Australian executives losing faith in traditional valuation methods when it comes to maximizing value

Business Valuation

Eighty-two percent of senior executives believe that traditional valuation methods can no longer be relied upon to capture a company’s true worth, as corporate value becomes increasingly driven by intangible assets. This is according to a poll of 135 Australian senior C-suite executives taken during a series of recent events in Sydney and Adelaide.

Today intangible assets (items such as data, content, software code, brands, confidential information, inventions, industrial know-how, and design rights) account for more than 87 percent of all company value, yet these assets are essentially ignored by current accounting standards.

According to a recent report from the UK Treasury, the world’s five most valuable companies are together worth £3.5 trillion, yet their balance sheets report just £172 billion of tangible assets. The other £3.3 trillion of value is missing in action, largely due to accounting standards such as GAAP and IFRS failing to keep pace with the move from the industrial age to a knowledge-based economy.

Michael Masterson, Managing Director – Australia & New Zealand at EverEdge, says “Conventional accounting standards have not evolved to effectively value intangible assets in the same way as tangible assets. The result is that traditional valuation methods (such as cost-based analysis or discounted cash flow (DCF)) that work for assets such as real estate or plant and equipment, either simply don’t work or are subject to major challenges when these approaches are applied to intangible assets.

“This has created a yawning chasm between company accounts and the earnings reports based on them, and the reality of what is really driving value, growth and risk within an organization. As Australia increasingly focuses on growing its knowledge-based exports, companies need to be extremely cautious of any valuation that draws primarily on conventional (tangible or fixed asset) methodologies as there is a high probability that the valuation could be out by several orders of magnitude (10x > 1000x), thereby leaving considerable money on the table.

“For Australian companies looking to raise capital or work towards as exit strategy, it is important that they ensure that not only is their valuation grounded in some form of numerical analysis, but that new qualitative methods are also adopted that will more accurately capture the value of a business’ intangible assets.”

The poll also highlighted that while executives have recognised the importance of intangible assets when it comes to driving a higher valuation, there is still more work to be done if companies want to effectively mitigate risk around these assets.

According to the poll, only 18 percent of companies are currently maintaining an intangible asset register, while many executives also acknowledged that they are failing to adequately protect these valuable assets with more than half (55 percent) saying that they had lost important confidential information via an employee, customer or supplier.

Michael continued “Intangible assets are the most important assets that companies own, which means that they also tend to be a key source of risk. However, while intangible asset risk is significant – with the number one risk being the loss of confidential information – it is also in many cases entirely absent from company risk registers.”

According to EverEdge, the first step in mitigating the loss of confidential information is to identify and track the intangible assets the company owns.  Then, by evaluating which assets are the critical drivers of growth and profitability, a company can work to prevent the loss of confidential information relating to these assets by:

  1. Instituting policies and processes to proactively identify, protect and monitor key trade secrets, know-how and critical confidential information;
  2. Ensuring ownership of these assets is asserted and that information is only shared with stakeholders on a “need-to-know” basis; and
  3. Educating employees on the importance and value of confidential information as a strategic asset for the company.

Michael concluded “What we’re seeing in the market is that there is a growing awareness amongst Australian executives as to the importance of intangible assets. However, many executives are still not proactively taking steps to effectively leverage these assets or mitigate risks to them.

“Today, intangible assets are really the only lever that can move enterprise value beyond cash flow multiples. If Australian companies want to leverage their intangible assets to drive a higher valuation, it is vital that Boards and management teams demonstrate leadership in this area by understanding what intangible assets their company holds and then implementing processes to protect and leverage these assets.”

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