
long-term success in a dynamically changing enterprise environment.
ƒ
Management of Strategy and Performance
The strategy must show how the enterprise wants to create value for its stakeholders, and
with which assets it wants to do this and how it will combine them to a unique value recipe.
This requires the use of a strategic management system, which makes both this strategy
transparent and therefore manageable and makes it a continuous process rather than a one
off, and establishes a continuous strategic dialog in the enterprise (cf. Daum / Norton, 2001,
p. 1). This is because one of the main characteristics of intangible assets is that their value is
normally far more dependent on external factors, such as for example market perception,
than is the case with the value of physical assets. And these external factors are not under
the control of management. Unique competitive positions in the market based on intangible
assets can only be retained or even expanded if the enterprise is always one step ahead in
this kind of external development, and has already adapted its own strategy before a change
occurs. In the strategy planning process as a subprocess of strategy management, methods
such as scenario planning are used (for identifying and managing long-term strategic risks),
real option valuation (for managing larger project and investment risks), and system thinking
(for identifying growth restrictions in the system) (cf. Daum, 2001, p. 469 ff.).
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In addition, a performance management process that is integrated with the strategy
management process is required. This integration is needed to provide more control over the
continual conflicts between short-term and long-term performance, which typically increases
with the portion of intangible assets in the enterprise. The aim of the performance
management process is to optimize the enterprise activities and resources with regard to the
short-term profit targets (for example, communicated annual turnover and profit targets). The
aim of the strategy management process is to create and expand long-term options that add
value. In other words, the task of the performance management process is to optimize the
use of existing assets with regards to short-term profit targets, and the task of the strategy
management process is to help to manage the creation of such assets (always relative to the
market). Although both tasks are normally processed by the same management team but
require different methods and a different mental attitude, it would make sense to separate the
processes. This could be done, for example, by holding review meetings for both tasks
separately but at regular intervals (cf. Fig. 5).
Fig. 5: The integrated process of strategy and performance management
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Management of The Operational Value Adding Processes
For enterprises, which are based on intangible assets and are engaged in knowledge and
relations based value creation, the traditional value creation model of the industrial enterprise
has to be enhanced and the portfolio of controlling tools and measures needs to be
extended.
The industrial enterprise’s value creation system is based to two main value creation
processes: manufacturing and sales. The traditional meaning of the term “operations”
includes just these two activities. In the new economy companies are engaged in additional
value creating activities where usually the bulk of value added originates from, such as
product innovation and R&D and the systematic creation of long lasting customer relations.
The traditional enterprise value creation system has become too simple and cannot serve
anymore as the model for the corporate performance management system. In the model for
the management system of the new operations, all activities that add value in today's
enterprises must be taken into account accordingly. To the classic operational process model
therefore a process for the product lifecycle management has to be added. The task of this
management process is to help to manage investments in product development and the
related innovation process so that value is increased. The traditional “push” oriented sales
process has to be modified and needs to be extended to a customer relationship
management process which tasks is to support the company in creating long lasting
customer relations and a profitable customer portfolio.
Enterprises where the business is based on knowledge products and Intangible Assets
require in addition to the active management of financial resources (e.g. through cash
management and capital investment management) also an active management of other
resources such as human resources, alliance partners, information resources and Intellectual
Property. These resources are often more critical to the success of the company than
financial resources because they are not easily replaceable and companies cannot just “buy”
them in a ready-to-use form on the market. Therefore the traditional support process
“financial management” has to be completed through additional support processes. The new
portfolio of support processes helps to manage the entire process from acquisition,
development and exploitation to retention of human capital, alliance partners, Intellectual
Property internally and through for example third party licenses, the provision and expansion
of suitable information technology and an information and knowledge base in the enterprise,
as well as an efficient management of the financial resources, and of the financial supply
chain (cf. Fig. 6).
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Figure 6 shows a model for an operational business management system for the new
intangible assets based economy. It consists of several processes that help to optimize
different tasks and which also help to detect value creation opportunities in these different
functional areas in a systematic way. All these management processes are interlinked. For
example the product lifecycle process may trigger at a certain point in time in the
development process of a new product the planning and preparation of the reconfiguration of
the supply chain network which is needed to enable the company to manufacture these new
products as soon as the development process and final testing is finished. The PLM process
may trigger also certain customer related processes such as marketing and sales campaigns
which should leverage the new product to either deepen existing customer relations and
generate new revenue, or to create new customer relations and penetrate new markets.
