What’s the deal with intangible assets?

By Tyler Capson and Santiago Mayora

It’s always a delicate moment in discussions with an investor when the question about what makes your company different pops up. Why should they invest their precious capital in your business?

The investor is hoping to hear that she isn’t risking her money on a white elephant. She wants to know that you know your special sauce. So, what information should you offer?

Let’s get a bit more concrete and pretend you are the CEO of a marketing consultancy (but it could be any services business).

You could point to the firm’s office space located in a prestigious tower in the heart of the city. Or perhaps you could list the major clients generating millions in revenue each year. You might even mention the state-of-the-art computer mainframes downstairs churning out high-end analyses for the world’s top businesses. Each of those tangible assets appears on the balance sheet, so they must be valuable, right?

A muscle twitches in the investor’s jaw as she tries to hold her smile. Sure, those assets are important, but they aren’t the secret sauce. She was hoping to hear about the things the consultancy owns that can’t be dropped on your foot – the intangible assets.

Failing to understand the importance of intangible assets is worryingly common right across the business world, even amongst larger companies. Many CEOs are trained to myopically focus on tangible assets like property, fleets, devices, revenue and other dynamics. Some even argue that tangibles are the backbone of business and that intangibles are irrelevant.

But there is so much more value in a company than what usually appears on the balance sheet.

In fact, there’s a decent chance your business is dripping in intangible assets that are interacting with your tangible assets in intriguing ways. This specific mixture unique to each company must be analysed on a case-by-case basis, but hidden value is almost certainly there.

For example, a car rental business will depend primarily on its car fleet, but the intangible asset of its risk management expertise is probably more important for the overall business model.

Likewise, while an international courier business relies on its warehouses and vehicles, it’s the know-how for logistics, customs clearance and delivery schedules that allow the company to swiftly meet customer expectations. Without those intangible assets, the courier couldn’t operate its warehouses or vehicles at all. Anything that is integral to the running of a company must be worth something.

At first glance, it seems illogical that tangible assets play second fiddle to intangibles, but in many ways, the value of tangible assets is determined by the intangibles surrounding them.

The reason many CEOs miss this reality is that the accounting methods we still use today were set up for a tangible world of factories and other hard assets. These old rules now risk completely overlooking intangible assets in normal valuations because the world has advanced so rapidly in the past century and accountants are running to catch up.

But waiting for accountants to figure out new rules for identifying intangible assets is a fool’s game. It’s the job of every CEO to understand the logic of intangibles, learn how to see them and build a strategy to leverage these critical assets for maximum value – all while doing everything they can to protect them.

This process should begin by understanding perhaps the most important intangible asset called “brand.” Developing a good brand might involve a specific packaging design or an easily distinguishable logo. Since each of a company’s competitors has similar tangible assets (otherwise they wouldn’t be competitors) a brand helps a business stand out from the crowd and attract customers. A solid brand is like rocket fuel for a company.

Another key part of a robust intangible asset strategy is to embrace the importance of research and development. R&D must be seen as an investment, not an expense. Coming up with a fresh production method or a clever tactic for optimising resources can have enormously outweighed impacts on company performance. Innovation is highly attractive to investors or potential buyers.

Embracing intangible assets is just the first layer. It’s also important to protect them. Buying a lock to protect a fleet of vehicles is easy, but it’s much harder to protect a client list from leaking to a competitor.

In 2019, US-based automotive company Tesla sued former employee Guangzhi Cao claiming he had uploaded confidential information to a personal device before taking a job with competitor XMotors. Tesla said it had protected its trade secrets using a series of standard legal measures and that Cao knowingly breached these defences.

The parties ultimately settled but the case is a good example of why the right protections for critical intangible assets cannot be “off the shelf.” Defences must be tailored to the specific characteristics of the assets to prevent loss of value and to optimise methods and know-how. Protections come in many shapes and sizes that range from trade marks, patents or monetising artistic creations with copyright. So, what might be a good protection for software may not be suitable for defending a client database.

For instance, if an algorithm is complementary to a tangible asset, a decent option may be to use a trade secret regime that mitigates the risk of its misappropriation by employees or third parties. If such risk is simply too difficult to prevent since the information will likely leak eventually, then another option may be to consider licensing the algorithm. It can quite literally pay to be realistic about how defensible your intangible assets truly are.

On the other hand, if your product or service depends on a secret formula then it must always be protected with the highest level of secrecy and preferably a patent or two, if possible.

Intangible assets will only get more important as societies continue to evolve from industrial into information economies. Although tangible things like factories and property will remain valuable assets for the foreseeable future, companies are encouraged to build well-organised, and defensible, intangible asset portfolios.

After all, building a fence at the top of the cliff is infinitely preferable to being the ambulance at the bottom.

Tyler Capson is the Managing Director of EverEdge Global. He is based in North Carolina.

Santiago Mayora is the Joint-Managing Partner of Mayora IP. He is based in Guatemala.