Increasingly today, the assets of the new economy take the form of intellectual property. Unfortunately, despite the importance of these new assets to bottom-line profits, little of this potential gets represented accurately in financial statements, resulting very often in significant undervaluation of companies large and small.
Yet, just how does a growing plastics company accurately reflect the value of its intellectual property assets and maximize equity value for shareholders? By employing relatively recent interpretations of the Generally Accepted Accounting Principals, a business can significantly increase worth on paper.
The following steps can help:
Understand the different types of intellectual assets. Take an inventory of the company's initiatives to create software products, hardware products, brand-name imagery and marketing infrastructure that will be used for future economic benefit. Bring everything to the attention of your IP authority, including copyrights, trade secrets, proprietary formulas, patents and trademarks.
Carefully categorize how you will handle each asset: capitalize or expense. Each decision can carry significant risks if not based on up-to-date accounting practices. For example, financial accounting standard 86 specifically requires the capitalization of software development costs, once technical feasibility is established. Most companies usually write off those expenses.
Accurately quantify your capitalized intellectual assets. Analyze each asset to determine how long it will provide future economic benefit. This process isn't easy. Brash overconfidence risks putting your organization in confrontation with the Securities and Exchange Commission and the Internal Revenue Service. On the other hand, timidness can hamper your efforts to obtain necessary venture capital or loans to expand your business.
The financial records of an organization should, therefore, be thoroughly examined to determine a realistic depreciation or amortization schedule for each asset category. Only the actual costs of assets may be capitalized.
Draft amended financial statements to reflect the changes. Ideally, this should be performed for the previous three years. Any changes in the company's financial statements must be reflected as a note to the financial statements. That provides full disclosure to readers, be they venture capitalists, potential lenders or current shareholders.
Always advise any external auditor of the change in policy. The auditor will need to review the schedules and the note to determine whether there are any other necessary disclosures required and to determine whether the changes are material.
Continue these policies well into the future. You must go back every year to document that each asset is still performing. If yes, keep it. If not, write it off and be done with it.
Equally important for providing continuity, any new accounting and financial staff should be trained in the entire valuation and capitalization procedure. Consistency is important in defending your figures.
Batty is a member of the senior management team at Beckett & Beckett Inc., a commercialization and branding consultancy in Los Angeles.