Converting knowledge or intellectual capital into long-term business value is, in practice, a far more difficult process than in theory. While developing and implementing knowledge or intellectual capital philosophy’s in management processes, companies experience difficulties in measuring the contribution of their intangibles to business results and, what is more critical, companies fail in their efforts to reproduce the conditions and the processes that have unlocked the value creation potential of their intangibles. The challenge for corporations in the coming years is to identify all the elements of their value creation cycle (their strategically important tangible and intangible resources) and how these must flow, interact and contribute to sustain the organic development of the organization and significantly enhance its value creation capabilities. Without a method and instruments to identify the inter-relationships and the conversion process between intangible assets – knowledge, competencies, partnerships – and all the situations and contexts to which they add value, performance measurement systems will not be able to reveal the true performance of a company or reveal the patterns of value creation. The concepts and methods that we will describe in this paper propose a critical and practical point in designing and implementing a performance measurement of intellectual capital.intellectual capital,intangible active,performance measurement system.

Adriana SCRIOSTEANU

Liviu CRACIUN

English

Research Papers in Economics

1239 
 
HOW TO MEASURE INTELLECTUAL CAPITAL? 
LIVIU CRĂCIUN, ADRIANA SCRIOŞTEANU 
 
Liviu CRĂCIUN, Associate Professor, PhD. 
University of Craiova 
Adriana SCRIOŞTEANU, Associate Professor, PhD. 
University of Craiova 
 
Keywords: intellectual capital,intangible active,performance measurement system. 
 
Abstract: Converting knowledge or intellectual capital into long-term business value is, in 
practice, a far more difficult process than in theory. While developing and implementing 
knowledge or intellectual capital philosophy’s in management processes, companies experience 
difficulties in measuring the contribution of their intangibles to business results and, what is 
more critical, companies fail in their efforts to reproduce the conditions and the processes that 
have unlocked the value creation potential of their intangibles. The challenge for corporations in 
the coming years is to identify all the elements of their value creation cycle (their strategically 
important tangible and intangible resources) and how these must flow, interact and contribute to 
sustain the organic development of the organization and significantly enhance its value creation 
capabilities. Without a method and instruments to identify the inter-relationships and the 
conversion process between intangible assets – knowledge, competencies, partnerships – and all 
the situations and contexts to which they add value, performance measurement systems will not 
be able to reveal the true performance of a company or reveal the patterns of value creation. The 
concepts and methods that we will describe in this paper propose a critical and practical point in 
designing and implementing a performance measurement of intellectual capital. 
 
At the transition from the industrial society to the information and knowledge 
society, the corporate and societal growth basis gradually changes. OECD’s report 
suggests that knowledge is a significant source of social and economic development in 
societies of today. It suggests that the public and corporate investments in the 
development of human capital - here especially education and training - will become a 
crucial engine for growth, particularly in a world marked by knowledge-intensive 
activities. The growth basis is not as much influenced by investments in physical 
machinery, buildings etc. as by knowledge which is a pivotal factor for production of 
goods and services. Knowledge is a new factor of production. Knowledge as a factor of 
production and change as a code word for modern society and modern companies are 
inseparable. Change means that society and business life must always be prepared to 
adapt themselves to new markets and technological conditions and to develop new 
organizations in support of development and learning. Knowledge will help prepare 
society and organizations to handle new challenges and ever-changing conditions as 
regards demand and technology. 
Three questions are posed in this paper: 
I.  Why does the company want to measure intellectual capital? 
II.  How is the intellectual capital measured? 
III.  What are the problems with developing a system for measurement of intellectual 
capital? 
 
