April 2010 Archives

As intellectual capital has become a valuable asset class, firms specializing in intangible-based financing are springing up, using them to raise capital for the next round of innovation. But unlike some of the exotic financial vehicles, these new firms are using traditional financial techniques in new ways to help innovative companies. Some of those new mechanisms for intangible-based financing are discussed in a new article by Ian Ellis and Kenan Patrick Jarboe "Intangible Assets in Capital Markets".

Published in the May/June issue of IAM Magazine (subscription required -- free trials available via registration), the material is take from our report Maximizing Intellectual Property and Intangible Assets: Case Studies in Intangible Asset Finance by Ian Ellis.

And see also our earlier paper in Issues in Science and Technology "Intangible Assets: Innovative Financing for Innovation".

Regardless of what you think about Wall Street and financial reform, there is one thing that has come out of the latest Goldman story: that intangibles matter. In fact, Steven Pearlstein's comment today (Two planets collide for three hearings on Goldman) nailed it perfectly:

What we learned on Tuesday is that when Goldman Sachs lends its good name to a new offering and sends its vaunted sales force out to peddle it to some teachers' retirement fund in Omaha or a savings bank in Bavaria, it doesn't actually mean that Goldman thinks people should buy it.

In fact, there's a good possibility that Goldman knows it's a dog, or suspects that the market is about to tank, and has already lined up a big customer who wants to short the entire issue. And as Goldman sees it, the firm has no legal or ethical obligation to inform those buyers of its views or its conflicting interests.

There was a time when issuers would pay a premium to have Goldman Sachs underwrite their securities, just as there was a time when investors would pay a premium to buy into a Goldman-sponsored offering.

Today, Goldman has fully monetized the value of its reputation, and anyone who pays such a premium is a fool.

From Jack Healy's column in the Massachusetts MEP newsletter Sales and Marketing: Manufacturing's Biggest Deficit:

Ask any manufacturer on how they would rate their respective manufacturing operations, on a scale of 1 -10, with the number one being very bad, and ten being very good? Most responses that we have experienced to this question have been in the 7 to 9 range and indicates how these manufacturers perceive their manufacturing capabilities.
Similarly ask the same group of manufacturers (or yourself) on how they would rate their respective sales and marketing organizations, using this same evaluation scale of 1 to 10. And responses to this question usually draw poorer evaluations - in the 3 to 5 range.

In other words, what manufacturers need is not just help with the manufacturing process but help managing their intangibles -- like marketing and customer relations.

To their credit, MassMEP is offering assistance in this area including an upcoming workshop to help companies:

"• Create Basic Foundations for your Sales and Marketing Strategy
• Better understand your clients
• Articulate the value of your product and your customer
• Determine if you have the right product and/or services
• Target the right markets
• Develop a structure that enables your business to grow
• Innovation impacts your company and be introduced to the MassMEP Growth Strategy Development Program"

This is the stuff MEPs should be doing. But they need to be doing more. The Administration's budget calls for doubling the MEP budget. But, as we argued in our Policy Brief--Intellectual Capital and Revitalizing Manufacturing, the scope of this assistance to manufacturers needs to be expanded to include innovation, new product development, and utilization of intellectual capital. Manufacturing companies have a wealth of intellectual capital that they often do not recognize or manage well. MEP services must include intellectual resource management that covers a broad array of assets, beyond help with intellectual property. The program's budget increase should be used to expand services and staffing in areas such as marketing, finance, and business model development, in addition to new product development and process adoption. The MassMEP programs are a good first step in this direction.

For years, many have been making the case that corporations need to do a better job on financial reporting, including on intangibles. In part, the concern comes from the fact that company book value and market value are so widely disparate -- and that account rules don't cover intangible assets. Accounting for intangibles (i.e. adding them to companies' books) has been either the holy grail or the chimera of financial reporting.

I have long stressed the need for better measurement -- of intangible and of innovation. In our report Reporting Intangibles: A Hard Look at Improving Business Information in the US, I called for FASB and IASB to confront the disparity in treatment of acquired versus internally generated intangibles and for the need to address the issue of expensing R&D. But in general, I came down on the side of increased disclosure rather than attempting to add everything to the balance sheet. As I said back then, even if all the accounting problems can be fixed, there is too much important data and information that can never be reduced to an accounting valuation.

