Intangible Assets: Measurement, Drivers, and Usefulness

Background

Intangible (knowledge) assets, such as new discoveries (drugs, software, etc.), brands or unique organizational designs (e.g., Internet-based supply chains), are nonphysically embedded sources of future benefits. The risk of intangible assets (e.g., drugs or software under development not making it to the market) is higher than that of physical assets.² Accordingly, many, particularly accountants and corporate executives, are reluctant to recognize intangible capital as assets in financial reports, on par with physical and financial assets. Instead, most intangible expenditures are expensed, leaving the impression that these expenditures do not contribute to firm value. The lack of useful information significantly hinders the task of assessing the value of intangibles, particularly for investors who are outside the firm.³ Research finds that the information deficiency of intangible assets leads to large losses for investors, due to the information advantage of insiders (e.g., Aboody & Lev, 2000) and distorted and misleading accounting information (e.g., Lev, Sarath & Sougiannis, 2005).⁴ Managers also face significant difficulty in valuing the intangibles of target firms for acquisition as they frequently overpay for the intangibles of target firms in acquisition, such as goodwill, and bear the blame for subsequent goodwill write-off (Gu & Lev, 2009).⁵ Thus, managers also need more reliable approaches to valuing intangibles.