 
 1240 
I.Interest in the measurement of intangible assets is rising for a number of reasons: 
a) the amount being invested in them has grown relative to tangible assets;  
b) market cap and book value are increasingly out of whack;  
c) from strategical viewpoint,  a firm’s intellectual capital was the key to its 
competitive advantage. 
Business has always relied on its intangible resources, along with tangible and 
capital resources, to create value and achieve the organization’s goals. Business 
performance and success depend on how well an organization manages its resources. 
Formerly, business resources comprised 80 percent of tangible and capital resources, 
with intangible assets making up around 20 percent. Gradually, this changed with 
intangible assets reaching 80 percent of the assets of most organizations by 1999. 
Leonard Nakamura estimated the corporate sector investment in intangible assets in 
2000 was about $1 trillion - comparable to that sector’s investment in property, plant 
and equipment. Half of this was related to the intangibles of research and development, 
and of software. The balance was other intangibles, such as brands, human resources, 
and organizational processes [Holtham,Clive,Youngman,Richard, 2000,p.2 ]. 
The 80 percent figure is calculated by considering the divergence between the 
market and book values of an organization, known as market capitalization. Though 
market capitalization is not a phenomenon specific to the knowledge economy, it has 
escalated in the knowledge economy to reach unprecedented multiples of the book 
value. Market and book values are never identical, but in the knowledge economy 
staggering market capitalization figures sent many researchers in search for the hidden 
resource that is creating such huge market values. Book values of publicly traded 
companies mainly reflect the value of tangible and capital assets of the company. 
Sometimes the book value reflects some of the intangible assets of the company under 
the heading of goodwill. This is hardly an accurate reflection of the value of intangible 
assets as it is created to balance the books following an acquisition. The market value of 
the company reflects the value of a hidden resource that is recognized and valued by the 
market, including but not limited to the company’s reputation, innovativeness, 
technological prowess, and brand equity. Market capitalization only reflects such 
resources that can create value (i.e., the company’s intellectual capital).Baruch Lev’s 
research shows that on average 85% of a firm’s market capitalization is based on 
intangibles rather than hard assets [10,p.17 ]. 
Studying market capitalization rates by reference to industry in 1995, Sveiby found 
that industries heavily dependent on intellectual capital like companies in the 
pharmaceutical and business services industries are valued at multiples of their book 
value. In contrast, companies that mainly manage tangible assets like those in 
traditional manufacturing and real estate industries have market values that are close to 
their book values. Interestingly, the best-performing companies in any industry still 
display high market capitalization rates regardless of their industry [Sveiby, K-E. ,1997, 
pp. 6-7]. 
Intellectual capital is thus strategic. This connection between intellectual capital 
and corporate strategy is pivotal as knowledge-intensive companies often make their 
intellectual capital work through organizational procedures rootable in various places, 
e.g. information systems, branded goods, patents, research, just-in-time production 
methods, extensive cooperative relations with customers and suppliers, internal training 
systems, quality management systems etc. Intellectual capital must be managed in a 
long-term perspective. It takes a long time to develop organizational competencies 1241 
because they represent experiences in combining intangible and tangible assets gained 
over time. It is developed and embodied over time. The intangible capital is tied up in 
organizational processes where the various types of tangible and intangible capital have 
“gained experience” in cooperating. This also means that intellectual capital as opposed 
to tangible capital increases in value when used. It is not exhausted from being used - 
on the contrary. It becomes stronger by being used. 
II.For an adequate management of the development and acquaintances’ application 
process, managers need a set of indicators in order to develop/monitor the way in which 
the intellectual capital evolves as a structure and how it influences the value creation 
process. 
According to Bernard Marr and Karim Moustaghfir, intellectual capital is made up 
of three main components: human capital, customer capital and structural capital 
[Marr,B., Moustaghfir,K.,2005, pp.1120-1121]. The first represents employee 
knowledge, competency and brainpower. Customer capital represents relations with 
customers, suppliers, and distributors. Organizational managers need to come to 
recognize that they do not need to operate as a self-sufficient island, but instead they 
can tap into a wealth of knowledge from their network of clients and suppliers to more 
effectively achieve the goals of their enterprises. Clients and suppliers can test products, 
give continuous feedback on organizational practices, suggest new ideas and 
perspectives to explore, co-create new products and services, refer new clients, and 
operate as sensors for developments in the field and actions of competitors. Structural 
capital designates the organizational systems, culture, practices, routines and processes. 
Structural capital is related to the value of the company’s infrastructure and the kind of 
knowledge which is stored in manuals, method guides, product concepts, information 
systems, goodwill etc [Chatzkel, J., 2002, p. 11]. 
Generally speaking, business performance in any industry is affected by an 
organization’s business processes, the capability of its employees, and its understanding 
of customers’ needs. The knowledge intensity of these three pillars of business 
performance, however, proliferates in the knowledge economy to such an extent that an 
organization that neglects managing knowledge and other forms of intellectual capital 
risks dissipating its most valuable business resources and assets. The fact that these 
resources are intangible raises the question whether they can be managed under the 
traditional management approaches, which evolved for managing tangible and capital 
resources. How do you measure something that is invisible, contained inside the human 
brain, databases, processes, culture, and products? 
The goal of intellectual capital measurement is not to determine how much 
knowledge or intellectual capital has the firm by counting the number of computers or 
key employees, but how effective the organization is in creating value from it. 
The role of measurement is to provide a framework to focus attention on the thing 
you intend to monitor. As such, measurement offers management a powerful tool that 
can influence organizational behaviour and action. The axiom “what gets measured gets 
managed” is slightly skewed. The truth is what gets measured gets noticed by top and 
senior management and, as a result, something gets done about it. Therefore, it is 
important that only the key success enablers get monitored and measured. 
Management has been dissatisfied with the use of financial measures per se to 
monitor business future performance. Financial measures (e.g., ROI) are too general to 
indicate the areas that management should focus on to drive future competitive 
performance. Because financial measures are retrospective in nature, they also fail as 1242 
predictors of current problems the organization is facing. Since the beginning of the 
industrial revolution, management recognized that financial reporting offers too little, too 
late and developed performance measures. The oldest are found in the manufacturing 
industry. Its “units per hour” indicator measured production performance. Hotels used 
bed occupancy rate, while universities reported their graduate employment rate. 
Confirming previous studies, a study by Ernst & reveals that the present-day 
capital market is indeed interested in the types of non-financial key figures reported by 
the intellectual capital. The Ernst & Young study emphasizes the role of such non-
financial key indicators in improving the preciseness of the financial analysts’ forecasts: 
The Ernst & Young study mentions the following eight factors: the quality of the 
management, the efficiency of the product development, the strength of the market 
position, the strength of the company culture, pay policy in connection with senior 
management, the quality of communication with investors, the quality of products and 
services, customer satisfaction. Non-financial factors can be used as leading indicators 
of future financial performance. 
To measure intellectual capital without focus is an impossible, though theoretically 
attractive, endeavour. Focus is introduced by first identifying, and later monitoring, 
factors that are critical for the organization to meet its strategic goals. The intellectual 
capital measurement systems become a tool to implement strategy and convert the 
organization’s vision into action by zeroing in on what needs to be done and how to 
accomplish it. 
Performance measurement can be divided into three main phases which are 
designing, implementing and using performance measures [Neely ş.a., 2000, p.1143]. 
Sometimes updating the measurement system is considered as a fourth phase. 
Designing refers to choosing what to measure and defining the performance measures 
[Bourne ş.a., 2000, p.757].Implementing refers to putting the measures in practice by, 
e.g., educating employees and developing information systems [Bourne ş.a.,. 2000, p. 
758]. Performance measurement research has focused most on designing, almost as 
much on implementing and least on using performance measurement [Liebowitz, J., 
Suen, C.,2000]. 
Consequently, the process for choosing indicators or metrics used by the 
measurement systems is similar and follows these general steps: 
1. Use one of the intellectual capital structures. 
2. Identify the assets that will be monitored under each of the classes by 
determining the desired outcomes. 
3. Determine the key success factors (KSFs) that will enable the attainment of the 
desired outcomes, and link them to financial performance. 
4. Design indicators that monitor the KSFs. 
5. Measure and track the indicators over a defined period of time. 
6. Review and adjust. 
The measurement of intellectual capital is possible by means of four categories 
forms:  
• Human resources. This category covers statements about the composition, 
management and satisfaction of the human resources. 
• Customers. This category covers statements about the composition, management 
and satisfaction of the customers. 
• Technology. This category typically covers statements about the scope, function 
and application of the IT system. 1243 
• Processes. This category typically covers statements about the scope, equipment 
and efficiency of the business activities. 
The following table indicates how the management of the company measured the 
development of the company’s intellectual capital. 
Table 1 
Indicators for capital intellectual evaluation 
Categoria   Indicatori 
Human resources  Employee satisfaction Human resource turnover, % of 
employees with development plan, Number of 
development days per employee 
Customers Customer  satisfaction,  Repeat purchase , Customer with 
long-term relations, Customers per employee, 
Reputation of the company 
Technology  Total IT investments , PC’s per employee, IT expenses 
per employee, IT literacy  
Processes  Human resource distribution by processes Product 
development time, Lead time, Error rate, Waiting 
time,Quality , ,Investments in R&D and infrastructure 
 