I also noted that there were efforts underway to create a more comprehensive framework for expanded business reporting, but no consensus. Now Robert G. Eccles and Michael P. Krzus have a new book out on One Report: Better Strategy through Integrated Reporting. The "One Report" would be a compilation of financial and non-financial information that could then use Internet technology and Extensible Business Reporting Language (XBRL) to provide more specific information to relevant stakeholders. It also seeks to tie non-financial and financial metrics to overall company goals and performance. As the authors describe it, there are four primary benefits to companies:

1. Greater clarity about the relationship between financial and nonfinancial key performance indicators. This will help managers understand and confront the trade-offs necessary to balance financial and societal demands.
2. Better management decisions. As noted by the creators of the Balanced Scorecard, HBS professor Robert S. Kaplan and David P. Norton, there is compelling evidence that better measurement, and therefore better information, leads to better decision-making.
3. Deeper engagement with the broad stakeholder community. First, it will help shareholders focus on more than short-term returns and better understand the investments necessary to ensure long-term viability. Second, other stakeholders will begin to appreciate the need for a company to make a profit if it is to create value over the long term.
4. Lower reputational risk resulting from integrated reporting. Stakeholder engagement leads to better mutual understanding. Clear and consistent communications about a company's financial and nonfinancial performance will be the basis for a constructive two-way conversation.

Both Eccles and Krzus are veterans of the efforts to improve corporate reporting. We will have to see if this latest effort can help move the ball forward.

BusinessWeek has published its The 50 Most Innovative Companies. Apple continues as number one. But, the big story is the rise of Asia:

In the 2010 Bloomberg BusinessWeek annual rankings of Most Innovative Companies, 15 of the Top 50 are Asian--up from just five in 2006. In fact, for the first time since the rankings began in 2005, the majority of corporations in the Top 25 are based outside the U.S. Asia's newfound confidence is turning up everywhere you look, from wind turbines to high-speed bullet trains, just two of the technologies China is trying to export to the U.S. "We are the most advanced in many fields," Zheng Jian, director of high-speed rail at China's railway ministry, told The New York Times in April. "And we are willing to share with the U.S." The U.S., of course, still has its innovators. Apple (AAPL) remains No. 1, followed by perennial first runner-up Google (GOOG). But just ahead of General Electric (GE) in seventh and eighth places are newcomers LG Electronics of South Korea and BYD, with Korea's Hyundai Motor claiming a spot at 22.

So, tell me again how the US will be OK as the "thinkers" while Asia are the "makers"?

And one more item on patents. The Commerce Department recently published a new paper on patent reform:

Stimulating economic growth and creating high-paying jobs are key priorities for the Obama Administration. This paper provides data demonstrating that technological innovation is a key driver of a pro-growth, job-creating agenda. It further demonstrates that patent reform legislation, by accelerating the pace of growth and of job creation, will be a powerful and deficit-neutral mechanism for expanding America's ability to innovate.
• Technological innovation is linked to three-quarters of the Nation's post-WW II growth rate. Two innovation-linked factors - capital investment and increased efficiency - represent 2.5 percentage points of the 3.4% average annual growth rate achieved since the 1940's.
• Innovation produces high-paying jobs. Average compensation per employee in innovation intensive sectors increased 50% between 1990 and 2007 - nearly two and one-half times the national average.
• Highly innovative firms rely heavily on timely patents to attract venture capital -- 76% of startup managers report that VC investors consider patents when making funding decisions.
• Delay in the granting of rights has substantial costs. Recent reports conclude that the U.S. backlog (currently at 750,000 applications) could ultimately cost the U.S. economy billions of dollars annually in "foregone innovation."
• The fee-setting authority patent reform gives to the USPTO will contribute significantly to the agency's planned 40% reduction in patent pendency.
• The enhanced post-grant review provided by patent reform will substantially reduce the need for inefficient court challenges. The cost of such proceedings is expected to be 50-100 times less expensive than litigation and could yield $8 to $15 in consumer benefit for every $1 invested.

The piece is the Administration's shot at supporting pending legislation. That legislation may be coming to the Senate floor in the near future. According to Tech Daily, Judiciary Chairman Patrick Leahy has asked the Senate leadership to schedule the patent reform bill for consideration right after the financial reform bill. The bill might get bumped however for a supplemental defense spending bill which some would like to get done before the Memorial Day break. But even if the patent bill gets put off until after the recess, it looks like things may be finally moving.

