Intangible Assets: The Invisible Value Driver

TL;DR

There are four problems with financial information:

1. Financial information no longer accounts for stock price fluctuations.
2. It’s not valuable even when it does come out because other information (analyst recommendations, non accounting reports) has larger impacts on share price.
3. Even ignoring capital markets effects, past earnings growth doesn’t predict future earnings growth.
4. Analyst price estimates are dispersing, implying that information quality is decreasing.

The main cause is intangible assets. We have shifted from an industrial economy to an information economy, yet the investments in information assets aren’t recognized in financial statements. They are expensed instead of capitalized. It’s beneficial for investors to change accounting to capitalize intangible assets, but incentives for corporate managers and auditors make it unlikely to change. 

The implication for investors? Legacy financial metrics should play a lesser role in analyzing businesses. Instead, use many quantitative and qualitative analytical methods and study how top performers have succeeded.