Everywhere we turn, we hear the same thing, we read more or less the same articles. Yes, the digital revolution and the dematerialization of the economy are underway. For Accounting and Management Control Prof. Anne Jeny it is only fair to ask what impact will all this have on accounting. In her policy paper, she aims to shed light on the issue while posing the following question “Should traditional accounting practices recognize intangible assets”?
Towards a new industry… Industry 4.0
Our ways of working and socializing have changed. The supply and demand of new data have increased because of the growing role of the digital economy. Google, Amazon, Facebook, Apple, Uber, Airbnb and many others digital giants have appeared on the market. Larger volumes of data have now to be processed and this was made possible by the development of algorithms and mathematical models.
The new consumer
Consequently, supply and demand find themselves linked. Uber and Blablacar, among others, have played an important role in the appearance of new types of transactions. The consumer turns out to be given an important role in the value creation process. Whether we like it or not, this new digital context is likely to change financial management and… accounting.
The new firm value lies in knowledge management.
The new economy: knowledge and information.
The bridge between this new digital context and firm value lies in knowledge management and is reflected in intellectual capital, a concept translated as intangible assets in financial accounting.
Book value vs. market value
In this constantly changing context, physical goods are no longer the main source of value creation. Let us take a look at Google – a flagship of the new economy. In 2016, Google’s market value – the present value of the company’s expected future value creation - reached USD 413.8 billion whereas its book value – the company’s value based on its financial statements – only amounted to USD 139,036 million. What does a difference as considerable as this one tell us? There may be a flaw in the monitoring (accounting) tool with regard to capturing the value present in the company.
Why is intangible assets’ recognition important?
A gap this important between market value and book value is unequivocal and has a direct impact on companies’ financial statement. How? Let us now take a look at Skype. In September 2005, the company was sold to eBay for USD 2.6 billion. But how much was it worth from an accounting perspective? Its book value reached USD 20 million. Therefore, at this point, we are all wondering: “How can Skype’s valuation of USD 2.6 billion be explained?”
Skype was created in 2002 but in September 2005, it already had 54 million users and global coverage
eBay planned to bill communications between buyers and sellers, therefore, the acquisition made sense from the point of view of its business model
All assets had been reevaluated and new ones recognized – a large share of which intangible – but it counted for only USD 280 million. With its price offer of USD 2.6 billion, eBay has had to record a goodwill of USD 2.3 billion, based on strong forecasts. (Skype revenue: 2004 – 7 million (unprofitable), 2005 – 60 million, 2006 – 200 million)*
Goodwill is clearly intangible; moreover, it is a subject estimate. But in May 2011, Microsoft bought Skype for USD 8.5 billion. eBay was right to bet on the forecasts. It is, however, important to highlight the fact that, unfortunately, the amount of goodwill recognized as a result of mergers and acquisitions has become very, if not too, significant in relation to the total price of the deal especially since very few identifiable intangible assets can be recognized in the purchase price allocation process.
Can a brand be objectively valued?
If we consider that valuation based on future economic profits is far too subjective and that it should not be – and by the same means cannot be - recorded in the company’s balance sheet, the situation becomes delicate. This would mean – one example out of many - that SMEs with business models based on technological, digital and service innovation will not be able to translate their investments and wealth creation in accounting terms. Consequently, they have no means of accessing bank financing since their balance sheets turn out to be meaningless.
All sectors are impacted by the new intermediary mechanisms resulting from the digital transformation. Cloud-computing, big data, blockchain technology, among others, have reshuffled the deck where business transactions are concerned. If it remains debatable whether these transformations play a role in the process of recognizing intangible assets, it is nevertheless vital they be recognized in order to provide shareholders and investors with a fair image of company value.