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Tim Watts

"The Information Gap in the New Economy"

The Boston Globe

December 26, 2000

The heaving volatility of US stockmarkets in the past few months has led some doomsayers to hail the slow death of the New Economy, but they have it wrong.  Nasdaq’s violent swings are the result of a gaping hole in the information revolution and the pay-offs to the first companies to bridge this gap could be substantial. 

Silicon Valley may have transformed business communication by speeding up and widening the dispersal of information, but there has been no parallel improvement in the quality of that information.  This failure is especially apparent for investors trying to  value New Economy companies.

Now, more than ever, corporate performance hinges on intangibles such as the creativity of R&D teams, the loyalty of customers, and the strength of strategic alliances and brand names, none of which is captured in the mandatory quarterly reports that companies release to investors.  These traditional financial accounts are relics of the industrial era when physical assets like buildings and machinery mattered most.  Only 22 percent of US investors find these financial statements "very useful" in gauging the value of companies, according to a 1999 survey conducted for PricewaterhouseCoopers. 

Starved for information, investors must rely on guesswork, rumors, and anything else they can get their hands on.  The result is a hyper-volatile stockmarket driven more by hype and mob psychology than business fundamentals. In 1999, when the market was booming, Alan Greenspan called this “irrational exuberance”.   At the end of 2000 investors are less exuberant but no more rational. 

Should we care if a few of the daytraders who made fortunes on tech stocks in 1999 have developed ulcers and seen their portfolios shrink a little?  Yes, because this ignorance-fueled volatility could snowball into an economy-wide recession.  Capital markets, when they work well, allocate society's productive resources to the firms that can most efficiently generate wealth.  But, without the means of differentiating between genuinely innovative companies and the also-rans, markets tend to go a little haywire.  Capital gets wasted on poorly run businesses, good companies are starved of the funds they need to grow, economic growth slows and living standards fall.

The obvious solution to the problem would be to just change the rules about what companies must disclose so investors are better informed about intangibles.  A taskforce of 42 finance experts convened by the influential Washington thinktank, the Brookings Institution, recently released a report recommending just that.

However as Baruck Lev, a professor of accounting and finance at New York University and a member of the taskforce explains: “This is not just a simple matter of getting the information out from within the organization into the public domain.  Most managers have no idea about the value of their own companies’ intangible assets.  Few have data on staff retention or training rates, for example, which have a direct link to the long term value of a business.  The disclosure issue is derivative of the core internal problem.”

There are good reasons why executives don't have this information.   First, it's costly to gather, and second, there is no widely accepted, verifiable system for measuring the value of intangibles.  We just don't know enough about which performance indicators produce wealth in the new economy. 

Brookings proposes that the US federal government fund the establishment of an intangibles data bank to enable researchers to collaborate with corporations to construct reliable and commonly accepted new standards we can use to assess the value of new economy businesses.

Though government has a role here, the crucial missing link is leadership and cooperation from within the business community. 

Evidence from Denmark and Sweden, where dozens of large technology and services companies regularly produce intangibles reports based on common standards, suggests that a concerted effort among senior executives in related industries can produce the quantitative, standardized metrics needed for tracking the role of intangibles in wealth production. 

America’s corporate elite may not be ready to confront their own inadequate understanding of intangible assets.  Many of the most successful executives at technology companies have reached their positions because of their expertise in generating excitement among investors.  When good information is scarce, the rewards go to those who can spin the greatest hype out of the least amount of concrete information. 

By contrast, unlocking the mysteries of intangibles will require methodical examination of business processes and may mean demolishing some of the sustaining myths of the information economy "miracle".  For many high-tech CEOs, blissful ignorance could well be hard to shake.

What could spark them into action?  The shift will come when a bright young executive realizes that if his or her company can effectively monitor and communicate the value of its intangible assets, it has a distinct competitive advantage in attracting capital.  Providing extra information on intangibles is an excellent way of differentiating your company from the mass of others competing for investor support. 

And, once one or two businesses break the ice, their competitors will very likely have to follow.   Skeptical investors simply won’t tolerate being kept in the dark about intangibles and will shift their capital accordingly.   The importance of these assets will then seem very tangible indeed.