Reporting intangible assets: Voluntary disclosurepractices of top emerging market companies

Keywords: Voluntary disclosures; Intangible assets; Emerging market companies

Available online at www.sciencedirect.com

The International Journal of Accounting46 (2011) 4024231. Introduction

While there is an increasing awareness of investment opportunities in emergingeconomies,1 these markets generally are not considered to possess and/or maintain high-quality and transparent financial reporting frameworks. Emerging market companies, there-fore, engage in voluntary disclosure practices in order to compete for funds on equal terms

Corresponding author.E-mail address: helen.kang@unsw.edu.au (H.H. Kang).

1 An emerging market is an economy that satises two criteria: (1) a rapid pace of economic development andHelen H. Kanga,, Sidney J. Grayb

a School of Accounting, The University of New South Wales, Sydney NSW, Australiab The University of Sydney Business School, Sydney NSW 2006, Australia

Received 31 August 2009

Abstract

This study is the rst to empirically examine the applicability of the Value Chain Scoreboardproposed by Lev (2001) as an alternative disclosure framework for intangible assets (IA). The contextof the research is the top 200 emerging market companies, which are the focus of increasing interna-tional attention. We empirically examine the extent of IA disclosures and nd that emerging marketcompanies do actively engage in voluntary disclosure practices to disseminate mainly quantitativeIA information to their global stakeholders. Corporate-specic factors such as the adoption of IFRS/U.S. GAAP, industry type, and price-to-book ratio are key inuences signicantly associated withthe level of IA voluntary disclosure. In addition, country-specic factors, including risks associatedwith economic policies and legal systems, are found to be signicantly associated with the level ofIA disclosure. 2011 University of Illinois. All rights reserved.(2) one where the government policies favor economic liberalization and the adoption of a free-market system(Hoskisson, Eden, Lau, & Wright, 2000).

0020-7063/$ - see front matter 2011 University of Illinois. All rights reserved.doi:10.1016/j.intacc.2011.09.007

with other corporations originating from developed economies in international markets(Wang and Claiborne, 2008; Purushothaman et al., 2000; Meek et al., 1995). Voluntary dis-closures are additional disclosures, primarily outside the financial statements, that are notexplicitly required by GAAP or any accounting standards (Wang and Claiborne, 2008;Boesso, 2002). Disclosure studies assume that managers have superior information to out-side investors on their firms' expected future performance; therefore, voluntary disclosures

403H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423are associated with lower agency costs, reductions in the cost of capital, and improvementsin the market price of securities (Leuz and Verrecchia, 2000; Botosan, 1997).

The focus of our study is on one particular type of disclosure that has become popular inrecent years; the disclosure of information about intangible assets (IA). An intangible assetis a claim to future benefits that does not have a physical (e.g., building or equipment) orfinancial (e.g., stock or bond) embodiment (Lev, 2001).2 For example, patents, brandnames, and unique organizational infrastructures that generate cost savings for companiescan be defined as IA. The relatively recent growth of the service sector and of informationtechnology-related businesses, along with the dramatic increase in the number and size ofinternational mergers and acquisitions, has made accounting for IA very significant (Lev,2001; Saudagaran, 2001).

Currently, there are few comprehensive guidelines for corporations in either Internation-al Financial Reporting Standards (IFRS) or in U.S. GAAP on how to report IA, other thanfor purchased goodwill and some development costs, in company financial statements.3

That is, while the importance and the necessity of such assets in creating and maintainingcorporate value have been widely accepted, traditional financial reporting frameworks un-fortunately do not capture many of these value drivers (Jenkins and Upton, 2001; Upton,2001; Lev and Zarowin, 1999) due to the non-physical nature of IA and the subsequentuncertainties associated with their future benefits. It may be nave to assert that totaltransparency regarding IA would automatically enhance the quality of corporate informa-tion being distributed to external stakeholders; however, given the increasing importanceof IA in driving corporate value, it can be argued that corporations should nonetheless vol-untarily communicate relevant and useful information on IA to their stakeholders. Whilethe concept of IA management and reporting practices in developed economies has beenexamined in the previous literature, the status of IA voluntary disclosure practices, and cor-porate and country specific factors behind such practices, in the emerging economies hasnot. In this study, we examine the voluntary disclosure practices of the top 200 emergingmarket companies in respect of information about IA. Specifically, we develop a disclosureindex based on the Value Chain Scoreboard (Lev, 2001) to investigate both its applica-bility, which has not been assessed empirically, and the extent of IA voluntary disclosurepractices. We also evaluate some of the likely factors that may influence the level of IAdisclosure.

2 It has been argued that the terms intangibles, knowledge assets, and intellectual capital can be used inter-changeably and they all refer essentially to the same thing (Lev, 2001; p. 5). Mouritsen (2003; p. 18) claims thatintellectual capital is presented as the intangible stuff, out of which value in a knowledge society and thereforeknowledge organisations are created. Sveiby (1997) views intangible assets as a combination of knowledge-based assets. For the purpose of the current study, we adopt Lev's views.3 For denition and recognition criteria, see AASB 138 [AASB, 2004], SFAS 142 [FASB, 2001], and IAS 38[IASC, 2004]. Most IA would fail the recognition criteria set out in these standards.

The remainder of the paper is structured as follows. Section 2 reviews the existing liter-ature on IA and reporting practices in emerging markets. In Section 3, we develop an IAdisclosure index based on the Value Chain Scoreboard. Our research methodologyand findings appear in Sections 4, 5, and 6. Conclusions and suggestions for future re-

sure from international markets to improve the transparency of corporate information (Meek

404 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423et al., 1995). However, despite the fact that the political and economic importance of these

4 For example, see the special issues of the European Accounting Review (2003; Vol. 12, No. 4) Intangiblesand intellectual capital; Accounting, Auditing and Accountability Journal (2001; Vol. 14, No. 4) Managing,measuring and reporting intellectual capital for the new millennium; and (2003; Vol. 16, No. 1) Intellectual cap-search are presented in Section 7.

