How Can Integrated Balance Sheets Bring Intangible Assets onto the Books?

May 31, 2018 · 5 min read

By Cornis Van Der Lugt, Bill Baue and Ralph Thurm

“Our people are our greatest asset,” states Goldman Sachs with pride, in a statement echoed by innumerable other companies. One would expect a company’s “greatest asset” to figure prominently on its balance sheet. Strangely, human capital does not appear on Goldman Sachs’ latest balance sheet. Nor does it appear on the balance sheets of those innumerable other companies.

What’s the issue?

The role of human capital resources as “intangible assets” is only rising in importance in our increasingly service-based economies today — economies in which the service industries become the leading job creators (versus increasingly automating manufacturing and heavy industries). You may not be able to buy or own employees, but formalizing their recognition as assets will certainly move executive decision-makers and investors to pay closer attention to the working environment and development of employees. Human capital should be hedged by financial capital, not vice versa.

Why it’s important?

Debates on reporting integration in recent years have often highlighted the gap between book value and market value, including the role of intangible assets in making up this difference. While in the 1970’s some 80% of a company’s market value could be traced through to the tangible assets in the financial statements, by 2015 only around 13% of a company’s market value could be accounted for by its financial and physical assets, according to Ocean Tomo.

What is absent from the current-day balance sheet or Statement of Financial Position (in IFRS terms) may be more telling than what appears on it. Textbook accounting and corporate finance holds that the balance sheet presents two balanced sets of figures: on the one hand, there is resources provided (liabilities or debt and equity capital), and on the other hand, there is indication of how those resources have been used (assets, for example property, equipment, financial assets). But what if the listing on how resources have been used is incomplete? What if, for example, investment in employees is not reflected?

Furthermore, market value may be closely related to co-development and dependence on certain shared assets, such as relationships and reputation or a shared natural resource. These assets are also not reflected on the conventional Statement of Financial Position. Can one therefore conclude that the statement provides a faithful representation of the position of the reporting entity?

Evidently, the projected reality on a particular day as reflected by the balance sheet is decidedly unbalanced. As noted by Helen Slinger of Accounting for Sustainability (A4S) during an online public dialogue on our draft Accounting Blueprint earlier this year:

“Accounting is currently failing in presenting a true and fair view of the position and performance of companies, and this misrepresents companies’ ability to sustain themselves.”

How can you tackle it?

The Reporting 3.0 Blueprint for New Accounting took on the challenge and defined what a truly balanced and Comprehensive Statement of Financial Position may look like. It builds on the precedent of multilayered statements in financial accounting. It adds an additional layer to the conventional balance sheet, and inserts on its right-hand side the difference between book value and market value to arrive at a new grand total, namely Total Comprehensive Liabilities and Market Value of Owners Equity.

To balance things on the other side of the statement, the reporting entity is invited to list financial estimations of different resource assets, relative values that it believes fill the gap between book value and market value. This provides an opportunity for the reporting entity to disclose the estimated value of different own capitals (e.g. Human Capital and Intellectual Capital) and shared capitals (e.g. Social & Relationship Capital and Natural Capital) that are not reflected in the conventional part of its balance sheet.

This proposed expanded balance sheet provides the opportunity to bring intangible assets to book, and to illustrate to investors the relative importance of different capitals in determining the market value of enterprises (based on share price by 31 December, for example).

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Figure 1: Integrated Balance Sheet / Comprehensive Statement of Financial Position (Cornis Van Der Lugt, Accounting Blueprint, Reporting 3.0, 2018)

What will you have achieved?

This proposal, among others, presents the opportunity to finally put human capital on the balance sheet. This can build on the experience of pioneers such as Infosys in India, which since the 2000s has worked with human resources accounting to better understand the value of its employees.

As noted during our Reporting 3.0 Accounting Working Group (AWG) discussions by Zimkita Mabindla of the South African Institute of Chartered Accountants (SAICA), it remains puzzling that while international accountant standards (IASB) recognition criteria could be met for human capital (i.e. an entity can measure the value of its workforce, and prove future economic benefit associated with that cost), the value of the workforce is still not capitalised on the balance sheet. The Accounting Blueprint takes that step and suggests a way to experiment with a more complete statement of financial position.

And while the development of impact assessments and non-financial capital protocols in recent years have tended to focus on material flows or impacts during a specified period (e.g. 12 months), the Comprehensive Statement of Financial Position challenges you to also assess the outcomes of these, in the form of the status (stock, health) of different capitals or resources on a specified date.

So, when accounting for the health status of different capital stocks on a certain date, we refer to both internal and external resources or capitals, both own and shared (for example leased) resources of the enterprise. This implies also doing justice to external resources such as natural capitals and a healthy society that may be at risk. It connects with new approaches highlighted in Reporting 3.0’s Reporting, Data, and Integral Business Models Blueprints to consider sustainability thresholds and allocations for the use of vital capitals that a reporting enterprise may be highly dependent upon.

What question will we discuss next time?

How can Statements of Long-Term Risk and Opportunity help shift mindsets to Long-Termism?Please read part 18 here.

[Context of this series: This is part 17 of the Reporting 3.0 series that forms the basis of an Implementation Guide that summarizes the total value of Reporting 3.0 in implementing a future-ready sustainability strategy and disclosure approach, in line with the idea of a Green, Inclusive and Open Economy. By posting these articles here Reporting 3.0 seeks feedback in the writing process of the final document, to be released as Blueprint 5 at the 5th International Reporting 3.0 Conference in Amsterdam, The Netherlands, on June 12/13, hosted by KPMG, see]

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