Value at risk: seven questions that boards should ask
Net tangible assets contribute only about 15% of the value of the NASDAQ 100, and less than half of most other stock exchanges. A significant portion of the balance is generated by technology and brands. The ability to protect the competitive advantage created by these assets is dependent on the strength of the supporting intellectual property. Yet an alarming number of companies do not track the value and health of the intellectual property that supports their market capitalisation. Without visibility of IP performance, how can it be confident that risk is appropriately managed? How can they be satisfied that corporate strategy is maximising the value of technology, brands and other intangibles?
Balance sheets are a poor reference point for IP value. Capitalised intangibles contribute only about 12% of the value of the NASDAQ 100 – representing acquired intangible assets. In contrast, accounting standards do not permit balance-sheet recognition of most internally generated intangible assets. This is why over 70% of the enterprise value of the NASDAQ 100 is not reflected on company balance sheets.
Gaps in balance-sheet disclosure of intellectual property are a concern for investors, but need not detract from IP management if directors have enough information to manage IP risk and assess growth strategies.
A few simple questions can gauge the adequacy of your IP metrics.
Managing IP risk:
- What is the dollar value of technology, brands and other intangible assets, and how big a contribution does each make to enterprise value?
- How well protected are these intangible assets?
- What measures are used to provide early warning of erosion in IP value?
- What are the reasons for any changes in IP value in the last financial period?
Developing strategies that maximise IP value:
- How do you identify and quantify opportunities to leverage enterprise value through intellectual property?
- How much IP value is forecast to be generated by the strategic plan?
- How has the level of IP investment been determined, and what is the expected return on investment?
Sophisticated IP-centric companies will have coherent answers to these questions – but they will be in the minority. Many companies with valuable technology and brands do not regularly provide the board with IP performance measures. This can stem from the executive team not having an IP tracking framework. The purpose of a metrics framework – or IP dashboard – is to provide consistent performance tracking, effective planning and informative communications to corporate stakeholders.
An effective dashboard is not just a random grouping of IP measures. A value-based rationale provides a coherent framework for the complex and diverse inputs that are required to track the health of an IP portfolio. A value-based dashboard integrates metrics from the breadth of the value chain into a single insightful tool. This improves the quality and speed of decision making, thereby enabling organisations to develop value-maximising strategies, set appropriate budgets and track the return on investment.
A well-constructed IP information system provides different layers of information: from the granular data required by IP managers, through the integrated summaries for executives, to the key performance indicators required for board reporting. If there is a concern that equity analysts undervalue the company, the IP dashboard can provide ammunition for investor relations. Data requirements might differ, but the framework ensures that all information is consistent and commercially grounded.
If non-executive directors have concerns about IP risk management, we urge them to ask the seven questions listed above. For management, the questions help to assess whether you have your finger on the pulse of your IP portfolio. In short: an information system that tracks the health and value of intangible assets enables decisions that mitigate value at risk and drive corporate earnings.
This is an Insight article, written by a selected partner as part of IAM's co-published content. Read more on Insight
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