Next month, the IAM team will be returning to Melbourne for another edition of IPBC Australasia. The speaking faculty we have lined up includes a wide range of companies listed on the Australian Stock Exchange (ASX), including Treasury Wine Estates, Cochlear, Starpharma and Dimerix.
These businesses are all leaders in the field of IP value creation. But new research from Tim Heberden, IP economics director at Glasshouse Advisory, shows that many publicly traded companies in Australia are missing the opportunity to explain the value of their intellectual assets to investors. This, he says, can be detrimental to their corporate health.
Of course, what goes for Australia also goes fror most other first-world economies - reporting of intellectual assets, including IP, is haphazard in most instances - and fails to give either investors or the C-suite a full picture of value. But without that picture, what hope is there for effective decsion-making?
Heberden is a member of the IAM Strategy 300. If, like me, you are down in Sydney for the AIPPI World Congress this week, you can catch him moderating a panel on ‘The business of IP’ on Sunday. This is how he summarises his findings.
A review of Australia’s top listed companies shows that 38% of their value (A$738 billion) is not explained by their balance sheets. The research of the ASX100, undertaken by Glasshouse Advisory, shows investors are operating without full visibility of a significant proportion of the corporate asset base. The gap between balance sheets and enterprise value is a staggering 74% in the healthcare industry.
It is not just investors that are shooting in the dark. Anecdotal evidence suggests that few meaningful metrics regarding the health and value of intellectual assets reach the boardroom.
To avoid supporting any perception that ‘intangible assets’ are lacking in substance, this piece refers to ‘intellectual assets’. The distinction is important as poor visibility of these assets compromises investment decisions, transaction planning, corporate strategy and risk management.
What is missing from balance sheets
The study reveals that net tangible assets account for 50% of the enterprise value of the ASX100 (as of 30th June 2017). Capitalised intellectual assets represent 12% (A$221 billion), meaning that 38% of the value of the ASX100 is not explained by the underlying balance sheets.
The total value contribution of intellectual assets - whether capitalised or unrecorded – is therefore 50%. In contrast, over 80% of the value of the Nasdaq100 is generated by technology, data, brands and other intangibles. The table shows the Australian industries that are most reliant on intellectual assets:
Total intellectual asset contribution
The reason for the value-gap is that rules regarding the capitalisation of ‘intangible assets’ result in the bulk of internally generated items not being capitalised.
Yes, refining financial reporting standards to meet the needs of an era where intellectual assets are king is a complex task. But a balance sheet blackhole compromises investment decisions. This increases the need for companies to use other parts of their annual report to communicate the strength and value of their intellectual assets. This can be achieved without impairing competitive advantage, and reduces the likelihood of shares being undervalued.
Why should companies disclose more information than they have to? If a company doesn’t inform investors of the quality of its intellectual assets, it shouldn’t be surprised if they underestimate its competitive advantage and earnings potential. This can lead to undervaluation and a hostile bid.
At the very least, disclosure should identify important categories of intellectual assets, and summarise asset management procedures that protect and develop the value of each asset category. To achieve a balance between effective investor communications and confidentiality, disclosure of measures of asset strength should be considered on a case-by-case basis.
What is on balance sheets
Of the $221 billion of intangible assets recognised on the balance sheets of the ASX100, approximately 60% is attributed to residual goodwill, while only modest value is attributed to acquired brands and technology. The dominance of goodwill is surprising, considering that accounting standards include the following categories of identifiable intangible assets: technology, brands, contracts, customer assets and artistic intangibles (mainly copyright).
The industries where tangible assets make the greatest value contribution are Real Estate (88%), Energy (77%), Materials (57%) and Utilities (56%).
IP reporting in the boardroom
Boardroom visibility of the health and value of intellectual assets is not much better than that of investors. This is nonsensical as poor metrics hamper risk management and strategy determination.
Boards should consider the following questions to determine whether they have sufficient information to assess growth strategies and manage intellectual asset risk.
- What is the value contribution of technology, data, brands and other intellectual assets?
- How well protected are these assets?
- What measures are used to provide early warning of any erosion in asset value?
- What are the reasons for any changes in value during the last financial period?
Developing strategies that maximise IP value:
- How are value-adding opportunities identified?
- How much intellectual asset value is forecast to be generated by the strategic plan?
- How has the level of investment been determined, and what is the expected return?
If the answers to these questions are not clear, management are blinkered. To increase visibility, an important first step is a value mapping exercise to identify each category of intellectual assets and assess their relative commercial importance. Discussions should be held with internal stakeholders (including R&D, Marketing, Legal and Finance) to determine existing procedures and measures used to manage these assets. A more complicated step is narrowing the gap between current practice and best practice in intellectual asset management.
Understanding the current and potential value of intellectual assets enables organisations to develop value maximising strategies, set appropriate budgets and track the return on investment.