Intangible assets and the knowledge economy: themed issue Editor’s introduction

Citation

Watson, R. (2010), "Intangible assets and the knowledge economy: themed issue Editor’s introduction", Journal of Financial Regulation and Compliance, Vol. 18 No. 2. https://doi.org/10.1108/jfrc.2010.31118baa.001

Intangible assets and the knowledge economy: themed issue Editor’s introduction

Article Type: Guest editorial From: Journal of Financial Regulation and Compliance, Volume 18, Issue 2

The term “knowledge economy”, though of relatively recent origin, has nevertheless captured the interest of – and hence has become the subject of much investigation and analysis by – a wide variety of interest groups. The central conceit underlying the concept of the knowledge economy appears to be that efficiently managed investments in intangible, knowledge based, assets will increasingly provide the primary drivers of sustainable competitive advantage for both businesses and whole economies.

The idea that corporate value is created primarily through the efficient marshalling of not merely physical, but also intangible, organizational and human, resources is, of course, neither new or controversial. The entrepreneurship and management literatures have long recognized the vital creative roles played by entrepreneurial and managerial inputs to the success or otherwise of an enterprise. What, however, seems to be driving much contemporary interest in the knowledge economy, is the perception that though such intangible investments are now of far more importance than previously, current financial reporting practices and management education have yet to fully appreciate this. In essence, much of this work seems to be motivated by the belief that, first, there is an economically significant market failure in regard to the value and effective management of intangibles and, second, that appropriately targeted intangible asset management programmes, often subsidized by public monies, are capable of mitigating these aforementioned presumed market failures.

The issues discussed by the papers in this themed issue certainly testify to the fact that corporate management, academics, financial and management accounting professional associations and public policy makers and advisors at local, state and international agency levels have all committed significant resources to promoting various intangible asset/intellectual capital training and management products and programmes. Even so, whether any of these outputs and services actually create new value beyond the benefits to the bottom line of their promoters, i.e. they address a genuine market need, is however less certain.

The first of the papers, “Banks, knowledge and crisis: a case of knowledge and learning failure” by John Holland, examines the predicament of the UK banks that experienced the most acute financial distress and which subsequently had to be bailed out at huge cost by the UK taxpayer in 2007-2008. John Holland argues that this situation was largely caused by these failing banks paying insufficient attention to the value drivers and risks associated with their highly leveraged and pro-cyclical business models which inevitably generated huge losses once the economy went into a downturn. Despite market pressures to do likewise, not all banks adopted these same disastrous business models and Holland makes a convincing case that at the failing banks this represented a major – perhaps, even deliberate – failure to learn from past mistakes, particularly the lessons from the many previous and remarkably similar banking crises over the past 200 years or so.

Iain Clacher’s paper, “National accounting for intangible assets in the knowledge economy”, examines the aggregate impact of the different classes of intangible investments undertaken by the UK. Indeed, Iain Clacher’s paper shows that the omission of non-scientific R&D and other substantial expenditures by firms and other organisations on intangibles assets from the national GDP figures seriously mislead the user as to the importance of such assets to the UK economic performance. The widening of the definition of intangibles to include the types of investments undertaken by firms in the financial and creative and media sectors is particularly relevant given the relatively high proportion of such firms and activities in the UK. Though including in the national accounts these types of investments is relatively straight forward, Iain Clacher’s paper discusses why complex interactions that generate non-trivial innovation and spillover effects inevitably create difficulties in developing a comprehensive national accounting framework that fully incorporates the impact of intangible asset investments upon national growth and productivity metrics.

Advocates of greater intangible asset reporting frequently make the criticism that the published financial statements of companies do not adequately reflect the value of intangible assets. However, Suntharee Lhaopadchan’s contribution, “Fair value accounting and intangible assets: goodwill impairment and managerial choice”, argues that since the introduction of “fair value accounting”, particularly in respect of the treatment of acquired “goodwill” shown on consolidated balance sheets, this criticism may have less validity. Suntharee Lhaopadchan’s paper investigates whether the recognition of acquired goodwill and the post-acquisition rules for recognizing any goodwill “impairment” has actually led to more meaningful information being made available to the users or whether the primary outcome has simply been to provide self-interested managers with greater opportunities to engage in earnings and balance sheet manipulations that are of doubtful value to users. Based on the empirical evidence to date, Suntharee Lhaopadchan concludes that in practice managerial self-interests and earnings management concerns appear to motivate many goodwill impairment decisions and that this type of reporting behavior could actually result in reducing the information content of the published information.

The final paper, “Small and medium size enterprises and the knowledge economy: assessing the relevance of intangible asset valuation, reporting and management initiatives”, by Robert Watson, evaluates the criticisms and proposed alternatives to conventional financial reporting and management control practices from the perspective of their relevance to SMEs. In a similar manner to Suntharee Lhaopadchan, Robert Watson argues that the problems associated with identifying and valuing many types of intangible assets make their inclusion on the balance sheet problematic. Moreover, their valuation and subsequent amortization may reduce the informativeness of the reported income number which, in conjunction with an appropriate risk-adjusted cost-of-capital, currently appears to provide a reasonable valuation estimate. The evidence that SMEs could materially increase their value by adopting more formal and comprehensive intangible asset management systems is largely absent and Robert Watson argues does not justify significant public subsidies to encourage more SMEs to adopt such measures.

Robert WatsonGuest Editor