2. Reporting IA in emerging markets

Reporting IA has become one of the most debated issues both in academia and in practicedue, in part, to the growing gap between the book value and market value of companies(Beattie, 2005; Brennan, 2001; Sveiby, 1997) and the difficulties associated with recogniz-ing IA, and how to report on IA as part of the audited financial statements as well as outsidethe financial statements. As a result, several academic journals have carried special issueson this topic in the last few years.4

While most developed countries have been the focus of studies on IA voluntary disclo-sure practices in their domestic markets in recent years, there have been few studies thatfocus on corporate reporting practices in emerging markets (Leventis and Weetman,2004; Belal, 2001). The status of voluntary disclosure in emerging markets is importantfor two reasons. First, with increasing globalization, the capital markets of developing coun-tries are now available to investors all over the world. These investors increasingly demandmore reliable and relevant information on companies' financial performance as well as moretransparent information on corporate value, including their IA. Second, given the currentharmonization initiatives in developed markets, as well as in emerging economies, it is es-sential to understand the current reporting practices of emerging market companies and toidentify possible factors, such as the existence of accounting regulations, industry type,and stock market listings that may cause different business reporting practices regarding IA.

Further, companies most likely to benefit from voluntary disclosures are those that oper-ate in markets that are not developed enough to impose high-quality accounting standardsand enforce them in cases of violations. In recent years, the developing economies have pro-duced a set of high-risk, high-return companies vying for foreign investors (Saudagaran andDiga, 1997; Price, 1994). These emerging market companies compete in global marketsbased on their IA more than companies in any other markets, since most of these companiesare part of the new economy, have heavily invested in intangible competencies and capa-bilities, and have formed joint ventures and other business networks (Hooke, 2001). Subse-quently, these companies are very likely to engage in voluntary disclosure practices tolegitimize their investments in value-creating activities based on IA.

Emerging market companies looking to raise foreign capital are now under intense pres-ital and the capital markets.

emerging market companies has grown considerably over the past two decades, relativelylittle has been written about their corporate reporting practices (Saudagaran and Diga,1997). This is especially true as regards corporate social, environmental, and other non-

ideas, transformed to workable products and services, are brought to the market to generatesales and earnings. IA information from this final phase is particularly valuable to stake-

405H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423holders since it shows the end results of the IA-related investments made by corporations.That is, corporations are expected to disclose as much information about the benefits reapedfrom the IA investment to stakeholders as they can in the narrative sections of corporateannual reports.

5financial value drivers, such as IA (Belal, 2001). In summary, there exists a pressure onemerging market companies to voluntarily produce more information in order to attract for-eign investment; subsequently, more empirical research should be conducted on the currentstatus of factors that may influence voluntary disclosure practices in emerging markets.

3. Reporting IA: is Value Chain Scoreboard the answer?

According to Lev (2001), increased reliance on IA to create value has called for a newframework to report corporate performance.5 Lev's Value Chain Scoreboard seeks tolink IA with the corporate value creation process and likely has the most potential to bean external reporting model that can be included as part of corporate business reporting(Nielsen, 2005). It is aimed at informing both managers and investorsabout the compa-ny's innovation activities, with special emphasis on investment in intangibles and theirtransformation to tangible results (Lev, 2001; p. 119). It is a matrix of non-financial indi-cators arranged in three phases according to the cycle of development. To our knowledge,there exists no empirical disclosure study that has utilized the Value Chain Scoreboardto examine IA reporting practices.

Lev's proposal for a new information and reporting system starts with a discovery of newproducts and services or processes (the Discovery and Learning Phase). The first phase in-volves the discovery of new ideas for products, services, or processes that are the core IA ofthe company to be implemented in order to create value. It initiates the corporate value chainand, therefore, should be the most intangible-intensive value creation phase for companies.Subsequently, it is expected that corporations would voluntarily disclose much of this kindof information in their annual reports. The second phase, Implementation, involves achiev-ing technological feasibility of the products, services, or processes under development. It isa particularly important phase of the value chain since it is concerned with the process ofhow to implement discoveries and ideas identified in the previous phase and how to reapthe benefits of intangible resources. It is possible, however, that companies may considerinformation regarding the implementation of discoveries and ideas to be too sensitive tobe disclosed to the general public for the sake of competitive advantage. The final phase,Commercialization, signifies the successful realization of the innovation process, whereFor a comprehensive review of alternative IA reporting frameworks, see Bismuth and Tojo (2008).

406 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 4024234. Hypothesis development

We expect that, in general, emerging market companies would voluntarily discloseIA information in their annual reports in response to firm- and country-specific factors(Garca-Meca et al., 2005; Williams, 2004). It has been noted previously that there is no sin-gle conceptual theoretical framework that can adequately capture the determinants of volun-tary disclosure practices, especially those regarding social and environmental issues(Cormier et al., 2005; Campbell, 2000; Gray et al., 1995). For example, Cormier et al.(2005) also concede that, despite widespread academic and business interests in the issue,a comprehensive theoretical framework of the underlying determinants of corporate disclo-sure is still elusive. As a result, these studies suggest that three of the most popular theories,Agency, Legitimacy, and Stakeholder theories, can separately and together explain firm-and country-specific effects on the level of voluntary disclosures. It seems that voluntarydisclosures are considered not as a systematic process, but likely subject to popularity trendsthat dictate corporate disclosure policies.

4.1. Firm size

Firm size is perhaps the most consistent corporate-specific characteristic found to be as-sociated with the level of voluntary disclosure. Different measures of voluntary disclosure,including social responsibilities, environment, employees, ethical issues, corporate gover-nance, and intellectual capital, have been examined and found to be positively associatedwith firm size (Garca-Meca et al., 2005; Cormier and Gordon, 2001; Adams et al.,1998). It is, however, important to note that there is no suggestion that the size of the cor-poration causes differing levels of voluntary disclosure per se rather, a large corporationis more likely to have underlying reasons for increased disclosure (Cooke, 1989). Subse-quently, for the purpose of the current study, it is hypothesized that:

H1. There is a positive association between firm size and the level of IA voluntary disclosure.

