A Better Estimate of Internally Generated Intangible Capital

Forthcoming, Management Science

54 Pages Posted: 7 Sep 2021 Last revised: 5 Apr 2024

See all articles by Aneel Iqbal

Aneel Iqbal

Thunderbird School of Global Management, Arizona State University

Shivaram Rajgopal

Columbia University - Columbia Business School, Accounting, Business Law & Taxation

Anup Srivastava

University of Calgary - Haskayne School of Business

Rong Zhao

University of Calgary

Date Written: August 1, 2023

Abstract

Internally developed intangibles are not included in reported assets under U.S. Generally Accepted Accounting Principles. The omission of this increasingly important class of assets reduces the usefulness and relevance of financial statement analysis, conducted with reported values of equity and assets. Recent studies overcome this deficiency by capitalizing research and development (R&D) expenses, to estimate the value of knowledge capital, and by capitalizing selling, general, and administrative (SG&A) expenses, to estimate the value of organization capital. Those two estimates are then added to reported values for financial statement analysis. For convenience, many studies rely on two rules of thumb and assume them to be equally applicable in all instances: (1) 30% of SG&A and 100% of R&D expenses are investments and (2) the useful life of SG&A and R&D investments is three and five years, respectively. We propose a more flexible approach, by estimating the capitalization and amortization parameters on an industry-year–specific basis. Our modified values of total assets and equity, inclusive of the value of capitalized intangibles, exhibit greater association with future returns and investments, compared with as-reported values and values estimated with uniform rules of thumb. We provide a better estimate of intangible capital for the consumers of financial statements.

Keywords: Intangibles, Book Value, Financial Statement Analysis, Valuation

JEL Classification: M21, M41

Suggested Citation

Iqbal, Aneel and Rajgopal, Shivaram and Srivastava, Anup and Zhao, Rong, A Better Estimate of Internally Generated Intangible Capital (August 1, 2023). Forthcoming, Management Science, Available at SSRN: https://ssrn.com/abstract=3917998 or http://dx.doi.org/10.2139/ssrn.3917998

Aneel Iqbal

Thunderbird School of Global Management, Arizona State University ( email )

One Global Place
401 North 1st Street
Phoenix, AZ 85004
United States

HOME PAGE: http://thunderbird.asu.edu/

Shivaram Rajgopal

Columbia University - Columbia Business School, Accounting, Business Law & Taxation ( email )

3022 Broadway
New York, NY 10027
United States

Anup Srivastava (Contact Author)

University of Calgary - Haskayne School of Business ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada

Rong Zhao

University of Calgary ( email )

2500 University Drive, NW
Calgary, Alberta T2N 1N4
Canada
403-220-2568 (Phone)
403-210-2217 (Fax)

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