Earnings now make up comprise only 50 percent of the market value of publicly traded companies, down from 95 percent of market value in 1965.
What is the 45 to 50 percent of market value that is not earnings? Intangibles. Intangibles are not precisely related to earnings, but they boost or shrink the value of a business. Intangibles include reputation, brand, quality leaders, and other variables. Accountants who don’t like the word intangibles call these factors “future earnings.”
Two companies in the same industry with the same earnings can have very different market value, as the company with bigger intangibles is perceived by investors to do better in the future.
Accountants try to measure these intangibles, often using the Balanced Scorecard—a necessary but insufficient step. Leaders must learn how to build intangible value faster.
Build Intangible Value
Building intangible value means creating real capability to keep promises about future growth. Leaders who can deliver on their promises are rewarded with a higher price: earnings ratio—the quality of their current earnings is worth more than the current earnings of their competitors.
Leaders can increase intangible value in four ways:
- Keep promises—deliver on earnings. In a public company, the most visible promise is to deliver quarterly earnings. Delivering a consistent and predictable pattern of earnings gives your company credibility. If you say you will deliver earnings but don’t, you lose credibility.
- Articulate a growth vision. Stakeholders want to know how your company will grow in the future. To grow, companies can sell more to existing customers, innovate around their products and services, or expand geographically. Pick one primary growth strategy with the other two supporting it.
- Match growth vision with supporting core competencies. Put your money where your mouth is. If you espouse product innovation, then investors and employees expect to see higher, investment spending in R&D and marketing. When there is a gap between the direction of future growth that is promised and how money, time, and attention are allocated, skepticism grows.
- Improve capabilities. Capabilities represent how the organization competes. Capabilities include: talent that is competent and committed; speed to make important changes happen fast; shared mindset to know and deliver what customers want; accountability that ensures that high performance counts; collaboration that ensures both efficiency and leverage; learning generates and generalizes ideas with impact; and leaders who deliver the right results the right way.
Of the four, improving capabilities as the most potential to provide a sustainable source of competitive advantage. Capabilities are the most difficult for a competitor to duplicate, and they delight customers.
By building intangibles, leaders turbo-charge the value creation process.