Measurements that showed how vigorously the economy was working in the 1940s involved the use of energy. But today, energy is steadily being replaced by brainpower as the prime economic mover
IN 1768, a Swede named J. Westerman wondered why his country’s shipyards and ceramics factories were only half as productive as their British and Dutch counterparts. His investigation showed that the Swedes and their competitors used similar machinery. It was not fixed assets that gave the British and Dutch an advantage, Westerman found, but the intelligence with which the machines were employed. In the late 19th century, the best way to measure economic activity was to look at the use of raw materials: how much coal was mined, how much steel was made. But by 1940, that had changed. The measurements that really showed how vigorously the economy was working in 1940 involved the use of energy.
Today, energy is steadily being replaced by brainpower as the prime economic mover. According to Peter F. Drucker, the leading management guru, the amount of labour needed to produce an additional unit of manufacturing output has fallen one per cent a year since 1900, as machines have taken over jobs that muscles once did. After World War II, the amount of raw material needed in the GDP in the manufacturing sector began falling at about the same rate. A few years later, beginning around 1950, the amount of energy manufacturers needed began to fall, again at one per cent a year for any given unit of additional output.
Capital used to be viewed in purely physical terms — factories, machinery and money — but since the 1990s, capital has also been classified in terms of intellectual assets. Many organizations today believe that identifying and improving their intellectual capital (IC) will give them a distinct competitive edge. Multinationals such as Chevron, Amoco and several other companies are well ahead of the curve and work systematically with IC. Many of these companies claim that IC is the firm’s only appreciable asset, as most other assets begin to depreciate the day they are acquired.
With the arrival of information technology and communications (ICT), the structures of many enterprises and industries have changed within the last decade, and IC has been regarded as the major assets of these new and often highly successful (at least stock-market wise) corporations. In industry after industry, success came to the companies that had the best knowledge or wielded it most effectively, not necessarily the companies with the most muscle. WalMart, Microsoft and Toyota did not become great companies because they were richer than Sears, IBM and General Motors, but partly because they exploited IC.
DEFINING IC: IC and other relevant terms such as intellectual assets, intangibles, human capital, knowledge and learning are often used to describe the same phenomenon or different aspects of the same picture. IC is the sum of everything everybody in a company knows and that gives it a competitive edge. Unlike the assets with which business people and accountants are familiar: land, factories, equipment, cash, and so forth, IC is intangible. It is the knowledge of a workforce; the training and intuition of a team of chemists who discover a new billion-dollar drug or the know-how of workmen who come up with a thousand different ways to improve the efficiency of a factory.
It is the electronic network that transports information at warp speed through a company, so that it can react to the market faster than its rivals. It is the collaboration — shared learning — between a company and their customer, which forges a bond between them that brings the customer back again and again. IC is the intellectual material, knowledge, information, intellectual property and experience that can be put to use to create wealth. It is simply collective brainpower.
ECONOMICS OF IC: Physical, human and financial assets are, to some degree, rival assets in the sense that alternative uses compete for the services of these assets. In particular, a deployment of rival assets precludes them from being used simultaneously elsewhere. Such rivalry leads to positive opportunity costs for rival assets, where the cost is “opportunity forgone”, namely the benefit from deploying the asset in the next best alternative. In contrast, most IC is, in general, non-rival; it can be deployed at the same time in multiple uses, where a given deployment does not detract from the usefulness of the asset in other deployments. The non-rivalry attribute of IC, the ability to use such assets in simultaneous and repetitive applications without diminishing their usefulness, is a major driver at business.
GROWTH OF IC: One can argue that intellectual assets have always existed in organizations from the dawn of civilization. Whenever ideas have been put to use in homes, fields or workshops, some kind of IC has been created. Inventions such as electricity, the combustion engine and telephone have created new IC, and the phenomenon is not new. What is new and has been driving the recent surge in IC has mainly been the combination of the following trends: intensified business competition mainly due to globalization of trade and deregulation of important sectors; advancement of information technologies which opened up the way for new business models; new forms of organization; other types of value chains and value creation to be developed.
These forces changed the structure of many organizations and put knowledge up front as the main competitive weapon in many industries. One of the major limitations on the further use of IC today is “managerial limitations”. IC is, in general, more difficult to manage and operate than tangible assets because of its “loose” nature. The well-defined and well-known properties of physical and financial assets make them easier to manage than IC. Most managerial information systems in existence today (for instance accounting) are almost exclusively geared to the industrial age physical and labour input, which compounds the difficulties.
IC & RISK MANAGEMENT: The risks associated with developing IC to its full potential have some constraints. One obvious risk is related to the ownership of IC. For instance, if a company decides to invest in training its employees, other companies (and society at large) may benefit from such investments, if (when) the trained employees switch employers. The property rights characteristics of most intellectual assets create managerial challenges, in general. Making full use of the tacit knowledge residing in the brains of employees is challenging. Only when such knowledge is coded (for instance made available in manuals or documents) and systematically shared with others, can the value be exploited to the full benefit of the investing company. A business enterprise does not exercise strict legal control over most IC, and accounting regulators are reluctant to qualify such IC as assets, thereby leaving the risk with the investing company. Other challenges include the fact that important IC activities such as innovation are highly risky by nature, relative to other corporate activities such as production, marketing and distribution.
BUILDING SOCIAL CAPITAL: A lot of the above focuses on “hard” parameters such as putting in place some sort of knowledge management system, controlling risks and defining measurement and accounting practices suitable for IC. These are surely important parameters for successful management of IC and for it to develop further. The most important factor which needs to be in place for IC to become a valuable wealth creator in organizations is something much more fundamental — the “soft” issue of social capital.
All new resources including IC are created through two generic processes: namely, combination and exchange of existing intellectual resources which may exist in the form of explicit and tacit capabilities. According to these researchers, it is therefore an organization’s social capital that facilitates the development of IC by affecting the conditions necessary for exchange and combination to occur.
Social capital is the sum of the actual and potential resources embedded within, available through and derived from the network of relationships possessed by an individual or social unit. Social capital, therefore, comprises both the network and the assets that may be mobilized through that network.
Social capital, in different forms, will be a fundamental prerequisite for IC to grow — something which is “owned” jointly by the parties to a relationship. The development of social capital is thus significantly affected by factors shaping the evolution of social relationships. When there is a shared vision and a shared value system; resource capabilities for wealth creation and excitement emerge in an organization. Further, these are necessary conditions of human capital — two sufficient conditions are also needed. One of them relates to the clarity of the employee’s understanding of the firm’s business context and the competitive logic of value creation. The other condition relates to a pursuit of learning and managing knowledge to develop the firm’s competitive advantage.
For IC to further mature as a system, regulators, auditors and executives will need to make IC more measurable, accountable, risk controllable, and thereby more manageable. The progress of such work is slow for the time being, as some of the momentum seems to have fallen on hard times since the dotcom bubble burst. For IC to become the future wealth of most business organizations, the really difficult challenge is to develop the necessary organizational platform of social capital on which IC can grow.