4.2. Ownership concentration

Agency Theory suggests that where there is a separation of ownership and control of afirm, the potential for agency costs arises because of conflicts of interest between the twocontracting parties (Fama and Jensen, 1983). Subsequently, the potential for conflicts be-tween principal and agent is greater for companies whose share ownership is widely heldthan in more closely held companies. Stakeholder Theory also supports the notion thatlow concentration of ownership indicates the existence of a more diverse group of stake-holders of the company, and, subsequently, the company has more incentives to disclose in-formation to respond to the different perspectives of different stakeholders (Cormier et al.,2005). Therefore, it is proposed that emerging market companies with high ownership con-centration would have less incentive to voluntarily disclose IA information, and, thus, thefollowing hypothesis is developed:

H2. There is a negative association between ownership concentration and the level of IA

voluntary disclosure.

4.3. Leverage

According to Agency Theory, a corporation with high leverage has an incentive to dis-close more information (Jensen and Meckling, 1976). Since creditors can price-protectthemselves via restrictive debt covenants, managers have incentives to increase disclosures

407H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423to reduce agency costs, which would suggest a positive relationship between the level ofvoluntary disclosure and leverage. That is, corporations with high debt are generallyunder greater scrutiny by creditors to ensure that they are not violating debt covenants.Such scrutiny would result in corporations disclosing more comprehensive informationon different corporate items, especially those relating to debt covenants (Jaggi and Low,2000).6 Thus, the following hypothesis is developed:

H3. There is a positive association between leverage and the level of IA voluntary disclosure.

4.4. Adoption of IFRS/U.S. GAAP

Emerging market companies must consider whether financial information in annual re-ports should be based on the national disclosure requirements or on the requirements ofIFRS or U.S. GAAP.7 It has previously been found that companies are more likely to pre-pare their financial statements using IFRS or U.S. GAAP when, by doing so, they can pro-vide more standardized and comparable financial information relative to the informationgenerated via their domestic reporting requirements (Ashbaugh, 2001; Street et al., 1999).

There is, however, a possibility that emerging market companies are adopting IFRS orU.S. GAAP without the willingness to fulfill all of the requirements and obligations. Thatis, an emerging market company may adopt IFRS or U.S. GAAP not necessarily to providemore transparent and reliable information, but rather for the perceived benefits of adoptingsuperior accounting standards, since users are likely to consider such adoption to be asso-ciated with an improvement in accounting quality (Barth et al., 2005). As a result, these com-panies do not have incentives to provide any additional voluntary disclosures since theyalready have enhanced user perceptions of transparency and reporting quality by adoptingIFRS or U.S. GAAP. The following hypothesis is thus developed:

H4. The level of IA voluntary disclosure is lower for emerging market companies adoptingIFRS or U.S. GAAP.

4.5. Listing status

The disclosure requirements imposed on emerging market companies in their domesticcapital markets differ greatly, both in their adequacy and quality, and companies will likely

6 This is also supported by legitimacy and stakeholder perspectives: high debt indicates companies may volun-tarily disclose more information in order to meet rising expectations of creditors and for management to legitimizeits actions to creditors as well as to shareholders (Haniffa and Cooke, 2005; Purushothaman et al., 2000).7 IFRS and U.S. GAAP generally are considered to be superior to the requirements put forward by most of the

standard setters, if any, in emerging countries. While the validity of such a statement is debatable, it is not withinthe scope of this study to consider the debate; the current study is only concerned with the perception of the said

superiority.

choose to voluntarily disclose corporate information that would assist the perception oftransparent and reliable reporting practices in global markets. Foreign market-listed com-panies would respond to the pressures of various interest groups and voluntarily disclosemore information in order to realize the potential benefits of a foreign listing, such as

408 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423obtaining capital at a lower cost (Hope, 2003). That is, emerging market companies listedon foreign stock exchanges may engage in a higher level of voluntary disclosure of IA in-formation than those emerging companies not listed on the foreign exchange.8 The follow-ing hypothesis is thus developed:

H5. The level of IA voluntary disclosure is higher for emerging market companies listedon foreign stock exchanges.

4.6. Industry type

For the purpose of this study, industry type is considered from the IA perspective. Tech-nology and brand names are arguably the most important, or at least the best known, intan-gible assets (Barth et al., 2001). Further, companies operating in intangible-intensiveindustry sectors, such as IT/telecommunications, invest heavily in intangibles, such asR&D and brand development, which are usually not recognized in financial statements(Amir and Lev, 1996). Therefore, it is proposed that emerging market companies fromthe IT industry and consumer services and products industries (hereafter referred to asIA-intensive) are likely to voluntarily disclose IA information in their annual reportsin order to communicate the value of their activities. This categorization is similar tothe one used in the social responsibility literature where authors divided companies intotwo industry sectors: socially sensitive and less sensitive (Adams et al., 1998;Cowen et al., 1987). The following hypothesis is thus developed:

H6. The level of IA voluntary disclosure is higher for emerging market companies in IT-related consumer services and product industries.