III.Despite the attraction of these various indicators in providing a high degree of 
transparency as to the organization’s operations, intellectual wealth and its management 
goals and procedures, they hardly provide a common standard for measurement for next 
reasons: 
• is almost always intangible and difficult to measure. 
• is difficult to reduce to a homogenous value form; frequently, its value is inferred 
from the impact it has on the value of the organization, its competitiveness, or the 
organization’s output. 
• is not linked to an economic actor. 
• not reside with an individual but in the networks/relationships between 
individuals. 
• includes processes as well as assets participating in processes. 
• embodies past mental (or, in some forms, social) effort, as well as past physical 
effort. 
• is not separable from its location (in particular, its temporal location). 
• ownership is ambiguous. 
• some forms of intellectual capital are themselves transformed in the production 
process. 
• captures less measurable aspects of the production process in order to explain 
why seemingly identical production processes, in terms of traditional factors of 
production, can yield such different results across organizations. 
The link between these new forms of capital and an economic (social) class is 
uncertain, if it exists at all. Importantly, in these hybrid forms, capital is no longer a 
stock—a durable asset—but a dynamic process. 
 
Conclusions 
The evaluation methods of the intellectual capital will become absolutely necessary 
in the future in order to explain the way in which the intellectual capital creates value. 1244 
Top companies will change the focus on the performance measuring systems elaborated 
in the past century because these are no longer relevant in today’s economy. Ideas and 
information matter more than capital. The requirements of the external medium 
regarding the progress reference to the level of intangible assets will multiply. 
Organizations’ managers are obliged to take the initiative of measuring, managing and 
distribute the information referring to the way in which the organization generated 
value for stakeholders, employees, clients and the rest of investors. 
 
 
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Defining intellectual capital: a threedimensional approach,

Designing, Implementing and Updating Performance Measurement Systems,

Developing knowledge management metrics for measuring intellectual capital,

Implementing performance measurement systems: a literature review,

Intellectual Capital, Capstone Publishing,

Measurement and reporting of intangibles– a european policy perspective,

Measuring what People Know,

Performance Measurement System Design: Developing and Testing a ProcessBased Approach,

The New Organizational Wealth: Managing and Measuring Knowledge-Based Assets, Berrett-Koehler Publishers Inc.,

Valuing Intangible,

How to Measure Intellectual Capital?

How to Measure Intellectual Capital?

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