Joff Wild at the IAM blog has a posting on a new study on royalty reporting. The report It's Just Not Fair: Unintended and Unforeseen Interpretations of License Agreement Language by the IP consulting group Invotex claims that only 14% of royalties are correctly. As Joff goes on to explain:

In 50% of cases, Invotex says, the underreporting is caused by licensees not disclosing all sales connected to the licence, while in over 30% of cases, it results from what is described as "questionable licence interpretation". Other causes include non-disclosure of sub-licensing agreements, mathematical errors and royalty rate errors. So, it looks like there is a combination of honest mistakes and not-so-honest lack of candour. The bottom line is that all of it will have an impact on the licensor's bottom line - and in many cases potentially a very significant (and therefore damaging) one, especially if the licensor is an SME.

It also has an impact on our economic statistics. Even if the Invotex data is on the worst case side (as Joff points out Invotex is going to do all it can to highlight the potential problems since they are trying to drum up business), these figures are of concern. If a significant portion of sales connect to a license are not reported (which Invotex claims are the reasons for half of the underreporting), then our data on the size of the economic trade in royalties is also off.

I recently came across an OCED report from last December on The Emerging Patent Marketplace written by Tomoya Yanagisawa and Dominique Guellec. The paper covers some of the same ground as our two working papers: Intangible Asset Monetization: The Promise and the Reality and Maximizing Intellectual Property and Intangible Assets: Case Studies in Intangible Asset Finance. The studies start at a very different place, however. Whereas our papers come at the issue from the financing and financial markets perspective, the OECD paper starts from the rise of open innovation and the need for knowledge flows. From that perspective, the report sees the role of IP intermediaries -- brokers, analytic specialists, trading platforms, etc. -- as key. They also see public policy as playing an important, and balanced role:

In order to facilitate the circulation of IP and promote innovation, it will be very important that policy makers maintain the order of the IP markets by carefully prohibiting anti-innovative activities, in addition to encouraging the development of markets for IP and businesses of IP-specialist firms. Since the characteristics of each IP exploitation activity regarded as anti-innovative are varied and differ in each case, there doesn't seem to be a specific policy that can prohibit all anti-innovative patent exploitation activities. Therefore policy makers should develop comprehensive policies which include actions in various policy areas such as IP regime, competition and tax policy. In particular policy makers should explore ways of: enhancing transparency and predictability of IPR transactions (e.g. establishing a shared understanding of reasonable market prices by encouraging the disclosure of patent licensing and sales information); strengthening trust in technology transactions by securing the quality of patents; establishing properly tuned regulations against anti-innovative activities in IPR marketplaces (e.g. finding appropriate competition enforcement policies with respect to IPR transactions, and finding appropriate patent remedy policies).

As befits its title, the report is very IP-centric in it view. It does not look at whether patents are the best way of transferring knowledge. The OECD has a "knowledge markets" project underway to look at the broader range of knowledge diffusion mechanisms. I am looking forward to the findings of that broader inquiry.

Over at the New York Times Economix blog, Edward Glaeser has an interesting posting on cities and knowledge. The posting reviews an NBER conference proceedings (which Glaeser edited) on agglomeration economies. His bottom line:

Understanding the appeal of proximity -- the economic advantages of agglomeration -- helps make sense of the past and future of cities. If people still clustered together primarily to reduce the costs of moving manufactured goods, then cities would become increasingly irrelevant as transportation costs continue to decline.
If cities serve, as I believe, primarily, to connect people and enable them to learn from one another, than an increasingly information-intensive economy will only make urban density more valuable.

Other chapters reinforce that view. One is by Jed Kolko on services:

Mr. Kolko highlights a fundamental difference between manufacturing and services. For manufacturing firms it doesn't much matter if suppliers or customers are in the same ZIP code or the same state. Goods are cheap to move. But services seem tied to suppliers and customers that are in the same ZIP code. Since face-to-face contact is so much a part of service provision, they are drawn to the extreme densities of cities.

Another is by Glaeser and Giacomo Ponzetto on "Did the Death of Distance Hurt Detroit and Help New York?":

Improvements in transportation and communication costs made it cost-effective to manufacture in low-cost areas, which led to the decline of older industrial cities like Detroit. But those same changes also increased the returns to innovation, and the free flow of ideas in cities make them natural hubs of innovation. Since the death of distance increased the scope for new innovation, idea-intensive innovating cities were helped by the same forces that hurt goods-producing cities.

A few years ago I published a report on Knowledge Management as an Economic Development Strategy. In that paper I argued that clusters form because they are efficient knowledge management mechanisms. Clusters and agglomerations facilitate the transfer of tacit knowledge. So I agree with Glaeser that cities are likely to be more not less important in a knowledge intensive economy -- advances in communications and transportation notwithstanding.