4.7. Price-to-book ratio

The price-to-book ratio represents the discrepancy between the market capitalization andaccounting book value of each company. That is, a high ratio may indicate that a company isbeing overvalued compared to its book value in the market, possibly due to hidden IAthat have not been recognized as part of its accounting book value (Brennan, 2001; Lev,2001; Leadbeater, 2000). Based on that premise, previous studies have argued that in-creased disclosure of IA could reduce the gap between market and book value of the corpo-ration (Brennan, 2001; Sveiby, 1997).9 That is, a company with such a gap may have anincentive to consider disclosing IA information voluntarily in other parts of the annual

8 While it is possible that the listing requirements of foreign exchanges demand more corporate information,they usually do not include information on IA, and not as part of the narrative sections of annual reports.9 Some argue, however, that this is a simplistic explanation of the way the market values companies (for exam-

ple, see Holland, 2003; Johanson, 2003). For the purpose of the current study, the valuation process of the marketis not under investigation nor is the cause-and-effect relationship between price-to-book ratio and the level of IA

disclosure.

report in order to justify to stakeholders why there is such a discrepancy. Another notion be-hind the positive relationship between price-to-book ratio and the IA disclosure level is thatcompanies with high price-to-book ratios must have performed relatively well or have thefuture potential to perform well, which is being recognized by the market. These companieswould want to inform their stakeholders of such potential by voluntarily disclosing IA infor-mation in their annual reports. The following hypothesis is hence developed:

409H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423H7. There is a positive association between the price-to-book ratio and the level of IA vol-untary disclosure.

4.8. The level of IA recognition

Hypothesis H8 is complementary to Hypothesis H7, and is concerned with whether therecognition of specific IA in company financial statements is associated with IA voluntarydisclosure in the narrative sections of annual reports.10 The association between IA recog-nition and IA voluntary disclosure can be considered from two opposing viewpoints. Onthe one hand, companies not recognizing their IA in financial statements have incentivesto justify and specify their IA by voluntarily disclosing information in narrative sectionsof their annual reports to notify the market and stakeholders that they do possess varioustypes of IA; the IA are not recognized in the balance sheet simply due to recognition cri-teria as per reporting standards. Accordingly, there would be a negative association be-tween the level of IA recognition and the level of IA voluntary disclosure.

On the other hand, companies recognizing IA in their balance sheets have incentives tojustify their capitalization given the contentious issues involved. Indeed, if companies ac-quire IA by purchase, the value of such acquisitions may be questioned by various stake-holders, and subsequently, companies would need to disclose further information. Anotherexample would be the recognition of development costs. While the capitalization of suchcosts is allowed under the rigorous criteria of IFRS, companies may feel the need to elab-orate on the processes and activities undertaken. That is, there may be a positive associa-tion between IA recognition and the level of IA voluntary disclosure. Based on thesetwo opposing propositions, the following hypothesis is developed:

H8. There is an association between the level of IA recognition and the level of IA volun-tary disclosure.

4.9. Age of firm

This hypothesis is concerned with the age of the company from its inception.11 It is pro-posed that older and more established companies are more likely to have a chain of value

10 IFRS allows recognition of specic IA such as purchased patents, licenses, and some development componentof R&D. There exists no domestic accounting standard that prohibits recognition of such IA that is, any emerg-ing market company, adopting either IFRS or its national standards, wanting to recognize these IA could havedone so.11 For the purpose of the current study, age of company as of the nancial year ending 2002 was measured by

subtracting the company's establishment year from the year 2002.

410 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423creating IA as part of their operating activities since these companies have had more timeto establish their customer and supplier networks, contribute toward communities, and setup opportunities, such as alliances with research centers and universities, to benefit fromthese ventures. Thus, older firms are more likely to engage in voluntary disclosure prac-tices (Alsaeed, 2006) and may be considering expansion that will involve accessing globalmarkets to raise capital. As such, they would likely engage in voluntary disclosures of IAinformation. The following hypothesis is thus developed:

H9. There is a positive association between the age of the company and the level of IAvoluntary disclosure.

Given the sample companies' emerging economies status, it is also proposed that somecountry-specific variables may also influence the level of IA voluntary disclosures. As pre-viously discussed, emerging economies are associated with high returns and high risks(Saudagaran and Diga, 1997). For the purposes of our study, we consider three of thesecountry-specific risks as measured by the Opacity Index (Kurtzman et al., 2004); risks as-sociated with the effectiveness of economic policy, legal and judicial environment, andregulatory system.

4.10. Economic risks

Companies from a country where there is a high risk associated with economic policieswill likely disclose less voluntary information due to the inherent lack of country-leveltransparency (Williams, 2004; Archambault and Archambault, 2003). On the other hand,these companies may well engage in voluntary disclosure practices in order to negate theperceived problems stemming from the deleterious economic problems associated withthe country of origin. Thus, the first hypothesis regarding the country specific variables is:

H10. There is an association between the economic risks faced by the company in itscountry of origin and the level of IA voluntary disclosure.

4.11. Legal system risks

The relationship between legal system and financial reporting practices is well estab-lished (Jaggi and Low, 2000). Legal system risks comprise a country's overall legal envi-ronment and provide a gauge of how effectively its legal system resolves business disputesas well as what protections it grants to businesses, investors, and other sources of capital. Ithas been argued that common law countries generally have a greater dispersion of corpo-rate ownership and offer better legal protection; therefore, they have lower risks associatedwith legal systems (Archambault and Archambault, 2003). On the other hand, companiesoriginating from those countries with higher degree of risks may have incentives to volun-tarily disclose information to increase transparency in order to moderate the perceived risks(Khanna et al., 2004). Thus, the following hypothesis is developed:

H11. There is an association between the legal system risks faced by the company in its

country of origin and the level of IA voluntary disclosure.

4.12. Regulatory risks

The last hypothesis to be examined in this study concerns the degree to which eachemerging economy is willing to regulate its capital markets; that is, how safe is it to pro-vide capital to an emerging economy (Kurtzman et al., 2004). The risk measure is basedon the two broad questions: (1) Can investors in a given country get a full understandingof the companies in which they invest? and (2) Are there mechanisms for settling disputes

411H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423that arise out of the investment process? Regulatory risks are also highly correlated withthe perceived level of corruption in each country as well as with the regulatory frameworkand government effectiveness in controlling such framework12 (Kurtzman et al., 2004).That is, in emerging markets where such risks are prevalent and accepted as part of the per-ceived social norm, companies may not engage in voluntary disclosure practices since theywould not need to legitimize their activities as much. On the other hand, emerging marketcompanies originating from countries with such a stigma may engage in voluntary disclo-sure practices to counter such a negative association. The final hypothesis is:

H12. There is an association between the regulatory risks faced by the company in itscountry of origin and the level of IA voluntary disclosure.