Sales and customer order management processes (CRM) trigger activities in supply chain
management with the objective, to serve customers timely as promised. Support processes,
which help to manage the acquisition, development, exploitation and retention of key
resources have to be interlinked with all operational management processes in order to be
able to provide at the right point in time the right resources for these activities.
Fig. 6: Operational business management system for the new intangible assets based economy
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This generic model needs to be adapted to the specific enterprise. In the service industry
supply chain management may play no or a minor role. In the software industry for example
this tasks are reduced to the purchase of raw CD-ROMs and to the copying of the software
to the CD-ROM. The supply chain management process therefore may become here a minor
support process.
In addition, a systematic procedure needs to be devised for the way in which the
management of these operational processes is to be integrated into the main process of the
operational management (the performance management process) and which check points
need to be defined between the different management processes. A method and concept for
this is the Management Cockpit, which is at the same time a room for management reviews
and decision meetings, where all the most important measures and indicators are depicted
on the walls in graphical form, and a method how to structure and run efficient management
meetings. On the “Black Wall” the most important performance indicators, mostly financial
indicators, are displayed. The “Red Wall” shows the status on the market side and the “Blue
Wall” the internal view on resources and processes. The Management Cockpit can therefore
serve as a hinge that links general performance (“Black Wall”) with the performance of
internally oriented (“Blue Wall”) and externally oriented (“Red Wall”) value creation and
resource management processes (cf. Daum, 2001, p. 384 ff. and cf. Fig 7).
Fig. 7: The Management Cockpit
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The Performance Monitoring / Management Accounting System
It is the task of the performance monitoring / management accounting system to provide
managers with actual information about the status of all value adding processes. For this, it
has to reflect the value creation system of the company. So the new management
accounting system should, for example, provide a complete picture of the product innovation
process, from the discovery to the development phase and finally to the commercialization
phase (cf. Lev, 2001, p. 111). If this is done comprehensively, management not only receives
information on the efficiency of the product development (project progress vs. resource
usage) but also on the effectiveness (development of possible future market shares and
revenues). This, for example, enables the enterprise to continuously optimize its product
development portfolio, so that it can minimize the risks and make better use of available
market opportunities.
The same applies to customer relationship management, in which significant value is either
created or destroyed in enterprises today. Not only does the management require
information on (short-term) sales and profitability, but more importantly, also on the
development of the long-term customer value (customer lifetime value). This is the only way
to identify the potential in the existing customer base and in new market segments as a
means of optimizing the customer portfolio and creating a long-term, profitable customer
base that can also be used for marketing future products.
This also includes information on the efficiency of the supply chain management. As a
process secondary to the customer-related business processes, value is created in supply
chain management from delivery liability, flexibility (for example, being able to quickly
reconfigure the supply chain network when customer demand is changing), and efficiency
(low costs, low capital tie-up). In addition, other indicators should be able to report on the
status and the productivity of the most important enterprise resources, for example, human
capital, information technology, intellectual property and financial capital.
As well as providing this operational information (aimed at the operational value creation
system of the enterprise), the management accounting system should always be able to
report on information about the overall performance (profit & loss, sales revenues, ROI) and
the status of the implementation of the currently valid enterprise strategy. The management
is able to use a monitoring system based on key figures, which reports on all the relevant
operational value adding processes and the implementation of the enterprise strategy and
the current overall performance. It can thus gain an insight into the overall situation and
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quickly make decisions accordingly. Fig. 8 shows the “Tableau de Board” developed by
Juergen Daum, which is based on the French concept with the same name (cf. de Guerny /
Guirec / Lavergne, 1990, p. 12-14). This provides information on the overall performance of
the enterprise and the status of the most important value adding processes in an integrated
way.
Fig. 8: The Tableau de Bord is the key figure system for controlling the entire enterprise and the main
value adding processes in the new economy. It Integrates the Balanced Scorecard concept for
strategy and general performance management, the Value Chain Scoreboard approach from Lev (cf.
Lev, 2001, p. 111) for managing the product and market development process, with modern
operations and resource management concepts (cf. Daum, 2001, p. 338 ff.)
Accounting Principles and External Reporting
A key figure based performance monitoring system that represents the value adding
processes of an enterprise is the first step towards the support of the new management
system. However, this alone is not sufficient. For example, to be able to also represent the
returns on an investment in the creation of intangible assets, these investments also need to
be treated as investments in financial accounting. This would be also the precondition, that
profit and loss will be reported correctly and revenues can be compared with all the cost
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induced by the revenue generating products or services. This is not the case, if e.g. R&D
costs are expensed in the period they occur and future revenues induced by these
investments will then not bear any of these costs.
