©Suzanne Plunkett/Reuters

Untangling intangible assets

Assets you cannot touch lie behind successful innovations. What are they and how can policy make a difference?

How many people you know swear by their iPhone? Probably quite a few. Apple’s popular mobile telephone has become the standard-setter for virtually all smart phones today. The phone’s look and feel, innovative design and user-friendly interface, and clever marketing have made this phone the ubiquitous portable communication device of recent years.

Likewise, Apple’s iPad has combined these same characteristics to take a lead on what is becoming a fast growing market for tablet computers. What does Apple have that its competitors don’t?

A new report from the OECD suggests that the answer concerns less the tactile physical item itself than all the clever underlying stuff you cannot touch or carry home in your pocket. These “intangible assets” are often overlooked by policymakers, yet many firms such as Apple have intangible assets to thank for much of their success. The importance of intangibles, which were highlighted in the 2010 OECD Innovation Strategy, is now the focus of a new OECD paper on the sources of growth (see references). What do we know about these intangible assets and why should policymakers care?

In simple terms, intangible assets, sometimes referred to as knowledge assets or intellectual capital, are essentially assets which do not have a “physical or financial embodiment”. Yet, intangibles make up an increasing share of many companies’ total assets, particularly in more advanced countries. In fact, a 2005 study of 25 EU countries found that business investment in intangibles represented on average 6.8% of GDP, compared with an average of 9.9% in tangibles such as machinery, equipment and buildings. And in countries such as Finland, the UK and the US, investment in intangibles matches or actually outstrips investment in tangibles. Today, many knowledge-based companies possess relatively little tangible capital. For example, in early 2009 physical assets only made up about 5% of Google’s total worth.

One key intangible is design. Crucially, design does not just refer to visual appearance, style or fashion: it also relates to ease of use, aspects of functionality and customer experience. Consider a major transport firm such as Airbus, where spending on design helps to determine the competitiveness of aircraft by affecting, for instance, the choice of construction materials, fuel consumption and seating plans. Good design helps explain the popularity of some Internet search engines over others, and the success of some social network sites.

Of course, stylish looks and physical attributes are important to innovation for a wide variety of businesses, including some traditional ones. Take Italy, where a furniture industry made up largely of small and medium-sized firms continues to thrive, thanks largely to comparative strengths in design. Customers around the globe eagerly pay top prices to show off distinctive Italian designs in their homes.

Firms are well aware of the value of this intangible asset. Indeed, one survey of businesses in the UK suggests that spending on design could significantly exceed spending on R&D.

Another vital intangible asset highlighted in the report is software, which can increase business and economic performance. The Internet itself is largely a product of innovations in software, and the most successful websites are frequently those that manage software most effectively. OECD research has shown that simply using software makes a positive contribution to growth and is instrumental in the evolution towards knowledge-based economies that depend on abstract analytical skills rather than manual dexterity. Software also plays other important roles, enabling global trade, facilitating and securing online transactions, driving telecommunications and protecting privacy online. 

It’s hardly surprising that software has become a mammoth focus of business investment. By the beginning of this century, US businesses invested about the same in software as they did in trucks, buses, ships, boats and railroad equipment combined.Perhaps less obvious are intangible assets such as inter-firm networks or personal data.

Online business and other networks are now widely recognised as key contributors to firm performance. Technology moves quickly, and firms need to keep up. This means being able to collaborate with a vast range of potential partners, be they from government, law firms, PR agencies or even competing firms.

Networks grease the wheels of business and help entire economies to make progress. They can help identify opportunities, access resources and support enterprise management. One study shows that networks that include firms of all sizes can help smaller businesses reach international markets more quickly and at lower cost and risk.

The explosive growth of digital technologies such as mobile networks and cloud computing has created vast amounts of public and private information, or “big data”. Personal data is being analysed, re-deployed, shared and sold around the world and around the clock. Who hasn’t registered online to make a purchase, access a service or join a group? By asking us to provide data such as our names, ages, countries of residence, birthdates, and so on, huge collections of data can be pooled together that are invaluable for myriad uses, including market research, marketing and product development.

Store loyalty cards are one example, which customers are often enticed to use through special discounts or rewards. In turn, the retailer gains a wealth of information about its customers’ purchasing habits. These can be combined with the cardholder’s personal information, submitted when the card was first acquired, to hone selling and marketing techniques. One year after introducing such a card scheme, Tesco, the UK supermarket chain, found that members were spending 28% more at their stores and 16% less in arch-rival Sainsbury’s. Such customer profiling ideas are now being used in marketing on online social networks.

The rise of intangible assets is likely to continue, but not all countries have been able to unleash innovation at the same rate or come up with the productivity boost that intangibles can bring. What role could public policy play?

The possibilities cover quite a broad range. For a start, human capital is at the heart of the intangibles agenda. So governments must remain attentive to their education and training policies, especially in universities and vocational training institutions, making sure that courses and study programmes reflect the multidisciplinary and evolving skills needs of innovative businesses. For instance, benefits could arise when engineers have a good grasp of design principles, and designers have a basic understanding of the technical needs of engineers.

Beyond the classroom, it is always important for governments to make sure regimes are in place to protect intellectual property effectively, but this is particularly the case for investments in design and software, where ideas are all too easily stolen.

 In the past, research from government laboratories played a role in sparking important innovations in the software sector: indeed, the Internet browser was born in a government lab. But today’s software industry has matured to such a degree that it is less clear whether such a public lead is still necessary.

Perhaps more important is for governments to provide the conditions for investment to flourish, such as encouraging venture capital, which remains important for many innovative firms that use intangible assets intensively. In the meantime, government services that traditionally support access to technology and scientific advice for innovating firms could be expanded to provide useful information on marketing, design and the arts.

There are other policy settings that could be adjusted too, such as those governing privacy to help firms extract more value from data, in healthcare, for instance. However, as ongoing work at the OECD shows, these public policy issues are inherently sensitive and difficult to get right.

Governments in a number of OECD countries have invested public resources to help foster a wide variety of inter-firm networks, often focusing on small and medium-sized businesses. For example, one Danish programme has aimed to help smaller firms compete on a more equal footing with larger ones. Nevertheless, a frequent experience of publicly-supported network programmes is that as government support wanes, private sector participation often declines. So governments need to work closely with businesses in the design of such schemes, as firms themselves are usually better placed than governments to identify opportunities for inter-firm networking and to assess just how valuable those collaborations might be.

A number of complex policy questions remain to be fully resolved, including reforms to how companies report their investments in intangibles, as well as issues relating to the tax treatment of intangibles, which can promote or discourage investment in R&D, affect how intangibles are used, and affect how they are traded. These and other challenges are currently being taken up by the OECD. Progress in all these areas will do much to encourage companies to invest in intangible assets and spur the type of innovation that increasingly drives growth in today’s economies. By focusing on what makes intangibles tick, policymakers could help more companies like Apple to break through and make a positive difference for the wider economy.

RT

For more information on OECD work on intangibles, contact Alistair.Nolan@OECD.org

References

OECD (2010), The OECD Innovation Strategy: Getting a Head Start on Tomorrow, Paris.

OECD (2011), “New Sources of Growth: Intangible Assets, Preliminary evidence and policy issues”. www.oecd.org/innovation/strategy

Pilat Dirk, Andrew Wyckoff (2010), “Innovation: Sensible strategies for sustainable recoveries”, in OECD Observer No 279 Paris, May.

Tilford, Simon and Philip Whyte, eds. (2011), Innovation: How Europe can take off, Centre for European Reform, London  

 ©OECD Observer No 285 Q2 2011




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