And speaking of manufacturing (see yesterday's posting), the White House Office of Science and technology Policy (OSTP) has a new background paper on Advanced Manufacturing. Be warned however, this is not a overview policy piece but a detailed analysis of the technical and economic issues. For does interest in the gritty details, it is well worth the read.

The paper is part of OSTP's online manufacturing forum (which ends today). FYI -- see my posting under "strategy" which summarizes our Policy Brief--Intellectual Capital and Revitalizing Manufacturing.

Over at Andrew Hargadon's blog, GreenTech Media, he has posted an interesting take on the Valley of Death problem. The Valley of Death is usually seen as a financial issue: how to get funds to move from early stage research to later stage commercialization. Hargadon points out that the issue is not just lack of money. There may be very good reasons why the project does not attract funding -- it may lack other forms of capital:

In addition to financial capital, there are three other forms that at different times can be significantly more valuable: physical capital (the physical resources someone has already acquired and organized), intellectual capital (the knowledge and skills someone has acquired and organized), and social capital (someone's social network, or access to the capital "stocks" of others). [Note that we normally refer to all three of these as parts of intellectual capital.]
While a startup's balance sheet might clearly show where they stand with respect to their financial and physical capital, it does little to reveal their intellectual and social capital. And yet for companies to avoid their own untimely demise, they depend as much or more on knowledge, experience, and the ability to manage their company's fortunes -- and on their social networks to discover, guide, and acquire the critical resources they will need to succeed.

So the solution to the valley of death funding problem is not just more money -- but a careful look at all the forms of intellectual capital needed to make the project work. For this reason, I have been advocating programs to do more to help companies and entrepreneurs better manage their intellectual capital. Those services could be offered as part of SBA and EDA programs, built into business incubator programs, and be the core services of a specialized center, such as Glasgow's Intellectual Assets Centre and Hong Kong's Intellectual Capital Management Consultancy Programme. And, as I noted last week, that analysis and evaluation can be tied directly to the funding process -- as the Hong Kong center just announced.

One other point, Hargadon's comments were made in the context of green tech. As I noted earlier, the Department of Energy encourages applicants for the clean energy production loan to put up their IP as collateral. DOE is not necessarily looking to recoup funds by selling the IP if the loan goes bad. They what to control the IP and the technology if they have to step in and finish the project.

So the elements is understand the key role of intellectual capital are beginning to take shape. We need to push the process along.

Are you ready for "cloud manufacturing"? That is Tom Friedman's new term for the global supply chains and contract manufacturing in low cost countries. In a recent column, he hails the ability of new US start-ups to utilize cloud manufacturing to quickly bring a product to market. Taken as a example of business success, that may be a good thing. Unfortunately, Friedman misses a bigger issue and continues to fall in the trap of thinking the US can survive on only a part of the value chain:

What's in it for America? As long as the venture money, core innovation and the key management comes from here -- a lot. If EndoStim works out, its tiny headquarters in St. Louis will grow much larger. St. Louis is where the best jobs -- top management, marketing, design -- and shareholders will be, said Hogg.

In other words, we don't need manufacturing in the US, we can survive as executives. Again, possibly a workable strategy for a company; not a way to create a healthy and sustainable economy for a country.

A more realistic view come from the special report on innovation in The Economist: The World Turned Upside Down. It is clear from this report that the international division of labor implied in Friedman's piece (we do the thinking; they do the making) will not save the US economy. First of all, the "developing" world is not interested in staying in its place -- they want to and are actively working on moving up the supply chain. As the lead into to the special report says, "The emerging world, long a source of cheap labour, now rivals the rich countries for business innovation."

Second, value added and knowledge intensive activity can be found everywhere on the value chain -- including manufacturing. As I have noted before, it is important to have manufacturing nearby in many innovation-driven activities. Manufacturing itself can be a source of innovative competitive advantage. Rather than secede manufacturing to the other nations (under some nice sounding phrase like "cloud manufacturing"), we need to make sure that startup companies can find the manufacturing resources close by. That will help the companies with the ability to continually improve the product and the process -- something that the outsourcing to the "cloud" makes difficult. It will also help companies better manage their supply chain - which the recent grounding of air traffic has shown can be vulnerable.

Strengthen manufacturing in the US will require that we recognize that manufacturing is already an intellectual capital intense activity. As our recent Policy Brief--Intellectual Capital and Revitalizing Manufacturing outlines, there are many steps we can take in that regard.