Concepts such as Stern/Stewart’s Economic Value Added are trying to solve exactly this
problem through adjustment postings (e.g. capitalization of R&D expenses) in order to report
the correct economic result of such investments like in R&D or brand building. The problem
with this approach is, that it requires an accounting system or ledger in addition to the ones
used for GAAP reporting. The consequence is, that management reporting and external
financial reporting is not reconcilable any more which makes things more complex and
difficult especially for the CEO and CFO who have to talk to investors and have to manage
and optimize performance internally.
The right solution can only be to recognize in accounting intangible investments as what they
are: as assets. However, a change in the official accounting rules, which would be necessary
for a broad adoption of this approach, is not likely in the near future, although some activities
are already underway in this direction. For example, the FASB (Financials Accounting
Standards Board) and the SEC (Securities and Exchange Commission) in the USA are
working intensively on this matter. In Europe, the European Commission is conducting
research programs on this subject. There are already definite suggestions as to how
intangible assets can be capitalized without neglecting the required caution. Lev, for
example, suggests that investment in research and development might be capitalized once
the probability of the success can be proven to have significantly increased, e.g. by means of
a successful clinical trial (pharmaceuticals) or a successful beta test (software). The
capitalized investments should then be periodically appraised by the management and either
retained in the original value approach or, if the outlook has worsened, the values be
adjusted (cf. Lev, 2001, p. 126).
Until changes of the accounting rules will take place, experts recommend enterprises with
significant intangible assets to report in addition to the traditional financial reports on the
performance of specific key performance indicators that inform abut the success and health
of value creating processes related to intangible assets. This will give investors at least some
insight into the new areas of value creation of today’s companies.
That’s is also the recommendation of a taskforce of the American SEC, which has examined
how external reporting can be improved with regards to intangible assets. The taskforce
recommends that enterprises should use a "supplement report" to make a structured report
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article or of its graphics is permitted only with reference to the author and his website.
on the value adding process and the development of intangible assets, as well as their
normal financial statements (cf. SEC Taskforce, p. 6 ff.). A forerunner of this method is the
Swedish financial service provider Skandia. It was the first company that submitted this type
of supplement report as a supplement to the 1997 annual report (cf. Skandia, 1998). The
figures section of this report was called the "navigator", since it was designed to enable
investors to establish the actual value of the enterprise, including the intangible assets, called
intellectual capital by Skandia (cf. Fig 9). This method has the advantage that the reporting
does not require adjustment within the accounting system, and is thus generally regarded as
being a good interim solution. In Denmark, enterprises that have significant intangibles will, in
the future, be obliged to submit a "supplementary intellectual capital statement" with their
financial figures.
Fig. 9: Extract from Skandia’s supplementary report 1997
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The Risk Statement
Since the risk related to investment in intangible assets is greater than that in fixed assets,
but at the same time, the ratio of this investment to overall investments is continuously
increasing, the subject of risk management is likely to become more important in reporting.
The KonTraG law in Germany, which requires company to establish procedures that help to
discover and manage large corporate risks, is already looking in this direction. In the same
way that enterprises might, in the future, measure and report on their performance in the
most important value adding processes by using a key figure system, the risks in each area
should also be reported by using a key figure system. The approach (whereby an enterprise
concentrates on the value adding processes) described for the design of a performance
monitoring system is also suitable for this. This is because this value adding processes
represent exactly the areas where the operational risk in an enterprise lies. Strategic risks
must be determined and valuated using other methods, such as the scenario planning
approach already mentioned. Both of these could represent the content of a risk report or risk
statement, providing information on the operational risks by using a key figure report, and on
the strategic risks by using the description of future scenarios and their possible
consequences. It is conceivable that this type of structured and formalized risk statement
could become a normal part of the financial statements of a corporation, like the balance
sheet, income statement and cash flow statement.
