Fix the Dome

It dominates the Washington skyline. It is the symbol of representative democracy. And it is leaking. And dangerous. And Congress can’t get its act together to fix the Capitol Dome.
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In the middle of the Civil War – when the nation’s very existence was called into question – Abraham Lincoln committed valuable resources from the war effort to finish building the Capitol Dome. As pictured below during Lincoln’s first inaugural, work on the Dome began in 1855 and was still underway at the beginning of the war. Some questioned the appropriateness of continuing with the project. But Lincoln said finishing the Dome was “a sign we intend the Union shall go on.”
Are we now in the process of ignoring Lincoln’s wisdom? Have we paralyzed and shrunk government so far that Congress can’t even fix its own roof? That we can’t invest in one of the most important symbols of democracy? What does that say about our ability to invest in other important activities?
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Fuel economy regulations and innovation

I have long argued that regulations can be used to push innovation. Here is a case in point: the Administration’s recent announcement raising fuel economy standards to an average of 54.5 miles per gallon by 2025. As a story in the Washington Post notes, the new standards have the car makers’ support:

“Customers want higher fuel efficiency in their cars and trucks, and GM is going to give it to them,” said Greg Martin, General Motors’ executive director for communications. “We expect the rules to be tough, but we have a strong history of innovation, and we’ll do our best to meet them.”

The Post story goes on to note that some innovations will come from outside the auto makers themselves:

Some future changes may have less to do with the engine than what surrounds it. Alcoa’s chief sustainability officer, Kevin Anton, said that making a car body entirely out of lightweight aluminum rather than steel automatically boosts its fuel efficiency by 10 percent.

Thus, the new regulations may spur an ecosystem of innovation. That can only be good for the U.S. economy, good for companies and good for consumers.
Here is hoping that policymakers (and would-be policymakers now running for office) get the message.

Our flawed human capital system

A couple of postings last week commented on issues in the U.S. labor market. Follow on that same theme, I recently came across an article at Knowledge@Wharton that raises a number of interesting points on how the labor market is failing as a means of fostering human capital. The article (“Why Good People Can’t Get Jobs: Chasing After the ‘Purple Squirrel'”) is an interview with Peter Cappelli whose new book (Why Good People Can’t Get Jobs) takes on the issue of the “skills gap”:

I think the story that one hears, particularly around the policy community, is that employers can’t find the people they want to hire because schools are failing and kids aren’t coming out with the right academic degrees and the right knowledge. If you actually look at the data from employers themselves when they report problems they’re having with recruiting, they never talk about academic skills as being near the top of the list. In fact, their complaints have been consistent for the 30 years or so that I’ve been looking at this. And their complaints are the ones, frankly, that older people always have about younger people — they’re not conscientious enough, their workplace attitudes are not diligent enough, they don’t want to work hard enough — those sorts of things. They’re not actually looking for young people out of school at all.
When you look at what they want, they want experience — everybody wants somebody with three to five years’ experience. What they’re really after are the skills that you can’t learn in a classroom, that you can only learn by doing the job itself. So, the craziness about the hiring requirements is that in most cases, employers are looking for somebody who is currently doing exactly the same job someplace else.

What companies are doing, says Cappelli, is searching for the “purple squirrel” — the unique, unusual, and perfect candidate.
Part of failure is institutional in the companies:

I think that part of the story is that the HR departments have been gutted over the last 20 years. Particularly in this recession, there’s a lot of downsizing, but especially in HR. The training departments are largely gone out of most companies, and a lot of the recruiting functions are gone as well.

Cappelli also makes an important point on understanding the value of intangible assets:

the internal accounting systems in most organizations are so poor that they can’t tell what it costs them to keep a position vacant.

If Cappelli is correct in his analysis, then we need to re-think our approach to labor market policy. Attacking the perceived lack of workforce skills has been the centerpiece of public policy. But if that is not really the problem, then we need to re-focus on what we can do to create incentives for companies to increase in-house worker training. As I have argued before, we need a knowledge tax credit that would apply to company expenditures on worker training and education — just like the R&D tax credit applies to expenditures on research activities. Better for companies to create their own “purple squirrels” than wait around to that elusive creature to show up on the doorstep.