But the first and foremost we need to remember that manufacturing matters. All else follows.

Thanks to Joff Wild over at the IAM blog for a heads up on a new report: The silver bullet of success: Winners and losers in the M&A game. The report, by the consulting company the Hay Group, surveyed corporate executives on M&A activities and intangibles. Their findings should not surprise any regular reader of this blog: "Companies that reviewed intangibles during due diligence are more than twice as likely to consider their merger a success compared with those who did not."

The good news is that a majority of the executives get it: "Two thirds of respondents (66 per cent) believe an increased focus on intangible capital would improve merger success."

The bad news is that they don't know how to do this: "Most business leaders (61 per cent) plan to increase their focus on intangibles but need guidance on how to capture data about intangible capital during M&As." This shows the need for intangible asset /intellectual capital management services for both ongoing businesses and for M&A analysis (which is probably the point this consulting company is trying to make with this report in the first place).

I do have a concern with the report on the data on valuation. The study finds that "executives typically value intangible capital - including culture and customer relationships - at just 30 per cent of market capitalization." They compare this to the figure used by some of intangibles as 75% of market capitalization. They then assert that this proves that executives are undervaluing intangibles. It may however prove the opposite. I have always been skeptical of the 75% numbers. That was generated in the height of the stock bubbles, so I've never been sure how much is real intangible wealth and how much was market froth. The 30% estimate seems low to me, but it may be one of the closest numbers we have to actual market data. This is an area for further work.

I have one other quibble with the study. I cringe at the hype about intangibles being the "silver bullet" in M&A. Of course, as I acknowledged above, this report is a sales tool for the consulting. Therefore the hype is to be somewhat expected. However, my concern is that sets up intangibles as the fall guy for any failed deal -- any executive can simply say the deal failed because "insufficient attention to intangibles", rather than the fact that the deal might have been a stupid idea in the first place.

A standard problem with intangibles is that some define it as such a broad category that it includes everything -- which means for analytical purposes it is nothing. In fairness to the report's authors, they use the intellectual capital framework of organizational, relationship and human capital, so there is an analytical backstop to their claims. But we should be careful to not over hype intangibles -- making them into a meaningless concept.

Here is an interesting tidbit from the New York Time Economix blog -- One Reason U.S. Health Care Costs So Much. The blog has a chart by Harvard economics Professor David Cutler:

As the blog puts it:

The takeaway: For every doctor, there are five people performing health care administrative support.

An eye-catching statistic -- one sure to be bandied about in debates as evidence of excessive overhead. But misleading at best.

If you look at chart, you also see a large number of nurses. According to the data from the BLS, 43.8% of health care workers are in the service delivery area, which includes nurses, doctors, social workers, paramedics, clinical laboratory technicians, etc. Only 17.7% are in office and administrative support and 4.3% in management/financial.

So yes, there is a 5 to 1 ratio of doctors to support administrative support staff. But doctors are only a small part of the health care delivery system -- 3.6% of total employment. There is a huge number of other health care professionals, especially nurses. In fact there is a 5 to 1 ratio of doctors to nurses as well.

There are inefficiencies in the health care system. But this is unclear from the occupation data. The 17.7% office and administrative support is high but not unusually high. 15% of workers in auto dealerships are office and administrative support. The number is 9.6% in computer and electronics production companies. But in computer companies, 16.2% of employment is in management/financial whereas only 4.3% of health care employment is management/financial. By this measure, one of the most efficient operations are food service and drinking places, where only 2.4% of employment is in management/financial while 91.3% are in direct service delivery.

What really troubles me about this posting, however, is the underlying assumption that only the high-end workers -- physicians and surgeons -- count in the worker to support ratio. I'm sure the author did not mean to down play the role of nurses. But that comment on the 5 to 1 ratio does just that.

Unfortunately, this is an all too common occurrence. We talk about "high-tech" as if only it matters and non-tech activities and innovation are meaningless. That is an attitude we need to resist. In a knowledge economy, all levels of skills and knowledge matter -- and all forms of innovation are important.

In an earlier posting, I discussed the US-Brazil cotton dispute, where Brazil was given the right to suspend intellectual property rights in retaliation for US cotton subsidies. From last week's the New York Times comes this update -- U.S. and Brazil Reach Agreement on Cotton Dispute:

Under the preliminary deal, Brazil would hold off on retaliation in exchange for American concessions that include the modification of an export loan program and the establishment of a temporary assistance fund for the Brazilian cotton industry. The broader issues in contention would be deferred until Congress takes up the next farm bill, most likely in 2012.

