Corporate finance defines the boundary of a company based on physical assets: land, buildings, warehouses, factories, machines, inventory, and patents. Based on expected risks and returns, it then determines the optimal way of financing from those assets, using a mix of debt and equity. Planning is based on measures such as return on assets, payback period, and internal rate of return.
A new framework is required to define the real asset base of a company by including the soft assets, which are now the predominant asset class for the company but are excluded from financial calculations: brands, first-mover advantage, information technology, talent, and competitive strategy. Some of those assets don’t even legally belong to a company — for example, Facebook’s network of 2.8 billion users, or teams of talented marketers and scientists promising research and knowledge of customers’ characteristics. In addition, there are physical assets that help firms generate revenues but that they don’t own, such as cars and homes for Uber and Airbnb. Improving the definition of the asset base is essential for proper calculation of return on assets, which would then improve the selection of profitable projects — a hallmark of corporate finance.
Authors: Anup Srivastava, Vijay Govindarajan
Source: Harvard Business Review
Subject: Finance
Click to Add the First »