Is the changing workplace diminishing human capital?

Following up on yesterday’s posting on the changing labor market, here is an interesting report from Knowledge@Wharton, “Declining Employee Loyalty: A Casualty of the New Workplace.” The article reinforces my earlier point that the relationship between employer and employee have changed:

“Firms have always laid off workers, but in the 1980s, you started to see healthy firms laying off workers, mainly for shareholder value.” In their announcements of pending staff cutbacks, “firms would say, ‘We are doing this in the long-term interest of our shareholders,'” [Wharton management professor Adam] Cobb notes. “You would also see cuts in employee benefits — 401(k)s instead of defined benefit pensions, and health care costs being pushed on to employees. The trend was toward having the risks be borne by workers instead of firms. If I’m an employee, that’s a signal to me that I’m not going to let firms control my career.”

Other factors are clearly at play as well:

[Wharton management professor Matthew] Bidwell suggests another dynamic behind the changing employer-employee relationship. Many of the things employers did to increase employee loyalty — at least up until the 1980s — were done not to encourage higher productivity and job satisfaction, but to keep the unions out, he says. “Companies were very worried about unions and the possibility of strikes. They treated their employees well so they wouldn’t join a union. But that is no longer the case. Unions are on the decline. It’s easy to quash them if they try to organize. So some managers might not care as much about employee loyalty as they used to.”

If that is the case, and companies truly have reversed course on trying to retain employee loyalty, then our economic is headed for a much bigger problem than a fiscal cliff. We are head for a human capital cliff. And it will be harder to recover from that loss of a key intangible asset.

Changing labor market

Sebastian Mallaby has an interesting piece in the FT – “The US labour market doesn’t work

A quarter of a century ago, the US workforce was a wonder. Laid off in one corner of the economy, Americans quickly landed jobs elsewhere. But over the past decade, a profound change has come about.
. . .
Technological change has reduced opportunities for low-skilled men and a lousy school system has failed to equip them for this challenge.

Mallaby cites a recent IMF paper, Fiscal Policy and Employment in Advanced and Emerging Economies, and summarizes the policy prescriptions from that work. Interestingly, the paper views the current employment situation as I do: both cyclical and structural. However, The IMF paper puts the structural issues squarely on policymakers: “deep-rooted weaknesses in labor market institutions and fiscal policies.” Mallaby and the IMF paper focus on areas such as payroll taxes, welfare programs and unemployment insurance — all important areas. Whereas I have tended to focus on the changing nature of the economy itself.
Apropos those changes, I would take issue with the implied analysis in Mallaby’s piece that the root cause is technological change. Yes, we have seen a rise in the importance of worker skills and a decline in the incomes of lower skilled workers. But that is only part of the story. The nature of work and the relationship between employer and employee has changed. I would also dispute that the changes have come in the last decade.
As I have argued elsewhere, these changes go back 30 years. The recession of the early 1980’s was the first recession of the I-Cubed Economy where workers were not placed on temporary layoff but permanently fired. As companies were downsized, involuntary part-time work was the response of people downsized.
This was part of the switch away from the industrial economy. In the industrial economy, temporary lay-offs were the way of buffering the labor force from cyclical downturns. Workers were kept around for the next upturn — with either union-based or government-based unemployment payments to maintain family income until the recall.
In the I-Cubed Economy, that process has disappeared. Workers have to find new jobs — often in new industries. Cyclical downturns now lead to structural changes.
Unfortunately, after 30 years we apparently still have not learned that lesson. And our public policies — such as unemployment insurance and worker training — have suffered.

