Benefits of Intellectual Capital Reporting
It is common knowledge today that the real growth drivers of business in this knowledge era are not Physical assets, but rather the Intangible assets of the Company. These assets, better known in the academia as Intellectual Capital, are well researched, understood and broadly categorized into Human, Structural and Relational Capital. Some examples of these are:
|Human Capital||Structural Capital||Relational Capital|
|Employee Education Index||Internal Processes||Customer Satisfaction Index|
|Average Tenure||Databases||Repeat Business|
|Number of Days of Annual Training||Patents||Investor feedback|
It is therefore in the interest of every Company to measure and publish their own Intellectual Capital in order to be able to manage the Company’s growth and communicate the intrinsic value of the Company to investors and lenders.
By many estimates, Intellectual Capital represents more than half the market value of public Companies. In the case of some Companies such as Google and Microsoft this estimate may even be as high as 90%. Experts agree that Intellectual Capital will be important going forward as the growth driver of the knowledge economy in the future, if it is not so already today. Measuring, managing and publishing information about Intellectual Capital will therefore become as important an activity to Companies in the future as publishing financial reports is today.
Intellectual Capital Reporting can benefit a wide section of audiences:
- Companies could use an Intellectual Capital Report to measure the effectiveness of their Corporate Strategy and fine tune it.
- Investors and Lenders could use it to understand the Company’s value creation processes and the basis for sustainability of the same in the future.
- Prospective Customers could use it to understand whether the Company has strengths in the areas it desires from its suppliers.
- Potential employees could use it for selecting the right Company where they can hope to make a career for themselves. The side benefits of this could be reduced attrition and reduced knowledge leaks to competition thereby creating a circular loop for increased Intellectual Capital.
- Investment Bankers could use an Intellectual Capital Report for matching potential suitors after mirroring the strengths and weaknesses of each company to conceive of a combined entity that would be stronger than each one individually.
- Fund Managers and Retail Investors could use it for discovering under and overvalued stocks, provided valuation information is disclosed along with the Report.
- Bankers could use it to better quantify the risk of lending to the company thereby managing the amount of nonperforming assets in their loan portfolio.
- Finally society at large will itself benefit, since the combination of above benefits would result in efficient utilization of Capital thereby leading to the creation of more businesses and hence more jobs.
A Model to Evaluate the Intellectual Capital
Given the repeated observation in which intellectual capital is an increasingly important component in determining the success of the company, it should be accepted that is not yet defined a model that has the consent of the business community, and scientific management. Analysis tools must be recognized by entrepreneurs and corporate executives to become more open in providing such information and there is an understanding that the information on these values can be an important factor of credibility and success for the company. This is critical since a failure to properly conceptualize the nature and value of knowledge assets condemns firms and whole economies to fight competitive battles with outdated weapons and tactics. In this context, the purpose of this paper is to present a model to evaluate the intellectual capital considering the aspects of intellectual capital on the one hand, followed by the business community and the scientific community experiences gain in the field on the other hand.A Model to Evaluate the Intellectual Capital
Intellectual Capital: A Human Resources Perspective
By Sid Adelman
The term “Intellectual Capital” collectively refers to all resources that determine the value of an organization, and the competitiveness of an enterprise. Understandably, the term “intellectual capital” from a human resources perspective is not easily translatable into financial terms. For all other assets of a company, there exist standard criteria for expressing their value. Perhaps, this term could more appropriately be called a “non-financial asset.” In an article written by Paolo Magrassi titled “Taxonomy of Intellectual Capital”, 2002, Mr. Magrassi defines human capital as “the knowledge and competencies residing with the company’s employees” and defines organizational intellectual capital as “the collective know-how, even beyond the capabilities of individual employees, that contributes to an organization.”
Although there has been an increasing interest in intellectual capital and an increasing interest in how it might be managed, there has been little written to succinctly describe and define the concept. This column is intended to provide an overview of intellectual capital, where it fits into an organization, what the component elements of it are, and what might be done to manage them.
Intellectual capital can include the skills and knowledge that a company has developed about how to make its goods and services. It also includes insight about information pertaining to the company’s history; customers; vendors; processes; stakeholders; and all other information that might have value for a competitor that, perhaps, is not common knowledge. Intellectual capital is therefore, not only organizational knowledge, it is also industry knowledge. It is the combination of both cognitive knowledge and intuitive/experience-related knowledge.
Elements of Intellectual Capital
In all definitions of Intellectual Capital, the following taxonomy can be recognized:
- Relationship Capital: All business relationships a company entertains with external parties, such as suppliers, partners, clients, vendors, etc.
- Human Capital: Knowledge and competencies residing with the company’s employees.
- Organizational Capital: The collective know how, beyond the capabilities of individual employees. E.g. Information systems; policies and procedures; intellectual property. (Sullivan, 2000)
The importance of knowledge pertaining to external parties relevant to an organization has been emphasized as an especially important body of knowledge pertaining to all aspects of the organization.