Some thought the suspension of intellectual property right as inappropriate. Interestingly, at least one free-trader defended this tactic:

"Traditionally, retaliation in trade has been the preserve of the largest developed countries, which have market power," said Robert Z. Lawrence, a professor of international trade and finance at the Harvard Kennedy School. "But this mechanism -- suspending intellectual property protection -- gives smaller, developing countries a way to enforce their rights under trade rules."

BEA's February's trade data showed an increase in our deficit increasing by $2.7 billion to $39.7 billion. Imports increased by $3.0 billion while exports rose only $0.3 billion. This month we couldn't blame the increased deficit on oil imports, as the petroleum trade deficit remained basically the same as in January (see chart below). The real culprit was the stagnation of exports in the face of rising imports. That, unfortunately, sounds more like the "old normal" than the "new normal" we are supposedly headed toward.

That negative trend extended to our trade in intangibles -- where the surplus declined slightly. Most of that decline was due to a rise in outgoing royalty payments (imports). Incoming royalty payments also rose, but only slightly. Exports of private services increased and the imports of private services actually decreased slightly.

Our deficit in Advanced Technology Products also increased slightly in February as exports declined faster than imports. The exception was for opto-electronics and weapons where exports and imports both rose. The last monthly surplus in Advanced Technology Products was in June 2002 and the last sustained series of monthly surpluses were in the first half of 2001.



Note: we define trade in intangibles as the sum of "royalties and license fees" and "other private services". The BEA/Census Bureau definitions of those categories are as follows: Royalties and License Fees - Transactions with foreign residents involving intangible assets and proprietary rights, such as the use of patents, techniques, processes, formulas, designs, know-how, trademarks, copyrights, franchises, and manufacturing rights. The term "royalties" generally refers to payments for the utilization of copyrights or trademarks, and the term "license fees" generally refers to payments for the use of patents or industrial processes. Other Private Services - Transactions with affiliated foreigners, for which no identification by type is available, and of transactions with unaffiliated foreigners. (The term "affiliated" refers to a direct investment relationship, which exists when a U.S. person has ownership or control, directly or indirectly, of 10 percent or more of a foreign business enterprise's voting securities or the equivalent, or when a foreign person has a similar interest in a U.S. enterprise.) Transactions with unaffiliated foreigners consist of education services; financial services (includes commissions and other transactions fees associated with the purchase and sale of securities and noninterest income of banks, and excludes investment income); insurance services; telecommunications services (includes transmission services and value-added services); and business, professional, and technical services. Included in the last group are advertising services; computer and data processing services; database and other information services; research, development, and testing services; management, consulting, and public relations services; legal services; construction, engineering, architectural, and mining services; industrial engineering services; installation, maintenance, and repair of equipment; and other services, including medical services and film and tape rentals.

In an earlier posting, I mentioned Hong Kong's new Intellectual Capital Management Consultancy Programme. Run by the Intellectual Property Department, the Innovation and Technology Commission and the Trade and Industry Department, the Consultancy Programme provides a free service to businesses, especially SMEs, to help them understand and manage their intellectual capital (IC). The service works with the company to identify and assess their and create a simple IC report. The service also covers intellectual property policies and procedures.

Last month, they announced a new partnership with Hong Kong banks to use those IC reports in lending decisions. The five Partnering Lending Institutions (PLIs) are the Bank of China (Hong Kong) Limited, Chong Hing Bank Limited, Citi Commercial Bank, Hang Seng Bank Limited, and the Bank of East Asia Limited. As the announcement notes:

The banks will offer more favourable financial and/or service privileges to successful business loan applicants who have prepared their own intellectual capital reports.

This is the first time I know of that banks will systematically recognize the information from IC reports in their lending decisions. While the banks will still require the standard documentation and conduct the normal credit assessment, this could be a major breakthrough in how intellectual capital and intangible assets are handled on a routine basis. Our earlier report (Maximizing Intellectual Property and Intangible Assets: Case Studies in Intangible Asset Finance ) described how some financial institutions utilize intellectual property in the financing decision. But those were essentially hand crafted deals. The Hong Kong program has the potential to create the much needed standardization in the process.

Something we need to keep an eye on -- and learn from.

