Presentation on theme: "Technological Innovation and Intellectual Capital"— Presentation transcript:
1 Technological Innovation and Intellectual Capital BUA5FTS – WEEK 1Technological Innovation and Intellectual CapitalTechnological innovation and intellectual capital change the way we work, create wealth and add values to life.
2 Bontis on Intellectual capital Intellectual capital has been considered by many, defined by some, understood by a select few and formally valued by practically no one.(Bontis, 1998: 622)
3 Technological innovation is defined as: ‘A unique chronological process involving science,technology, economics, entrepreneurship, andmanagement is the medium that translates scientificknowledge into physical realities that are changingsociety. This process of technological innovation isthe heart of the basic understanding which the competentmanager, the effective technologists, the sound governmentofficial, and the educated member of society should have inthe world of tomorrow’James Bright
4 Could you please identify some industries that have strong technological innovation? Add class examples here.And ask the class on some industries that they do not list and see how technological innovation is important to the industry?
5 IntroductionThe dominance of intellectual capital in wealth creation in all industries is highly evident today and some of the technologies are:SuperconductivityVirtual RealityRobotsArtificial IntelligenceHigh-tech MedicineBiotechnology/Genetic EngineeringTelecommunicationsWhich one is the major strength for Australia?electrical resistance of exactly zero which occurs in certain materials below a characteristic temperature
6 Intellectual capital concept First use of the term Intellectual capital in 1969 (Hudson 1993)Not yet agreed on its definition, its decomposition and methods for valuation.The intangible assets of skill, knowledge and information (Wall et al. 2004)."packaged useful knowledge" (Steward 1997:10)"knowledge, applied experience, organizational technology, customer relationships and professional skills" (Edvinsson and Malone 1997)
7 Intellectual Capital Intellectual Capital is defined as: 'Intellectual material that has beenformalized, captured, and leveraged toproduce a higher-valued asset.'(Professor David Klein and Laurence Prusak of IBM )
8 Intellectual Capital Human capital Structural capital Relational capitalDefine intellectual capital in terms of where it is found in an organisationIntellectual capital or property is knowledge assets that can be broadly categorised into:1. human capital (what people know);2. customer capital (who you know, and who knows and values you), and3. structural capital (how what you know is built into your business system).Relational capital/customer capital: Who you know and who knows and values you.
9 Intellectual Property Human CapitalCustomer CapitalStructural CapitalR&DStart-UpExpansion
10 Intellectual Capital and Firm Value IdeagenerationFinal ProductR&DPrototypeCash FlowsValue
11 Valuation of Intellectual Property Company Market Value AddedMicrosoft $253 billionIntel $78 billionMerck $62 billionPfizer $131 billionCisco Systems $45 billionBristol-Myers Squibb $119 billionLogitech $2 billionSo, if you have a dollar into your business, and after a month it becomes two dollars? How can it be? What are the contributing factors? A production line that changes material into a product, worker effort, patent on the product to make the product sold for more money…Source: Yahoo Finance, December 2009MVA = market value of equity - equity capital suppliedTable 2.1 Creators of Wealth
12 Measuring Intellectual Capital A model was developed by Skandia AFS:Market ValueFinancialCapitalIntellectualHumanStructuralCustomerOrganisational CapitalInnovationProcess
13 Economic BenefitThe primary objective of the firm is to maximise shareholders’ wealthIt is typically accountable to a dispersed group of stakeholders – lenders, customers, investors, governments, employees, community members, suppliers, citizensThe value of an intellectual asset is measured by the benefit it generates to the stakeholders and firm‘Benefit’ would normally refer to monetary gain or economic value to the shareholders and firmDefinition of economic value is the present value of the expected earnings from using the asset
14 Economic Benefit Strong competition Associated rapid diffusion of innovationsreduce the returns to innovationan appropriate framework of intellectual property rights is important to ensure that innovators receive an adequate return on their investment while at the same time encouraging the rapid diffusion of these innovations (OECD 2000).Lehman (1996) suggests that economic growth and competitiveness will be determined by the ability to create, own, preserve and protect intellectual property.
15 Intellectual Capital Financial Management Framework Involves the process of analysing the financial issues facing a technology start-upIn terms of economic trade-offs or financial implications in relation to decisions about business investment, operations or financingThe process entails understanding the business environment by evaluating and then developing a proper financial strategy for the venture
16 Intellectual Capital Financial Management Framework Incorporates the optimal business structure for the venture as well as utilising the appropriate tools for evaluating the financial problem or issue
17 Real Options Valuation Value of EquityValue of the Firm- Growth- TVFree Cash FlowsEBIT/EBTCAPMWACCDiscount RateFinancing:Venture kDebtIPOsOtherTraditional DCFStatic AnalysisInvestmentDecisionNPVStart-up ProjectDynamic AnalysisTechnology Start-ups Valuation FrameworkOption-based NPV ModelReal Options ValuationAbandon(Put Option)Defer(Call Option)Expand(Call Option)Source: Oh (2002)
18 Alternative Forms of Business Organization for Technology Startups Sole proprietorshipAdvantages:Ease of formationSubject to few regulationsNo corporate income taxesDisadvantages:Limited lifeUnlimited liabilityDifficult to raise capital
19 Alternative Forms of Business Organization for Technology Startups PartnershipA partnership has roughly the sameadvantages and disadvantages as a soleproprietorship.
