risk managers

Even after his death on Jan. 21 of this year, Roger Sinclair, inaugural fellow of the Marketing Accountability Standards Board, remained a tireless critic of accounting rules governing the valuation of acquired brands.

His final article on the topic (Proposed Mega-Deal Underscores Flawed Accounting Rule) touched off a flurry of response on both sides of the issue.

Current accounting rules require companies to calculate the value of acquired intangible assets at the time of their purchase; to record that value on their balance sheet; and to test it annually for impairment. However, companies are not allowed to show in their accounting any gain in an acquired brand’s value, creating what Sinclair called “The Moribund Effect.”

One reader pointed out that brands that a company created are not valued on the balance sheet at all, while all expenses for marketing brands are recorded as a cost on the income statement. “Acquired brands [also] have been paid for, either in cash or with shares, so it is normal to evaluate them [at the time of their purchase],” he wrote.

But another audience member scoffed.

Intangible Assets represent more than 80% of the S&P500 (Ocean Tomo) yet the financial reporting requirements were established decades ago when more than 80% of assets were tangible. Today's investors are looking to understand what are the assets that are driving the cash flow that is being generated. 40 years it was easy to lump labor, machinery, and plant costs into discernible buckets accounted for by cost/managerial accounting methods. Today, at the minimum, guidance should be given to internal employees that need to make investment decisions (hence the need for MASB's validated brand investment valuation model or something similar for non-consumer brands) as well as for investors that want to understand comparative businesses in a less opaque manner.

The aforementioned MASB (Marketing Accountability Standards Board) has already been tackling this problem, pointed out one reader.

Since Brands are among the most valuable assets owned by any company, both those acquired and those developed internally should be accounted for in financial reporting (and adjusted up or down at least annually), whether it be on the balance sheet or in the MD&A notes.
Further, The Marketing Accountability Standards Board has recently developed an empirically based methodology for valuing brands that can facilitate this process for improving financial reporting. The methodology is simple, transparent, practical and consistent over time, starting with a behavioral measure of consumer brand strength and ending with projections of future cash flows.

One commenter pointed out how difficult it would be to change the rules, and quibbled with the idea that intangible assets represent 80% of the value of the S&P 500.

A couple of observations:
Any changes to the accounting rules around brands is doomed to failure unless the proposals extend to other forms of intellectual property. I wish that MASB would take on the broader mandate of accounting for intangible assets more broadly, rather than just brands.
The "moribund" argument applies to all balance sheet assets, tangible and intangible - even land remain on the balance sheet at the lower of cost or net realizable value
Based on 2015 data for the largest 14,000 publicly traded companies in the world, the proportion of enterprise value represented by intangible assets is actually 59% (not 80% as estimated by Ocean Tomo)

Another reader criticized Sinclair’s premise, but also had a practical suggestion.

I very much agree with Jonathan K. Accounting is a "system" following overall ideas and concepts. Changing this for brands only will be both impracticable and inacceptable.
Most marketers and MASB err in believing that brands are the largest or most important intangible asset. Brands can be important, but often their importance is minor in relation to other assets. Evidence from numerous PPA studies (purchase price allocations) with tens of thousands of acquired businesses analyzed suggests that brand is far smaller than both technology/IPR&D and customer/contract related assets (i.e. Houlihan Lokey, PwC, KPMG, EY, and other). And above all is the value of "goodwill" which captures - among other - the future of a business going concern beyond the foreseeable period. Goodwill includes the ability of an organisation to improve and innovate its offerings, and to improve its organisation, processes and inputs, in short to stay competitive in the long-run. Most of this is human capital, or the knowhow and abilities embedded in the workforce.
It is undisputed that the brand asset plays an important role for consumer goods businesses. To start with, why not implement the proposed accounting for brands on a voluntary basis in the MD&A notes of such companies?

Finally, one reader affirmed that indeed the MD&A approach could be the best way to go forward.

The MD&A notes is a logical place to start reporting and discussing the value of brands, after a standard model is applied internally to inform investment decisions.
According to feedback from a MASB Panel of representatives from FASB, CFAI, and BlackRock: Most important is to align Finance & Marketing sides of the house (make sure those who have to do the work understand what is coming and why); Use the standard BIV model for internal management decisions (how to manage/invest in the brand/asset for future growth and cash flows).
There are MASB best-in-class member companies, among others, who are ahead of the pack in terms of applying this model for internal purposes to provide context and drive decision-making for activities such as portfolio strategy and resource allocation.

Have a different viewpoint CFOs should consider? Share your thoughts in the comments section of this story.

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3 responses to “Readers Sound Off: Accounting for Brands”

  1. There are best-in-class companies who are already ahead of the pack in terms of developing brand valuation models for internal purposes to provide context and drive decision-making for activities such as portfolio strategy and resource allocation. In these situations, brand valuations are not intended to establish amounts to be recorded on the balance sheet, although accounting and regulatory standards could evolve in the future to require some form of disclosure or commentary. Additionally, just as important as reasonable accuracy in brand valuation at a point in time is the consistency of a model’s approach and assumptions over time which will allow management to see relevant valuation movement to aid in decision-making. Such a model should also facilitate and inform sensitivity analysis, “what-if” iterations, and scenario planning.

  2. In “Accountable Marketng: Linking Marketing Actions to Financial Performance” (Routledge 2016), Dr. Sinclair wrote:
    “Marketers have for generations sought a way to report on their activities to the board that is relevant and linked to enterprise wealth. Reporting marketing expenditure as a return on a major asset achieves this goal and elevates marketing to a vital and measureable business operation.”

  3. John Willard’s comment highlights the confusion that exists around brand valuation. The models he describes are BUSINESS valuation models, not BRAND valuation models. Their goal is to measure the increase in the value of the business from adopting a strategy that is focused on improving the customer experience, and that employs branding as one element of this. Their goal is to measure the value of the strategy (that may include product innovation, more creative distribution, better returns policy, more helpful customer support, as well as branded communications). Their goal is not to measure the value of the brand as an asset that is separable from the rest of the business.

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