Creating a systematic approach for measuring and disclosing the value of a company's intangibles will go a long way in re-establishing confidence. (Intangibles).

By Pam Cohen Kalafut (Financial Executive, July-August, 2003)

Without a doubt, the Sarbanes-Oxley Act has created new realities for both companies and their C-suites. There is a lot more at stake now, both personally and professionally, as the legislation's mandates and the pressures created by an increasingly skeptical investment community have created an environment where it is no longer enough to just report financials.

Now, the impact of business risks associated with the numbers must also be communicated, as investors want to know about the motivations behind a company's decisions, and they want visibility into the "softer side" of the business -- intangible items that don't show up on a balance sheet or an income statement.

Some critical intangible drivers include: leadership, strategy, communications, brand, reputation, alliances and networks, technology, human capital, workplace/culture, innovation, intellectual capital and adaptability.

To give investors what they seek - and to boost their confidence -- companies can incorporate communicating the value of their intangible assets with learning to manage those assets.

Communicate to Build Confidence

Cap Gemini Ernst & Young's (CGEY) "Decisions That Matter" research showed that at least 35 percent of portfolio managers' decisions about where to allocate investment dollars are based on intangibles. The study also found a strongly positive correlation between sell-side analysts' reliance on non-financial performance and the accuracy of their earnings forecasts.

Additional results show that over 80 percent of executives queried perceive a gap between what their companies were measuring - in terms of both financial and non-financial performance metrics -- and what they actually believed was critical to measure. Moreover, the size of those gaps is important - and is strongly correlated with stock price, market value and other hard performance indicators.

Given these statistics, it is indeed surprising that intangibles are facets of a business that most companies don't measure, manage or disclose. Intangibles have value; they drive confidence.

Call to Action

As the financial gatekeepers of companies, CFOs are now operating by new rules. They need to create and track new performance measures -- measures that look forward as well as backward -- that show how the company is likely to be doing in a year or two, as well as how it did last quarter. They need to keep their eye on aspects of the business that cannot easily be counted, but that are essential to its future health. They must also accept that -- under the watchful eye of sophisticated investors -- communicating the company's activities is key to its success.

CFOs will need to rethink how intangibles impact the business, and then create a plan to obtain company-wide commitment to manage and measure the affected assets.

There are five steps for getting started:

>> Determine the critical intangibles for the business. Every industry has three or four intangibles that are the most significant. In manufacturing, innovation, quality of management and employee relations are most important -- with technology and customer satisfaction ranking lower. In financial services, it's management quality, technology, brand and customer relations. How are the key intangibles determined? Most seasoned executives have a "gut" feel for this. In addition, the leadership team can be asked to come up with rankings of the intangibles they believe are most important, by asking a series of questions and reaching consensus on the answers. For example, ask: "What are the real drivers of value in our business?" "If we could gain a competitive advantage by improving our performance in two or three key areas, what would those be?"

>> Decide on metrics for the key intangibles. Start with what the company already measures. Often someone somewhere in the organization is gathering valuable data that gets filed away, and that can be utilized. Gather that data -- and if certain information is unavailable, plan to get it through a survey or publicly available information, if possible. Some intangibles are relatively easy to measure. Customers can be polled to determine levels of satisfaction, and human resources indicators, like turnover, can easily be tracked. Others, such as "leadership," present more of a challenge and are often tough to gauge -- but tough doesn't mean impossible. As appropriate, poll customers, suppliers, investors, employees and other stakeholders, asking these types of questions: "Are your company's leaders respected in the industry?" "Are departing leaders routinely sought for high-level jobs elsewhere?" The answers often involve judgment, which can be supplied by the polling.