5. Research methodology

5.1. Sample selection

A list of the top 200 emerging market companies in 2002 was obtained from the July 14,2003 issue of BusinessWeek. The top 200 companies are likely to provide both local lan-guage and English annual reports, in view of international investor interest13 and have suf-ficient financial resources to engage in voluntary disclosure practices. Based on the list,each company's annual report for the financial year ending 2002 was collected.14 Fromthe 200 initial sample companies, 19 were eliminated due to unavailability of English an-nual reports, leaving a final sample of 181 emerging market companies.

For the purposes of our study, we consider only the narrative sections within the annualreport. According to Beattie et al. (2002), narrative disclosures are those largely voluntarydisclosures contained in the unaudited sections of the company annual reports. Consistentwith their approach, we define narratives as company highlights, chairman's statement,CEO's review, management discussion and analysis (or equivalent), people, community,and other social responsibilities sections, captions from pictorial materials, and sustainabilityreports, if part of the annual report package. Subsequently, we exclude financial statements,

12 For example, regulatory risk scores are highly correlated to the Corruption Perception Index as published byTransparency International. The risks are also highly correlated with the measures for effectiveness of the govern-ment and regulatory framework as published by the World Bank (Kurtzman et al., 2004).13 As the analysis in the current study is carried out in English, the availability of English annual reports is animportant issue. While the contents of annual reports produced in different languages may vary, and the examina-tion of such differences would provide interesting comparisons, it is beyond the scope of the current study.14 There were three different nancial year-ends: while December 31 was the most popular balance date, othercompanies used June 30 or March 31 as their year-ends. These differences were not considered to inuence the

level of IA disclosure, and, hence, balance dates were not considered as a variable in the content analysis.

the auditor's report, the directors' declaration, remuneration, and background information,corporate governance statements, contents, shareholder information, and the list of operatingcompanies.15

5.2. Dependent variable the level of IA disclosure

The dependent variable, the extent of IA voluntary disclosure, was measured using thedisclosure index based on the Value Chain Scoreboard. The index comprises 28 items

of the disclosure index. A few months later, the same author re-coded 30 randomly selectedsample annual reports to examine stability of coding. Another research assistant independent-

None of the 28 items was required to be disclosed as part of the annual reports under GAAP in the respectivesample countries, nor under U.S. GAAP or IFRS. That is, any disclosure on these items should be considered

412 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423voluntary.17 The disclosure index and its detailed descriptions were also sent to Professor Lev for further clarication andapproval as to whether they correspond with what he envisioned to be part of the Value Chain Scoreboard. Hegenerously provided his opinion and feedback on each index item and its description, which were incorporatedly coded the same annual reports to test reproducibility. No significant differences were foundin either the stability or reproducibility examinations of the contents. The measure for the ex-tent of IA disclosure was the percentage of IA disclosure as the portion of total narrative dis-closures. Based on each item of the disclosure index, the number of words used to discloseIA items in annual reports as well as the total number of words used in the narrative section ofthe annual report were counted for each of the 181 sample companies. Subsequently, the per-centage of total narrative disclosure in the annual report devoted to IA for each company wascalculated overall and for each phase of the value chain.

5.3. Independent variables

For the purposes of this study, we examine 12 corporate- and country-specific indepen-dent variables. Most of the data collected for corporate variables are from the individualcompany's annual report. Where possible, the company's website was also examined forinformation not available in the annual report. Table 1 lists the independent variablesand proxies as well as the data source.

15 Excluded materials were analyzed as part of the pilot study in order to conrm that these materials did not in-clude IA information. The analysis found no signicant, if any, IA disclosures in sections excluded from the mainanalysis.16under three phases of the value chain.16 The index scores can be considered to be validif they mean what the researchers intended (Marston and Shrives, 1991). The meaningsof each disclosure item were considered carefully by both authors, and the definitionsand details were discussed with academics currently teaching IA management.17 Fig. 1represents a summary of the final 28 index items included in the disclosure index usedin the current study.

Subsequently, 181 annual reports were coded by one of the authors using the final versioninto the nal version of the disclosure index.

Phase 1: Discovery and Learning

413H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423Phase 2:

Internal Renewal

1. R&D 2. Workforce training 3. Management processes

Acquired Capabilities 4. Infrastructure assets 5. Spillover utilization

Networking

6. Business collaborations 7. Customer integration 8. Supplier integration 9. Communities of practice 6. Results

6.1. The extent of IA disclosure

In summary, the number of emerging market companies disclosing IA information intheir annual reports was quite high, and, surprisingly, most companies disclosed quantita-tive IA information.18 As Table 2 shows, only 3 out of 181 sample companies were foundnot to have disclosed IA information in their annual reports. Most companies disclosed

Implementation

Intellectual Property

10. Patents, trademarks 11. Licensing agreements

Technological Feasibility

12. Government approvals 13. Beta tests, working pilots 14. First mover

Internet

15. Online management 16. Online trading 17. Major internet alliances

Phase 3: Commercialization

Customers 18. Marketing innovation 19. Brand values 20. Customer churn and value 21. Environmental reporting

Performance

22. Market share 23. Innovation revenue 24. Patent and know-

how royalties

Growth Prospects 25. Product pipeline 26. Expected efficiencies 27. Planned initiatives 28. Expected breakeven and

cash burn rate

Fig. 1. Intangible assets disclosure index based on the Value Chain Scoreboard.

