Financial reporting for the Information Age

by John Reiners

I was really looking forward to yesterday’s event, sponsored by CIMA, the management accounting institute, on valuing intangible assets. I’ve been thinking for a while about how we account, measure, and report value, and business performance is not keeping up with the transformation to a digital economy. This esoteric interest can be explained by my background:—30 years ago, I trained as a management accountant in the computer industry.

Even way back then accountants were aware of the difference between a company’s valuation on the stock market and the book value of its assets, identified as “intangible assets.” Many attempts have been made to account for these intangibles—for example putting a value on brands and measuring “goodwill,” the surplus above book value when acquiring a company. Much of the discussion yesterday was along these traditional lines of trying to define and measure brand value.

But there is a much more interesting story to tell, justifying the event’s title “Time for a Revolution in the Financial Reporting of Intangible Assets?” The problem of how to measure intangibles has become acute. Thirty years ago, companies’ tangible assets represented about 80% of their stock market value, now more than 80% of their market valuations are made up of intangibles.

The obvious explanation is the growth of the digital, service based economy. Many of the leading companies of the digital economy make their money from assets that are difficult to put a value on, like insights mined from Big Data. Only a few companies make an effort to put a value on their information assets. It’s no coincidence that the worlds’ two most valuable companies, Apple and Alphabet, are owners of the dominant mobile platforms, IoS and Android. But how do you put a value on the ecosystem of hundreds of thousands of developers from outside your company? The answer was provided by the BBC’s Director of Finance, Ian Haithornthwaite. The book value placed on BBC’s iPlayer platform—a key platform providing access to BBC content to its global customer base—is zero.

So how is this revolution going to happen? There were some interesting ideas floated. CIMA’s CEO, Charles Tilley, explained that we need to understand, measure, and report the key drivers of business value—technology, focusing on the customer, managing key risks (e.g., to reputation) and how businesses contribute to society. It’s great that the accounting profession is raising and debating these issues—though the mood of the meeting suggested that, despite the evident shortcomings of financial and management reporting, these are difficult issues and a revolution is not imminent.

Afterwards, I was talking to a professional investor and some senior accountants. The investor was clearly disillusioned with the quality of reported information. His suggested remedy was to encourage businesses to self-report intangibles, and over time, good reporting would drive out the bad (and absent). The accountants suggested it was up to the analyst community to improve their interpretation of reported results. It appears expectations are already low on how reliably financial reports explain the value of a business—it’s an art, too difficult to measure accurately—and I expect the gap between reporting and reality to get bigger before these issues are effectively tackled.

Financial reporting is just one of the areas where our measurement systems are struggling to keep up with the digital economy—I will be returning to this broader subject soon!

John Reiners is Oxford Economics Managing Editor, EMEA. He manages research programs on a wide range of topics, including digital economy and international trade. He also follows emerging trends, like the emerging platform economy. He can be contacted at jreiners@oxfordeconomics.com