What are the consequences
unreliable annual reports have on value creation?
Accounting
systems (annual reports)
fail to reliably
measure the economic value of firms
and in particular the status of
intellectual capital / intangible
assets. The consequences of this on value creation processes are quite severe:
-
Information
asymmetry between those who do know about the status of intangibles in a
company and those who don’t. This in turn results in:
-
Abnormal gains to
informed investors and abnormal losses to those who are not or poorly
informed (outside investors)
-
The more
intangibles-intensive a company is, the bigger the asymmetry can become.
As a result, the volatility of firm’s stock values will increase.
-
Decreased investors’
confidence in the integrity of capital markets.
-
Increasing bid-ask
spreads (the price differential that traders and market makers are willing
to quote for buying or selling a security will increase as a form of
self-protection of the traders against asymmetric informed investors).
-
Bigger bid-ask
spreads will lead to decreased volumes of trade (each buy and sell cycle
is more expensive).
-
Large spreads and
decreased volumes of trade lead to increasing cost of capital.
-
Increased cost of
capital means slow corporate growth and a relatively weak economy.
Conclusion:
The fact that
accounting systems and annual reports don’t have to reflect the correct
status and current attributes of the economic value of firms and
intangible assets leads to information
asymmetry on intangible assets in corporations, which leads to:
1. Value Creation
below the maximum possible,
2. Management for
Value being suboptimal, and finally
3. Measurement of
Value remains difficult.
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