18 61.05% of the sample companies disclosed quantitative IA information for the Discovery and Learning phase;63.93% disclosed quantitative information for the Implementation phase; and 70.59% of the companies disclosedquantitative IA information stemming from the Commercialization phase.

closure in annual reports of the sample companies. On average, 31.70% of the total narra-tive disclosure in annual reports was regarding IA, and the extent of disclosure wasthe greatest for the Discovery and Learning phase (63.40% of IA disclosure). Within theDiscovery and Learning Phase, internal renewal items (e.g., R&D and employee training)as well as networking items (e.g., customer relationship and business collaborations) werethe most disclosed items in the company's annual report. The second most disclosed phaseof the value chain was Commercialization, which constituted 31.20% of the total disclo-sure. Most of the disclosure in this phase was due to disclosure about how the corporationincreased customers' awareness of the company via brand name and innovative marketingstrategies.

The reluctance of companies to disclose how they implemented their IA is quite evi-dent; only 5.70% of IA disclosures were based on the Implementation phase of the valuechain. This particular phase comprises feasibility studies, intellectual property, licensesand government approvals all processes required by the corporation to turn their intan-gible resources into benefits. Indeed, while corporations were willing to disclose informa-tion on what they have in intangible resources and what they have received in return bycommercializing these intangible resources, they were less forthcoming in disclosing infor-mation on how they implemented their IA. This is perhaps not surprising given the sensi-tive nature of the items in the Implementation phase. Companies would likely be unwillingto disclose too much information that may reveal their competitive advantage.

414 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423,information on IA stemming from the Discovery and Learning and Commercializationphases of the Value Chain 95.03% and 93.92% of the sample companies, respectively,while only 67.40% of the 181 sample companies voluntarily disclosed information on IAstemming from the Implementation phase.

The current study uses a percentage of total narrative disclosure allotted to each IA itemto be the measure of the extent of IA disclosure. Table 3 summarizes the extent of IA dis-

Table 1Constructs of the independent variables and the data collection process.

Independent variable Measurement Data source

H1 Firm size Log of market capitalization BusinessWeek,July 14, 2003

H2 Ownershipconcentration

% of ordinary shares held by those other than thetop shareholder

Annual Report

H3 Leverage Total assets/total equity Annual ReportH4 Adoption of IFRS

or U.S. GAAP0 for using national standards; 1 for U.S. GAAP/IFRSused in financial statements

Annual Report

H5 Listing status 0 for no listing; 1 for listing on U.S./U.K.stock markets

Annual Report,NYSE, LSE

H6 Industry type 0 for non-IA intensive, 1 for IA intensive Annual ReportH7 Price-to-book ratio Price-to-book ratio BusinessWeekH8 IA recognition % of IA to TA recognized on the balance sheet Annual ReportH9 Age of company Age of the corporation as of the financial year 2002 Annual ReportH10 Economic risks Opacity Index measure Kurtzman et al. (2004)H11 Legal systems risksH12 Regulatory risks

6.2. Multiple regression models

A series of multiple linear regression analyses was conducted to test the 12 hypothesesdeveloped. While all due care was taken regarding the data collection process, it was nopossible to collect data for all 181 sample companies for all 12 independent variables. Subsequently, the final valid sample size for the multiple regression analysis was 144. Table 4summarizes descriptive statistics of the 12 independent variables.

Table 2Sample companies.

Panel A: 181 sample companies and IA disclosure

Sample companies

Initial sample size 200Companies without annual reports 13No English annual report available 6Total available annual reports 181

Country # of companies Country # of companie

Argentina 2 Mexico 12Brazil 15 Pakistan 1Chile 7 Peru 1China 17 Philippines 1Czech Republic 3 Poland 4Hungary 3 Russia 12India 11 South Africa 16Indonesia 4 Taiwan 19Israel 5 Thailand 8Jordan 1 Turkey 6Korea 19 Venezuela 1Malaysia 13

Table 3Extent of IA voluntary disclosure.

IA Item Mean Min Max SD

Total disclosure 0.317 (100%) 0.00 0.76 0.158Discovery and learning 0.201 (63.4%) 0.00 0.64 0.123Implementation 0.018 (5.7%) 0.00 0.13 0.025Commercialization 0.099 (31.2%) 0.00 0.44 0.078

415H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423t-

sIA disclosure in annual reports Number of companies

Companies disclosing IA (overall) 178 (98.34%)Types of IA disclosedDiscovery and Learning 172 (95.03%)Implementation 122 (67.40%)Commercialization 170 (93.92%)

Panel B: 181 sample companies by country

416 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423The analysis of IA voluntary disclosure practices of the emerging market companies isbased on the following multiple regression model:

IAVD 0 1SIZE 2OWNERSHIP 3LEV 4GAAP 5LISTING 6IND 7PBRATIO 8IAREC 9AGE 10ENF 11LEG 12REG

where:

IAVD the level of IA voluntary disclosureSIZE log of market capitalizationOWNERSHIP % of ordinary shares held by others than the top shareholder

Table 4Descriptive statistics independent variables.

# of rms Min Max Mean S.D.

H1 Firm size 181 3.27 4.65 3.63 0.32H2 Ownership concentration 148 0.00 0.99 0.57 0.23H3 Leverage 181 0.42 93.49 5.42 8.81H4 Adoption of IFRS or U.S. GAAP 180 0 1H5 Listing status 181 0 1H6 Industry type 181 0 1H7 Price-to-book ratio 181 0.00 17.10 2.14 1.85H8 IA recognition 177 0.00 28.00 1.898 4.59H9 Age of firm 180 0.00 171.00 37.66 36.75H10 Economic policy risks 179 20 90 33.18 12.06H11 Legal systems risks 179 24 68 39.60 9.05H12 Regulatory systems risks 179 18 49 31.20 8.52Final sample size for multiple regressionanalysis

144LEV total assets/equityGAAP whether the company follows IFRS (or U.S. GAAP) (1 or 0)LISTING whether the company is listed on U.S. or U.K. exchange (1 or 0)IND whether the company is in the IA intensive industry (1 or 0)PBRATIO price-to-book ratio of each companyIAREC IA recognized in the balance sheet as a% of total assetsAGE age of the company as of 2002 since its incorporationENF economic policy risk indexLEG legal system risk indexREG regulation risk index