4. Summary
Investments in innovation and thus in intangible assets are increasingly dominating the
economic activity in the developed countries. The quality of the existing management and
performance monitoring instruments has, so far, not managed to keep pace with these
developments. The need of enterprises in all industries is growing be able to compare the
returns on investments in fixed assets, but also in intangible assets, so that they can optimize
their resource allocation. Creating management and performance monitoring instruments
that can do this is an important investment in the enterprise's ability to create long term value
for shareholders and other stakeholders, and to remain successful in tough competition. The
duty of the CFO and of the Controller in an enterprise, as its economic conscience, is thus to
take and implement the appropriate initiatives. The conception of a new management system
needs to be oriented towards the processes that actually add value in the enterprise. A
decisive role in the enterprise's success and the efficient use of information provided by the
performance monitoring / management accounting system is played by the implementation of
certain management processes. These are processes that ensure a continuous optimization
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article or of its graphics is permitted only with reference to the author and his website.
of the enterprise activities and resource allocation, as well as fast adjustment to external
changes.
References
Aboody, D. / Lev. B., R&D Productivity in the Chemical Industry, New York 2001, (this study
is available on Baruch Lev’s website: www.baruch-lev.com)
Bunnell, D., Making the Cisco Connection, New York 2000
Daum, J.H., Intangible Assets oder die Kunst Mehrwert zu schaffen, Bonn 2002
(English edition: Intantible Assets and Value Creation, Chichester 2002)
Daum, J.H. / Norton D., Intangible Assets und die Balanced Scorecard – Interview mit David
Norton, in: Controlling & Finance, 6 / 2001 June, extra supplement (English version is
available at Juergen Daum’s website: www.juergendaum.com/news/07_18_2001.htm)
Edvinsson, L. / Malone M.S., Intellectual Capital, New York 1997
Gu, F. / Lev. B., Intangible Assets : Measurement, Drivers, Usefulness, New York 2001 (the
study is available on Baruch Lev’s website: www.baruch-lev.com)
de Guerny, J. / Guiriec, J.C. / Lavergne J., Principes et mise en place du Tableau der Bord
de Gestion, Paris 1990
Lev. B., Intangibles: Management, Measurement, and Reporting, Washington D.C. 2001
SEC Taskforce, Strengthening Financial Markets: Do Investors have the Information they
need ?, New York 2001 (the report can be downloaded from: www.fei.org/finrep/files/SECTaskforce-Final-6-6-2k1.pdf )
Skandia, Human Capital in Transformation: Intellectual Capital Prototype Report, Stockholm
1998 (the report can be downloaded from:
http://www.skandia.com/capital/supplements/human.htm )
OECD (Organisation for Economic Co-operation and Development) Directorate Science,
Technology & Industry, Science, Technology and Industry Scoreboard 1999: Benchmarking
Knowledge-based Economies”, Paris 1999 (the report can be downloaded from the following
web address: http://www.oecd.org//dsti/sti/stat-ana/prod/scorebd_summ.htm).
Stewart, T.A., Intellectual Capital, New York 1997.
Seiby, K.E., The New Organizational Wealth, San Francisco 1997.
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article or of its graphics is permitted only with reference to the author and his website.
Value Drivers Intangible Assets: Do We Need a New
Approach to Financial and Management Accounting?
A Blueprint for an Improved Management System
by Juergen H. Daum,
former Director Program Management mySAP Financials, SAP AG
- An article from November 2001 -
Find more information and additional articles about this topic at the author’s website at
http://www.juergendaum.com
Book recommendation (now available!):
Introducing the enterprise management concept for the knowledge and information age
The first book on the market that summarizes in a synopsis all relevant aspects of the new 21st century corporate performance
management model and that describes the steps for its implementing
Intangible Assets
and Value Creation
By Juergen H. Daum
John Wiley & Sons Ltd, Chichester, 2002
ISBN 0470845120
Working with some of the main contributors to a new model of enterprise and performance management as well as
of accounting and corporate reporting and communications, Juergen H. Daum developed in his book the
foundation for a new enterprise management system and introduces it from a very practical perspective. He is
citing many examples and is describing concrete steps that companies must take to implement the management
system for the 21st century. This is complemented with interviews with some of the leading experts like David
Norton, coauthor of the Balanced Scorecard, Leif Edvinsson, pioneer and thought leader in intellectual capital
management, and with Baruch Lev, the worlds leading expert in intangibles accounting.
“This book aims at a paradigm change in management and names good reasons and arguments for it. It belongs
into the management discussion of today. Juergen Daum proves great thought leadership.”
(Controller Magazin, Germany, issue 5/2002)
You will find more information about this book at http://www.juergendaum.com/mybook.htm
© copyright 2001 Juergen H. Daum (www.juergendaum.com). All rights reserved. Use of quotes of text taken from this article
or of its graphics is permitted only with reference to the author and his website.
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