Preserving Intellectual Capital
The problem today in many organizations is employee attrition through layoffs, resignations, retirements, and other forms of employee separation from the company. We would like to ask employers the following question… Are you sure that when the economy sufficiently turns around, you are able to predict if your most valuable employees are about to walk out the door?
Employees have extensive knowledge about their job, the business processes, the data that supports their jobs including how to make things happen, and what works best. Unfortunately, in most instances today their knowledge has not been captured, transferred, or made available to others. In a recent “Business Week” article (Nov. 16, 2009) one of the publication’s editors, Deborah Stead, writes about the importance of identifying and recognizing the importance of preserving intellectual capital. Her article titled “Are Your Employees Just Biding Their Time?”, discusses that the current unemployment rate across the country has scared working Americans into hanging on to their jobs at all costs. The Bureau of Labor Statistics (year-end, 2009) reports that just 1.3% of employees voluntarily resigned their jobs. However, the article goes on to express that employers that do not fully recognize the importance of employees should not count on workers’ loyalty to outlast the recession.
To add to this viewpoint, the BLS reports that the “engagement” or “loyalty” of top-performing employees has dropped by 25% over the past year, largely because people who kept their jobs have been soured by extensive layoffs, cuts and/or elimination of various employee benefit programs, and the significant elimination of promotions. Employers should be mindful that when the job market improves, many of these employees might have become disengaged with their employer, and will move forward to leave their current jobs for other new opportunities.
It is very probable that many employees at this very time are quietly researching other places to work. In a Monster.com survey taken in May, 2009, 79% of jobholders expressed that they had stepped up their search for a new place to work since the recession began. Many employers may not fully grasp what it takes to retain good people. Therefore, “Intellectual Capital” is not only today’s challenge, but will most likely become tomorrow’s asset.
The Importance Of Implementing Intellectual Capital Processes
A key challenge today is that employees have tremendous knowledge about their job, the business processes, the data that supports their job and those processes, as well as knowledge of how most effectively to make things happen, and the insight about what works and what does not. Unfortunately, in most situations, they have no means, or incentive, to share their knowledge i.e. Their knowledge has not been captured, transferred, or made available to others. One impact of today’s recession and unemployment situation is that this knowledge is potentially lost to the organization. Human Resources professionals and managers have a major challenge to obtain and store information about:
- Core job knowledge of all employees, their experience, and their key skill-sets.
- Training is perhaps more important than ever.
- Performance review systems are based upon meaningful metrics.
- Development of effective succession planning systems.
- Leadership and management development programs.
The successful implementation of new technologies, therefore, is dependent on many factors including the efficient management of human resources systems and processes. The Human Resource Departments are well positioned to ensure the success of knowledge management programs, which are directed at capturing and using employees’ knowledge, and by meaningfully implementing an appreciation for preserving Intellectual Capital.
Global organizations have an even more demanding requirement to capture and understand intellectual capital given differences in language, culture, time zones, and all other forms of communication requirements.
The corporate knowledge base is fluid and must respond to the ebb and flow of required knowledge throughout the organization. Most of the intellectual capital resides in peoples’ heads, and one of the objectives of knowledge capture is to reach out and encourage people to share.
The Value Factor
The value to the organization of such a knowledge repository is almost incalculable. Consider the collaboration and communication opportunities and all network/peer relationships that have been established. The knowledge repository could be an invaluable resource database. The opportunities for problem solving and interactive sharing are quite apparent.
Employee and Management Training & Development
The knowledge repository could also be used for training new employees. This repository would be a ready-made reference source when there are problems to be solved.
Capturing intellectual capital and the resulting organizational insights could become core and important functions of Human Resources management. At some point, metrics would also be useful to indicate usage, to indicate what is and what is not being accessed, and also to give management a sense of the value of the knowledge repository.
The types of knowledge that would be relevant for intellectual capital are data definitions, business processes, business rules and procedures, specialized technical knowledge, the “fit” with the corporate culture, management styles, organizational history with customers and vendors, and how data flows through the organization.
The capture process would include structured interviews that would be specific to each department and functional area in the organization, and specific to the types of knowledge that would be seen as most important. The results of these interviews would then need to be validated for accuracy and usability. The knowledge repository must be organized to make it both useful and accessible.
Socialization of Knowledge
Knowledge builds off other knowledge; it is cumulative. One thought or idea is built from preceding thoughts and ideas. The internet and computer technology offer many vehicles for the socialization of knowledge. Some of these vehicles include the following:
- Groupware and collaborative software
- Threaded conversations
- E-mail lists
- Online chats
- Social networking
Strategies for Implementing Intellectual Capital Knowledge
One pragmatic recommendation for implementing an Intellectual Capital Knowledge process would be to establish a “pilot” program. This pilot could initially focus on an individual department within the organization. Human Resources Department would be an excellent choice. The purpose of the pilot would be to evaluate the usefulness of this initiative, to learn from its successes and problems, and to provide a template for the capture and dissemination of knowledge in other departments and functional areas.