As previously discussed, the dependent variable IAVD was measured using four differentproxies of IA voluntary disclosure level, and four mutually exclusive multiple linear regres-sion models were carried out. The four measures of the dependent variable examined were:

Model 1: extent of overall IA disclosure (IAVD EO) Model 2: extent of disclosure from the Discovery and Learning phase (IAVD ED)

Model 3: extent of disclosure from the Implementation phase (IAVD EI) Model 4: extent of disclosure from the Commercialization phase (IAVD EC)

The assumptions underlying the regression model were tested for multicollinearitybased on the correlation matrix as well as the Variance Inflation Factor (VIF). The corre-lation matrix for the dependent and independent variables indicated that multicollinearity

417H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423is not a problem.19 In addition, an analysis of residuals, plots of the studentized residualsagainst predicted values, as well as the QQ plot, were conducted to test for heteroscedas-ticity and linearity.20

Results from the multiple regression analysis, including the adjusted R2, F-statistics,and significance for the four regression models as well as the coefficients and significanceof the independent variables are shown in Table 5.

It can be seen from Table 5 that all of the models are significant, with Model 1, wherethe overall extent measure of IA disclosure (IAVD EO) is the dependent variable, reportingthe highest F-statistics (F=4.464, p=0.000) and having the most significant explanatorypower (adjusted R2=22.5%). Our results relating to individual explanatory variables pro-vide strong support for our hypotheses on the significance of IFRS/U.S. GAAP adoption(H4), industry type (H6), price-to-book ratio (H7), economic risks (H10), and legal systemrisks (H11) on voluntary disclosures of IA information. There was also partial support forIA recognition (H8). However, there was no support for the influence of firm size (H1),ownership concentration (H2), listing status (H5), age of the company (H9), and regulatoryrisks (H12). Contrary results were found in respect to leverage (H3).

While our hypothesis on firm size (H1) was not supported, this is likely explained bythe fact that the selection of the top 200 emerging market companies means that such com-panies are all large and have incentives to provide significant amounts of information vol-untarily. Further, the lack of significance of ownership concentration (H2) raises aninteresting question regarding the applicability of ownership structure as a predictor ofthe IA disclosure practices by emerging market companies.

Contrary to our hypothesis in respect to leverage (H3), there was a significant negativeassociation between leverage and the overall IA disclosure level (Model 1) as well as withthe IA disclosure stemming from the Discovery and Learning phase (Model 2). That is,emerging market companies with lower debt financing disclosed more IA information inthe narrative section of their annual reports. It could be that IA and their subsequent volun-tary disclosure are not as relevant to existing creditors as they are to shareholders and po-tential future investors.21 That is, it may not be the level of debt that is significantly relatedto the level of IA disclosure but rather the amount of equity in the capital structure that ispositively associated with voluntary disclosure.

19 The general rule for checking multicollinearity is when the correlation is N0.8000 and when the VIF exceeds10 (Field, 2005). Neither correlation nor VIF indicates that there is a multicollinearity problem for the current data.20 Residuals represent what are left over after the model is t. They are the difference between the observed valueof the dependent variable and the value predicted by the regression line (Field, 2005).21 For example, most IA disclosure indices comprise IA items that predominately are based on different stake-holder groups, other than creditors, such as shareholders, customers, employees, suppliers, and future investors.Creditors are more likely to consider nancial statement information and other nancials for decision making than

IA items in the narrative sections of the annual reports.

418 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423Table 5Multiple regression analysis Main results.As predicted, for companies adopting IFRS/U.S. GAAP (H4), there was a significantnegative association with the overall extent of IA voluntary disclosure and for two of thephases in the value chain, that is, Discovery and Learning and Commercialization.

Predicted Sign Model 1 Model 2 Model 3 Model 4

Dependent variable

IAVD EO IAVD ED IAVD EI IAVD EC

Coefcients (t-stats)

Intercept (0.325) (0.238) (1.119) (0.117)

Independent variablesH1 Firm size + 0.106 0.076 0.025 0.086

(1.331) (0.915) (0.298) (1.002)H2 Ownership concentration 0.006 0.095 0.041 0.124

(0.072) (1.100) (0.488) (1.393)H3 Leverage + 0.224 0.196 0.017 0.130

(2.766) (2.302) (0.207) (1.482)H4 GAAP 0.232 0.176 0.079 0.208

(2.694) (1.948) (0.881) (2.221) H5 Listing status + 0.083 0.119 0.141 0.060

(1.008) (1.376) (1.649) (0.667)H6 Industry type + 0.200 0.151 0.225 0.090

(2.314) (1.655) # (2.520) (0.963)H7 Price-to-book ratio + 0.202 0.151 0.107 0.132

(2.558) (1.827) # (1.315) (1.538)H8 IA recognition +() 0.044 0.024 0.192 0.069

(0.554) (0.280) (2.312) (0.797)H9 Age of company + 0.074 0.048 0.046 0.083

(0.912) (0.567) (0.544) (0.945)H10 Economic risks + () 0.251 0.186 0.014 0.197

(2.577) (1.816) (0.140) (1.860)H11 Legal systems risks + () 0.211 0.282 0.181 0.033

(2.359) (2.999) (1.957) (0.337)H12 Regulatory risks + () 0.021 0.041 0.072 0.121

(0.236) (0.450) (0.793) (1.277)

Regression modelAdjusted R2 0.225 0.145 0.170 0.088F-Statistics 4.464 3.026 3.442 2.144Significance 0.000 0.001 0.000 0.018

Dependent variable: the level of IA voluntary disclosure as measured by:IAVD EO: Extent of the overall IA disclosure.IAVD ED: Extent of disclosure from the Discovery and Learning phase.IAVD EI: Extent of disclosure from the Implementation phase.IAVD EC: Extent of disclosure from the Commercialization phase. Signicant at pb0.010, two-tailed. Signicant at pb0.050, two-tailed.# Signicant at pb0.100, two-tailed.