How to liquidate an intangible-based company – the case of Digg

One of the persistent issues with utilization of intangible assets is what to do if the company fails. How do you liquidate intangibles? Here is Farhad Manjoo’s summary of what happened to the old Digg (in his review of the new Digg in Slate):

Digg’s staff was hired by the Washington Post Co. (which also owns Slate). The firm’s patents were purchased by LinkedIn. And the name and website were sold to Betaworks, the New York tech incubator that created a number of successful social media sites, including Bitly, Chartbeat, and TweetDeck. The Post Company and LinkedIn paid millions for Digg’s team and patents, but it was the amount that Betaworks paid for Digg’s domain that won headlines: just $500,000.

FYI – the reason given for the low sales prices of the domain name was that Betaworks had a strategy for reviving the site that the owners/founders of the old site approved.
So, the assets were divided into human capital, technology and brand — and each went separate ways. Interesting.

Cashing in on (and utilizing) a government intangible asset – the Pentagon

In previous postings I’ve noted that government agencies, especially the military, license out their brand and logos. Here is another example of revenue from a government asset. According to a story in today’s Washington Post (“On the big screen, Pentagon wants accuracy”):

The practice of supporting films is so ingrained that the Pentagon has a price list online for military hardware leased out to approved films.
An hour’s rental of an airborne command post — which in the event of nuclear war would serve as Air Force One — costs $72,000 for a movie the Pentagon wants to support. A B-1B long-range bomber costs $50,529 an hour, and an F-16 fighter goes for $10,181 an hour. The budget-minded could rent a training glider for as little as $89 an hour.

But the real pay-off for the military is in the publicity it gets from these films. As the story notes:

Film historian Lawrence Suid said that before the 1960s, virtually every American film about the U.S. military had official support, from advice on a script to the use of military hardware and installations.
In his book “Guts and Glory,” Suid noted that the Pentagon benefits from movies when recruiting and by informing the public and Congress about its activities.
The effectiveness of movies as a recruiting tool has never been quantified, but Suid notes that films helped each branch of service rehabilitate its tattered image after Vietnam. And it is no accident that many of the movies the Defense Department supports are blockbusters, which attract teenagers, many of them approaching or at the age at which they can volunteer for service.

And the Pentagon knows this:

“In World War II, virtually every American had a friend or relative in the service,” [Philip Strub, director of the Pentagon’s entertainment media office] said. “That’s not the case today. A much smaller percentage of the country has a direct tie to the military, so for many Americans what they learn about the services comes through film. ”
Some of the films that have received support would be familiar to most moviegoers: “Top Gun,” “The Killing Fields,” “Judgment at Nuremberg,” “From Here to Eternity,” “Jurassic Park III,” “Invaders From Mars” and “It Came From Beneath the Sea.”
“We could never hope to buy that level of exposure,” Strub said.

That is a perfect case of leveraging your intangible assets.

The market in copyrighted images

Excited about billion dollar patent sales? How about a copyright valuation at $3.3 billion? That is what the Carlyle Group is paying to buy Getty Image. And just what are they buying? As the AP story puts it, Getty Images “creates and distributes still images, video and multimedia products for customers to use in brochures, websites and other outlets.” In other words, copyrights.
Interestingly, this is not a pure IP play, however. Getty is not just a holding company of images. They are an operating company that Reuters report on the deal noted that Getty “for the first time shot images at the Summer Olympic Games in London in 3-D and 360-degree formats using robotic cameras” and have “adapted to a shift in the media industry to online from print.”
So that $3.3 billion is based not just for the existing portfolio but on the ability of the company to continue to update and rejuvenate the portfolio and continue to keep it relevant to today’s market. That is something that analysts of patent portfolios should keep in mind as well.