Here is the latest way that companies -- in this case specifically the big banks -- can legally cook the books. From the Wall Street Journal:

Major banks have masked their risk levels in the past five quarters by temporarily lowering their debt just before reporting it to the public, according to data from the Federal Reserve Bank of New York.
A group of 18 banks--which includes Goldman Sachs Group Inc., Morgan Stanley, J.P. Morgan Chase & Co., Bank of America Corp. and Citigroup Inc.--understated the debt levels used to fund securities trades by lowering them an average of 42% at the end of each of the past five quarterly periods, the data show. The banks, which publicly release debt data each quarter, then boosted the debt levels in the middle of successive quarters.

Why does this not surprise me? It is becoming clearer and clearer that even in the post-Enron SOX era, playing accounting games (or as the bank spokesperson called it "managing the balance sheet") is still a standard practice.

Of course it is. Why shouldn't it be when the balance sheet is almost a meaningless piece of paper that does not include a companies' most important assets. I'm speaking, of course, of that huge portion of the value of a company that is made up of intangible assets.

There are a lot of reasons for these accounting games. Chief among them is the quite understandable attempt by management to paint the best possible picture for investors -- especially those with a millisecond investment horizon. These are also the same investors who really don't care about a company's intangibles assets - because intangibles are the basis for the future of the company and these investors' definition of the future does not go beyond today.

There is some hope, however. Companies are finding that communicating with investors about their intangibles assets can pay off.

But much more needs to be done to push this trend along. What we need is a three pronged approach:
  • Policies to promote a longer term investment horizon and discourage short-termism.
  • Greater disclosure of important information - especially on intangible assets.
  • A crack down on game-playing through stricter regulations and better enforcement.

The currently pending legislation on financial reform may be a good place to start with some of this. But the changes do beyond the scope of that bill - and includes tax changes and accounting changes. Once the financial reform bills are passed, there will be a tendency to forget about the issue. We must avoid that temptation and continue to press for broader changes which will help bring of financial and accounting system into the 21st Century.

There was an interesting story in today's New York Times entitled China Again Hopes to Drive U.S. Rail Construction:

Nearly 150 years after American railroads brought in thousands of Chinese laborers to build rail lines across the West, China is poised once again to play a role in American rail construction. But this time, it would be an entirely different role: supplying the technology, equipment and engineers to build high-speed rail lines.

Specifically, Chinese companies have signed an agreement with California and GE to build the system using Chinese technology and Chinese banks would finance it.

This raises the question if the United States is smart enough to learn from the Chinese -- both on technology and economic policy. The US has not been in the high-speed rail industry for years. The fact that GE is a partner in this may make it possible to get back in the game. As the story points out:

The railways ministry has concluded a framework agreement to license its technology to G.E., which is a world leader in diesel locomotives but has little experience with the electric locomotives needed for high speeds.
According to G.E., the agreement calls for at least 80 percent of the components of any locomotives and system control gear to come from American suppliers, and labor-intensive final assembly would be done in the United States for the American market. China would license its technology and supply engineers as well as up to 20 percent of the components.

This sound similar to the type of agreements that US companies sign in China. The Chinese have successfully used this policy of importing technology for decades. As a recent "Schumpeter" column in the Economist notes:

The [ruling Communist] party regards foreign investment as a mechanism for acquiring foreign know-how rather than just jobs and capital; hence the insistence on joint ventures.

In other words, the Chinese have based their economic policy on fostering their intangibles assets - not simply neo-classical theories of consumer welfare.

So, can we do the same? The conditions set down in the deal are important: technology transfer to US companies; use of US labor; and use of US suppliers. They need to be looked at very carefully before the deal is signed. Are they really structured in a way to promote the growth of an American-based industry in this field? Or are they structured in a way that simply give the US the low value-added part of the project - with no future benefit? In addition, any other potential supplier mentioned in the story -- Japan, Germany, South Korea, Spain, France and Italy -- should be subject to the same analysis: who will give us the best deal for building up the industrial and technological base here at home.

The US has the opportunity to act strategically in its technology policy -- the way China and other countries have been doing for years. Let's hope the policymakers in California and elsewhere are smart enough to recognize the opportunity.

As the U.S. economy evolves, intangible asset investments are becoming vital to economic growth and sustainability. But, as our new paper "Intangible Assets: Innovative Financing for Innovation" outlines, intangible assets can also be the source of financial capital. As industry has invested capital in research and development (R&D) to create new technology and advance other creative activities, a niche market of firms specializing in intangibles-based financing is springing up. Some intangible assets--traditional IP consisting of patents, trademarks, and copyrights--have been used in sale, leasing, equity, equity-debt, debt, and sale-leaseback transactions to finance the next round of innovation.