This pilot would need a strong sponsor and facilitator. Perhaps this could initially be the senior level Human Resources person. The title of this person, with regard to a pilot program, would essentially be the Chief Knowledge Officer for the organization. To get this off the ground, the participating employees would need to have a high level of buy-in and commitment to this process. The pilot project should be evaluated for the value it provides to the organization. The primary determinant would be the level of access to the knowledge repository. This knowledge repository would need to be effectively maintained and kept current for it to remain valuable.
With the establishment of a pilot program, starting with the Human Resources Department, data would need to be identified and stored in such areas as: (partial listing)
- Benefits Administration
- Compensation Structure
- Compensation Strategies and Practices
- Performance Review and Management Data
- Recruiting and Hiring Processes
- Training & Development Programs
- Payroll Services
- Human Resource Policies and Procedures
- Successful Business Practices
- Workplace Safety Information
- Data Pertaining To All Compliance Areas
- Human Resource Planning Data
- Job Descriptions and Job Questionnaire Data
- Equal Employment Opportunity Data
- Staffing Data
- Labor Relations data
- Human Resources Management Technologies
- An Organization’s “Culture”
In this recessionary business environment that has resulted in extensive layoffs, reduction or elimination of employee development and leadership development programs; reduction or elimination of employee compensation and benefit programs, inactivity of recruiting efforts, and emphasis given more to short-range planning rather than longer-range planning, the principles of Intellectual Capital should remain in clear focus and high priority to those people accountable for the Human Resources function.
All of an organization’s stakeholders can be of tremendous strategic importance to the full-scope of managing Human Resources. In summary, this point which has been central to this column includes the “intangible” intellectual capital knowledge pertaining to employees, customers, vendors, owners, investors, competitors, and any other partner relationships which impact the successful sustainability of the organization. This column should be shared with your HR Director and your Chief Knowledge Officer.
27 May 2010
- Brands: Examples include company names, domain names, logos, names of clubs or restaurants and newspaper mastheads. In short, anything that generates goodwill.
- Design: The layout of components of an electrical circuit is an example of an intellectual asset which is an investment in functional design. The shape of a vase or the cut, fabric and texture of a garment are examples of intellectual assets that are investments in ornamental design.
- Technology: A new machine, manufacturing process, computer program or semiconductor are yet more examples of intellectual assets in technology.
- Creative Works: A novel, poem, play, film, game or website are examples of intellectual assets that are creative works. So, too, are the performances of actors, dancers, orchestras and singers on the stage or in the film or recording studio.
Intellectual capital Accounting:
Intellectual capital is the technical expertise and process knowledge contained within an organization. If intellectual capital gives an organization a significant competitive advantage, it is entirely possible that a large portion of the firm’s valuation is derived from this expertise and knowledge. Examples of intellectual capital are the expertise needed to process a complicated production procedure, the development of a secret recipe for a food product, and a high level of business training given to a consulting firm’s employees.
If a firm does not recognize the value of its intellectual capital, it may engage in adverse personnel management practices, triggering an outflow of valuable employees. Conversely, a management team that is determined to maximize its use of intellectual capital will follow a detailed plan for focused knowledge acquisition and employee training, while also converting it into specific competitive advantages.
The cost of acquiring intellectual capital is derived from excellent hiring practices, as well as a deep investment in employee training. The costs of hiring and training are considered to be period costs, and so are charged to expense as incurred. This means that an organization does not capitalize the cost of its intellectual capital.
When a firm with a large amount of intellectual capital is acquired, the acquirer will likely pay a high price for the business. If so, a portion of the purchase price is assigned to the assets and liabilities of the acquiree. The remaining unallocated amount of the purchase price is assigned to the goodwill asset. This means that the intellectual property of an acquiree is essentially being recognized in the goodwill asset of the acquirer.
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Accounting for intellectual capital: On the elusive path from theory to practice
Intellectual capital emerged approximately twenty years ago as an alternative paradigm with the ambition to identify, measure, report and manage knowledge assets. While the need for regulatory frameworks to account for knowledge assets and intangible drivers of value was pressing in the setting of the “new economy”, intellectual capital has yet to establish itself as a dominant solution for accounting theorists, corporate professionals and regulators. This paper analyzes intellectual capital as a tool to meet practical needs with respect to accounting for and managing knowledge‐based, intangible wealth. Several explanations are provided on the extent of acceptance of intellectual capital as a management accounting alternative. Copyright © 2010 John Wiley & Sons, Ltd.Accounting for intellectual capital: On the elusive path from theory to practice
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