20 Alternative Forms of Business Organization for Technology Startups CorporationAdvantages:Unlimited lifeEasy transfer of ownershipLimited liabilityEase of raising capitalDisadvantages:Double taxationCost of set-up and report filing
21 Goals of the Corporation The primary goal is owner wealth (value) maximization, which translates to maximizing firm’s value.The factors that affect value of the firm are:(i) Projected cash flows to owners(ii) Timing of the cash flow stream(iii) Riskiness of the cash flows
22 (i) Cash Flow Long-term source of funds for the firm Internally generatedNet incomeRetained earnings and depreciation provisionsFree cash flowsNo historical data in most cases and this makes it difficult to forecast cash flow patterns (i.e. economic fundamentals and comparable firms analysis)
23 (ii) Timing of Cash Flows Implications for the owner wealthA dollar received today is worth more than a dollar received sometime in the future (time value of money)Opportunity costDiscounting and compounding
24 (iii) Riskiness of Cash Flows Factors that affect the level and riskiness of cash flows:Decisions made by financial managersInvestment decisionsFinancing decisions (the relative use of debt financing)Dividend policy decisionsThe external environment
25 New Technology Venture Finance Focuses on how firms, both start-ups and large firms, manage the financial process of new product/technology development from conception to ultimate commercialisationrequires managers to understandthe balance sheet;valuation;financial tools;financial markets, andrelated issues and their impact on the financial performance of the firm.
26 Early-stage Technology Valuation Business Entity and its Value:Generally, comprised of the same basic elements being monetary assets, tangible assets and intangible assetsMore intangible assetsTheir aggregate value represents the value of the business enterpriseThe financing of these assets could come from two basic sources, namely equity and debt
28 = Balance Sheet Equity Debts Firm’s Market Value Total Assets Monetary+Tangible AssetsIntangibleAssetsInternalR&DProcessesCultureKnowledgeExternalCustomersSupply ChainOthersEquityDebtsBookValueStock Price Premium=Balance SheetTotal AssetsTotal CapitalFirm’s Market Value
29 Financial StatementsThey are important because they portray the underlying financial performance and position of the project. They are also a tool used for monitoring investment and business activityIAS 38 ‘Intangibles Assets’ standard -specifies and requires certain disclosure criteria to be met by intangible assets
30 Financial Statements Contentious issues: It specifies that internally generated intangible assets such as goodwill, brands, mastheads, publishing titles, customer base and the likes should not be treated as assets;IAS 38 does not allow an assignment of infinite useful life to an intangible asset; andMany acquired intangible assets will not be allowed to be re-valued upwards because of the absence of an active market for such assets.
31 Balance SheetThe balance sheet (statement of financial position) attempts to show the financial position of a project at a point in time and shows all the resources controlled by the enterprise and all the obligations due by the project.The balance sheet equation:Assets = Liabilities + Equity
32 Income Statement Statement of financial performance: Sales COGS Other expensesEBITDADepreciation and amortisationEBITInterest expenseTaxesNet income
33 Cash Flow Statement Operating activities Net income Add – Sources of cashIncrease A/PIncrease in accrualsDepreciationLess – Uses of cashIncrease in A/RIncrease in inventory= Net cash provided by operationsminus Long-term investing activitiesInvestment in fixed assetsplus Financing activitiesIncrease in notes payableIncrease in long-term debtNet cash from financing= Net change in cashAdd cash at the beginning of the year= Cash at the end of the year
34 Financial Reporting for IC The economic rationale by the proponents for recognition of intellectual capital in financial reporting focuses on the balance sheet treatment of competitive advantages of the firm, proposals include:broadening of intangible asset recognition criteria (i.e. capitalization of R&D, marketing and human resource expenditures)measurement of contractual positions at fair valuenew definition of ‘revenue accounting’ to capture the critical events of the value creation cycle of new economy firms
35 Technology ValuationImplications of Technological Development for Business:Globalisation: resource allocation, manufacturing, MNCs and comparative advantage/competitive advantage e.g. India in software developmentTime compression: shortened product life & life cycle of a project e.g. Moore’s law (i.e. from initiation to completion), decreasing payback periodsTechnology integration: for development and commercialisation, e.g. IT + Biotech (see core technologies)Costs: better economies of scale and efficiency
36 Technology ValuationWhen technology is not mature, more time is needed in the early stages of the projectIf only incremental technology innovation, or when technology is mature, the early stages may be short and activities are likely to be confined to the execution and implementation of the projectThe project life cycle
37 Project Life CycleEarly-stage technology is defined as technology that has not been commercialised or proven beyond laboratory experiments and this broad category includes: Untested ideasBench-top technologyPrototype technology
38 Project Life CycleAll technology projects evolve over a number of stages, generally from conception to research and development (R&D) to commercialisation. The exact specification of the stages will depend very much on the nature of the project and the industry in which the technology is applied.