The paper outlines a number of public policy actions that can be taken to foster the use of intangible asset financing. These include streamlining the technology transfer process, developing underwriting standards to cover the use of intangible assets as collateral and making financial statements more transparent with respect to intangible assets.

The deals that have been done demonstrate that IP and other intangibles are viable assets to secure capital. Unlike other "exotic" financing vehicles, however, intangible-asset financial products are built on some of the most basic financing mechanisms. Far from exotic, they use traditional techniques in new ways to help companies innovate and grow. As the paper shows, there is plenty of opportunity to harness the power of intangibles.

The paper is a summary of our two reports: Intangible Asset Monetization: The Promise and the Reality and Maximizing Intellectual Property and Intangible Assets: Case Studies in Intangible Asset Finance.

Published in the Winter issue of Issues in Science and Technology, the paper is also available on the Issues website.

A while back, Athena Alliance helped organize a conference entitled The Dragon and the Elephant: Understanding the Developing Innovation Capacity in China and India with the National Academies' Board on Science, Technology and Economic Policy, the State University of New York Levin Graduate Institute, Woodrow Wilson International Center for Scholars and the Urban Institute. The conference compared and contrasted the 2 countries' growing science and technology capacity, broadly and in key industrial sectors such as software, pharmaceuticals, and telecommunications, and energy. The conference report has now been issued:




Presentations are also available.

Yesterday's LA Times had an op-ed entitled "Work-sharing could work for us." What was unusual is that it was co-authored by two people from opposite ends of the political spectrum: Dean Baker of the Center for Economic and Policy Research and Kevin Hassett at the American Enterprise Institute. The idea has generally been seen as a favorite of the left - Paul Krugman came out in favor of the idea last November. So this latest pairing is politically important.

As a reminder, the idea behind job-sharing or work-sharing is that people work less hours (thereby creating work for more people) and the government helps pick up the cost so wages don't fall. But as I've noted before, the program need to have one important improvement: training. Rather than simply reduce workers hours, we should use those "free" hours for training. So a worker might be on the job 10 fewer hours a week (to use the Baker/Hassett number of a 20% cut in hours), but will be in either on-the-job training or classroom training for at least part of that time.

This would have the dual effect: It would increase our human capital -- a major input to the innovation ecosystem. And it would immediately increase consumer demand as companies would use the funds to pay workers to take classes (thereby creating more employments slots for others to fill the working hours of those in the classes).

As I have said over and over again, rather than pay workers to stand in unemployment lines or stay at home, let's pay them to sit in a classroom.

As regular readers of this blog know, I track the monthly employment data for what I can the involuntary underemployed -- those workers who are part-time for economic reasons (see previous posting). I think this is a decent proxy for how the economy is underperforming.

But, here is an interesting bit of data concerning the voluntary underemployed.

The percentage of workers who are part time for non-economic reasons has been relatively stable for a long time. It rose steadily from about 6% of the labor force in 1955 to 11% by 1969. After that it fluctuated between 11 and 12% until 1994 when it jumped to about 13% -- mostly because of measurement changes. And then it was basically flat at around 13% until the early part of 2007. Since March 2007, it has steadily declined -- to 11.7% in March 2010.




So why would the percentage of voluntary part time workers, which had been steady for almost 30 years, begin to decline? One obvious answer is the Great Recession - as people dropped out of the labor force because competition for part time jobs increased. As the charts below shows, the total number of part time jobs (voluntary and involuntary) and the percentage of labor force in part time jobs both spiked in the Great Recession. So as former full time workers flooded into the part time job market, those who were only interested in part time work (such as collage students) dropped out completely. Not a good sign of a health economy.

This morning's news from the BLS on employment was good news: payrolls were up by 162,000. So the economy is finally adding jobs rather than losing them. However, the not-so-good news is that 48,000 of those jobs were temporary government jobs: census workers. And the job growth was less than economist predicted. According the Wall Street Journal, "Economists polled by Dow Jones Newswires were expecting payrolls to rise by an even higher 200,000." As the New York Times notes:

The economy must create 100,000 jobs each month just to absorb new entrants into the labor force, according to many projections. That sustained level of growth may not come until later this year, economists said, making pervasive unemployment a virtual certainty for some time to come.

However, the really bad news is that number of involuntary underemployed (part time for economic reasons) increased dramatically in March after stabilizing at the end of last year. This could be a function of more people returning to the labor force. But I really would like to see the involuntary underemployed number start going down -- that would be a real sign of recovery.