As expected, the extent of IA disclosure (H6) was also found to be significantly associ-ated with industry type (Models 1 to 3). IT/telecommunications and consumer goods/services industries (IA-intensive industries) disclosed more extensive overall IA informa-

ing standards permitting them to do so naturally, they would want to voluntarily dis-

419H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423close IA information in annual reports. Considering the fact that they may also bevalued by the markets based on their IA, these companies indeed would likely be voluntar-ily involved in IA disclosure practices.22

As expected, price-to-book ratio (H7) was found to be positively associated with theoverall extent of IA disclosure (Model 1). Further, it was found that there is a high corre-lation between price-to-book ratio and profitability of companies.23 That is, highly profit-able companies would be rewarded by the market, and, in return, these companies wouldlikely voluntarily engage in IA disclosure in order to inform various stakeholders of theirIA activities and to assure stakeholders that the market has not overvalued the company.There was also a significant positive relationship between price-to-book ratio and the ex-tent of IA information from the Discovery and Learning phase (Model 2).

While IA recognition (H8) was not supported for the overall extent measure of IA dis-closure (Model 1), there was, a significant positive association between IA recognition andIA voluntary disclosure regarding the Implementation phase of the value chain (Model 3).This positive relationship is not surprising given that the majority of IA recognized stemsfrom the Implementation phase of the value chain as discussed above.

Emerging market companies originating from countries with higher perceived legal sys-tem risks (H11) voluntarily disclosed more extensive IA information overall (Model 1) aswell as for the Discovery and Learning phase (Model 2). Such a positive relationship isperhaps due to emerging market companies engaging in voluntary disclosure practices inorder to negate the perceived problems associated with their country of origin. Surprising-ly, however, the significant association between the extent of IA disclosure stemming fromthe Implementation phase and the risks associated with legal systems was in the oppositedirection. This may be due to the fact that high risks associated with contractual agree-ments and property rights, which are part of the Implementation phase, discourage compa-nies from voluntarily disclosing more information about these items in annual reports.

7. Conclusions

Our research makes a number of important contributions. Significantly, this is the firststudy to empirically examine the applicability of the Value Chain Scoreboard proposed

22 Correlation matrix conrms that there is a positive association between industry and price-to-book ratio. Dis-cussions on the relationship between price-to-book ratio and IA disclosure appear in the next section.23 There was a signicant positive relationship between price-to-book ratio and protability as measured by re-tion (IAVD EO) than companies from the energy, industrial, and financial industries.This result reflects the proposition that companies operating in industries heavily influ-enced by intangible resources would naturally have more IA and, hence, would voluntarilydisclose more information on IA as a result. Further, these companies may not have beenable to recognize most of these IA in their financial statements due to the lack of account-turn on equity (Pearson's Correlation=0.714, p=0.000).

by Lev (2001) as an alternative IA disclosure framework. While much of the prior research

420 H.H. Kang, S.J. Gray / The International Journal of Accounting 46 (2011) 402423is based on the use of Sveiby's (1997) Intangible Asset Monitor (IAM) as the basic IAreporting model,24 no empirical study to date has examined the applicability of theValue Chain Scoreboard as an alternative reporting model. Unlike the IAM, the Score-board considers the entire spectrum of a company's value chain activities. Further, it wasactually designed with external reporting as its main objective and, therefore, has themost potential to be a relevant external reporting model that can be included as an elementof corporate annual reports. Another important contribution of our study is the focus on topemerging market companies and an assessment of their voluntary disclosure practices. Dueto the shift in the way investors and other stakeholders consider emerging economies andtheir companies, most of the international attention is now on a select group of high-flyingand top-performing emerging market companies (Smith et al., 2003).

Our empirical findings on the extent of disclosure by emerging market companies indi-cates that they do actively engage in voluntary disclosure practices to disseminate mainlyquantitative IA information to their global stakeholders. Corporate-specific factors, such asthe adoption of IFRS/U.S. GAAP, industry type, and price-to-book ratio, are key influ-ences significantly associated with the level of IA voluntary disclosure. In addition, coun-try-specific factors, including risks associated with economic policies and the legalsystems, are also found to be significantly associated with the level of IA disclosure.

These findings are, of course, subject to some limitations. The final sample size was re-duced to 144 companies due to the difficulties associated with the general lack of availabledata and the collection of such data about companies originating from emerging marketswhere English is not the language of choice for annual reports, despite the incentives andpressures of international investor interest. For the purpose of this study, it was necessaryto focus on the voluntary disclosures in annual reports prepared in English. Further, data re-garding the independent variables (i.e., corporate profile information) were collected onlyfrom sources written in English.

Future research could consider a larger number of emerging market companies and theirdisclosure practices. Other studies may aim to examine whether additional national differ-ences, including culture, influence the extent of IA. A second avenue of future researchcould involve examining whether stakeholders place some value relevance on the voluntarydisclosures of information about IA in making their investment decisions. Finally, given theexceedingly complex nature of voluntary disclosure, other mediums of disclosure could beinvestigated, including, for example, corporate websites, special reports, and press releases.

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Reporting intangible assets: Voluntary disclosure practices of top emerging market companies1. Introduction2. Reporting IA in emerging markets3. Reporting IA: is Value Chain Scoreboard the answer?4. Hypothesis development4.1. Firm size4.2. Ownership concentration4.3. Leverage4.4. Adoption of IFRS/U.S. GAAP4.5. Listing status4.6. Industry type4.7. Price-to-book ratio4.8. The level of IA recognition4.9. Age of firm4.10. Economic risks4.11. Legal system risks4.12. Regulatory risks

5. Research methodology5.1. Sample selection5.2. Dependent variable the level of IA disclosure5.3. Independent variables

6. Results6.1. The extent of IA disclosure6.2. Multiple regression models

7. ConclusionsReferences