What do we mean by "intangible assets"

There is a problem with our language. Specifically with the use of the phrase that is the cornerstone of this blog: “intangibles”. It is a word that gets used sometimes without a specific meaning but a general sense that can mean different things in different circumstances and to different people. Take for example this piece from the Wall Street Journal – “Paul Ryan’s Intangible Assets.” According to this analysis, Ryan’s popularity with conservatives and the fact that he is from a swing state are seen as his “tangible” assets. His intangibles are the average-man touch, the sportsman reputation, the Catholic factor and the energy he brings to the campaign.
Not what we normally see as the division between tangible and intangible assets. But one from a political analysis point of view makes perfect sense. Being from a swing state is about as tangible an asset as one can get in the Presidential race. One could, however, easily see all of these characteristics being called intangibles.
The problem with the phrase “intangibles” is that it is, well, intangible. It connotes something that is not quite real. Just like the concept of goodwill (see yesterday’s posting) and design thinking (see earlier posting), the words “intangibles” don’t necessarily completely capture the meaning.
The long standing alternative is “intellectual capital.” But that often gets confused with the narrower term “intellectual property.” The OECD has started using the phrase “knowledge-based capital.” However, as I showed in an earlier posting using Google’s Books Ngram Viewer, the phrase “intangible asset” has a much stronger usage history than either “intellectual capital” or “intellectual property” — although both of those phrases show up earlier. “Knowledge-based capital” is too new to have much of a usage history.
My real concern is that none of these really convey the meaning I think we wish to ascribe to the phrase. Is a customer list “intellectual”? Is reputation “knowledge-based”?
Over the long run, we need to develop a new vocabulary for this new economy. This will take time but will happen. I note that Arnold Toynbee’s lectures on “The Industrial Revolution” which popularized that phrase were in the 1880’s — over a century after the beginning of the Industrial Revolution but still while the process was ongoing. I would also note that words do change over time. For example, factory originally meant a trading post, not a place where goods were produced.
So, let’s work on crafting a new language. In the meantime, I plan on continuing to use the term “intangibles” — even though it may not be perfect.

The problem with "Goodwill"

Is it real or is it … (to paraphrase an old commercial).
The Wall Street Journal has a piece today about accounting and “goodwill” (“Buyers Beware: The Goodwill Games“). Goodwill is considered that part of the purchase price of a company that is left over once you accounted for everything you can account for. Usually that means once you have subtracted out “hard assets” and those intangibles that you can put a value on (e.g. patents). According to the Journal, a number of companies have high levels of goodwill including six where the value of the goodwill on the books is greater than the market capitalization. The story says that this is an indicator of a future loss in the value of the company as the goodwill is written off.
Not so fast.
There is a lot going on in goodwill accounting. Yes, there have been some big write downs lately (such as HP’s $8 billion write off). But large good will doesn’t necessarily mean write downs are coming. Maybe the company is simply undervalued in the market and is a candidate for value investors. On the other hand, what gets thrown into the category of goodwill is mishmash. Some of it is intangibles that accountants don’t bother to break out. Some of it is important intangibles that are difficult to break out. Some of it is just buyer expectations (from “synergy”) that may or may not play out. Some of it is simply overpaying.
As I noted in an earlier posting, accountants routine attribute most of the cost of an acquisition to goodwill. A study from Ernst & Young (Acquisition accounting: What’s next for you) of over 700 acquisitions across a variety of industries as reported in 2007 annual reports noted that “many companies were reluctant to fair value tangible assets bought and to provide detailed information on intangible assets they acquired and how they were valued.” That insight is borne out by the fact that “goodwill” continues to be the convenient catch all category for acquired assets. Goodwill accounted for 47% of total enterprise value, compared with 23% for recognized intangible assets and 30% for tangible and financial assets. In other words, almost half of the total value of the acquisitions and over two-thirds of the intangible portion of the acquisition where labeled as goodwill. In almost a quarter of the transactions, goodwill was the only type of intangible — no other type of intangible was reported.
So I take the Journal’s finding of a high level of goodwill not as a sign of pending doom — but as an indictment of the failure of our accounting system. Solving the problem of accurate accounting for intangibles will go a long way to solving the “problem” of goodwill. Granted there will always be over expectations/overpayment. And not all intangibles that make up an acquisition can necessarily be valued in dollars and cents. But being able to understand the difference between monetizable intangibles, other intangibles and market froth will help investors and others (i.e. managers) better understand what the company is really worth.