39 A typical five-phase project life cycle sequence: TimeCostConceptual Definition Production Operation Divestment
40 Project Life Cycle In the pharmaceutical industry the stages are: Preliminary research (before filing a patent);Preclinical studies (done prior to an initial new drug application - IND), andClinical trials – Phases 1, 2 and 3.In the aerospace industry the stages are:Concept definition;Concept Development;Implementation, andLaunch and operations.
41 Other IP Valuation Purposes Other than for determining how much money is required for a technology start-up, there are other reasons why intellectual property is valued:Transaction support saleBankruptcyLicensingStrategic alliancesInfringement damagesIntercompany transactionsCollateral based financingAccounting requirementsRegulatory requirements
42 Preparing resourcesThe focus in FTS is on Financial resources
43 Financial Strategy Framework The three financial management decisionareas common to all business are:Investment decisions;Financing decisions, andDividend payout decisions (in the case of technology ventures: exit options)
44 Financial Strategy Framework I. Investment decisionsThe efficient allocation of resources to develop the new technology for commercialisationThey are the source of future cash flows, growth, support for the venture’s continued viability and are based on detailed plans (capital budgets) for committing new funds to predominantly three areas of activity:Major spending programs such as R&D and marketingWorking capitalPhysical assets
45 Financial Strategy Framework II. Financing decisionsForm of financing:Debt,equity orconvertible securities (Is this a good option? Why?)Optimal capital structure considerationMay varies over different stagesOwner facing trade-off decisionOther potential financiers of the venture, such as venture capital companiesProfit allocation decisionUsing convertible securities is the typical financing instrument in venture capital transactions as it has higher priority than common stocks. in the event of firm’s sale or liquidation, the investor gets paid before the common stockholders shifting the risks to the entrepreneur.The entrepreneur has greater incentive to do well because he/she knows that if things are not going well, he/she will receive no return at all.
46 Financing the entrepreneur firm Four factors:UncertaintyAsymmetric informationThe nature of its assetsMarket conditions
47 Financial Strategy Framework III. Dividend payout decisions (exit options)For a venture, the relevant decision in this context would be the exit options available to the entrepreneurs and equity funding parties.
49 Critical Variables in Fund Raising Gompers et al. (2002) identified four broad categories offactors that influence the source of funds are identified as:Uncertainty: the dispersion of potential outcomes relating to information, competition, marketing etc.;Asymmetric information: moral hazards and adverse selection problems;Market conditions: supply of capital, cost of capital, capital structure, andMonitoring and evaluation: relationship between investors and entrepreneurs
50 Critical Variables in Fund Raising The following factors determine the nature and type of the financing for the venture:Accomplishments and performanceInvestor’s perceived riskIndustry and technologyVenture upside potential and anticipated exit timingVenture anticipated growth rateVenture age and stage of developmentRequired rate of return (IRR)Capital required and prior valuation of ventureFounders’ goals regarding growth, control, liquidity and harvestingRelative bargaining positionInvestor’s required terms and covenants
51 Project Life Cycle & Funding AeroscapeIndustry: Concept Development > Development > Building > LaunchPharmaceuticalIndustry: Basic Research >Phase I & II > Phase III > LT Phase IV > Pre-clinicalFundsRequiredPlanningDevelopmentImplementation
52 Technology Valuation The project life cycle can be used to defined 3 key financial concepts:Funding requirements (timing of funding)Risk-return trade-off (cash flow lag)Financial strategies (debt or equity?)
53 New Venture/Entrepreneurial Finance State of play in technology finance:Most financial techniques or methodologies are suitable for mature technology contexts, where there is low level of uncertainty.Maturity of TechnologyStage of Market DevelopmentEarlyLateLowHighDifficult to applyMost useful
54 FOCUS: Technological Entrepreneurial Finance Study the issues relating1. Technology valuation2. Valuation of IP/intangibles3. Project financing4. Financing strategy
55 1. Technology ValuationHighly idiosyncratic and depends on maturity of technologiesLower maturity results in higher uncertainty about cash-flows/marketability
56 2. Valuation of IP/Intangibles Assessing the value of IPMarket valuation of IPValuation of R&DValue of a knowledge intensive firm
57 3. Project Financing Sources of finance Matching sources to projects at different stages of maturity
58 4. Financing Strategy Differences b/w start-ups & large firms Business planMarket signallingRelevant financial informationHow information is factored into the value of a knowledge intensive firm
59 Lecture summary Technology innovation and Intellectual capital Intellectual capital valuation and firm valueCash flow, timing and risk factor in valuationFinancial strategy frameworkFocus: Technological Entrepreneurial Finance