Putting a price on intellectual assets

The OECD is examining this issue and has published a policy brief looking at how better understanding and improved disclosure of investments in intellectual assets, as well as diffusion of best practices, would benefit managers, investors and policy makers.

The brief examines questions including; How do intellectual assets drive growth?; How should they be perceived from an investment point of view?; How do you realise the full potential of intellectual assets?; How should best practices be diffused?; How should companies report intellectual assets?; and What is the role of governments?

Strategic factors

Have no doubt that intellectual assets have become strategic factors in value creation. This is evidenced by the expansion of the services sector, globalisation, deregulation, and the emergence of new information technologies, which have brought to the fore the issue of how knowledge is created, disseminated, retained and used to obtain economic returns.

As a consequence there has been structural change, from traditional scale-based manufacturing, which mainly relies on tangible assets, to new innovation-oriented activities which rely largely on the research and development, patents, software, human resources and new organisational structures that are collectively referred to as intellectual assets.

These factors have transformed the value creation process, and have created a need to update measurement methods and conceptual models of investment, capital, and its return.

This is true at both the economy-wide level and at the corporate level, as intellectual assets are rarely reflected in official measures of economic performance, such as gross domestic product (GDP). Nor are most of them are not accounted for as investments in financial statements. When one euro is spent on a piece of equipment and another on training staff how to use it, only the first euro is accounted for as investment.

“This bias towards tangible assets in measuring investment may lead to inefficient policy making, misallocation of resources by managers and increased cost of capital for investors,” says the report.

Problems with measurement

But considering intellectual assets as investments rather than as expenses is fraught with measurement and valuation problems.

According to the report, expenditure on intellectual assets in the OECD area has grown faster than expenditure on machinery and equipment in recent years. In 2002, total expenditure in R&D, software and higher education was larger than the investment in machinery and equipment in the OECD countries.

A large number of studies have demonstrated that intellectual assets make a substantial contribution to economic growth:

• Human capital has a significant impact on business and economic performance. When educational attainment, skills and experience, age and gender distribution are taken into account, the change in the composition of labour is shown to play an important role in productivity growth.
  
  
• Studies typically suggest that R&D spending is associated with an increase in productivity, with estimated gross rates of return ranging from 10 to 20 per cent.  

So how do intellectual assets drive growth?

• The knowledge developed by R&D is increasingly protected by patents. Patent filings grew by 94 per cent in the US and by 76 per cent in Europe between 1992 and 2002. ICT, one of the most R&D-intensive sectors, had the lion’s share of the growth. The impact of patents differs substantially across sectors and largely depends on their use, which can include obtaining freedom of action, commercialising own inventions, licensing them to third parties, entering into cross-licensing agreements and attracting external finance.
  
  
• Investments in software have also contributed much to business performance and economic growth in recent years.

Added to the difficulty in drawing the line between expenditure and investment is the fact that intellectual assets are not always separately identifiable. Instead, they tend to be complementary and can overlap significantly, so they are difficult to measure and their impact is difficult to isolate.

In many cases the border between different categories is blurred. For example, the bulk of R&D expenditures go to wages for highly-skilled labour. This results in training and the development of skills. Patents are frequently the result of R&D and are a legal device for securing the ideas emanating from human capital.

Similarly, the development of software represents a large portion of R&D spending, especially in services. But software and organisational structure are frequently the codification of human expertise and know-how. These interactions and complementarities need to be taken into account or the resulting picture may be incomplete and lead to an inaccurate view of the overall contribution of intellectual assets to economic performance. A recent study has shown that had it been included in the official figures,  business investment in intellectual assets would have been about 10 per cent of GDP in OECD countries as a whole.