Digital Capital – new accounting approach needed.
Here a true eCFO topic – accounting! Before you stop reading – this is really important – so stay with me. I first picked up on the topic when I started working with our Facebook agency on their generic group concept. By now we have over 1 million fans in general Facebook groups that we “rent” out to clients in order to advertise to a specific target segment. I argued back and forth with our accountant that the capital we invested is in fact not a period expense in our P&L but that we are actually building a long-term asset that should show up on our balance sheet. I lost the argument but still know that I am right – just our accountings standards have not yet caught up with the “digital revolution”. Now McKinsey seems to agree – the consultancy published a new story that focuses on “digital capital” (LINK)
In their conclusion they highlight that even though accounting has not caught up – companies need to act now and explain to investors that they are building assets even if their balance sheet does not reflect it (yet). Capital allocation needs to be quickly adjusted in almost all industries to catch up with changes brought by the rapidly developing digitalization:
“The need for growth and competitiveness will force companies to build strong digital capabilities. Viewing them as assets rather than additional areas of spending requires a new set of management and financial lenses. Embracing them is a major shift—but one worth making for companies striving to master a still-evolving landscape.”
They continue to highlight that companies really need to focus on collecting and analyzing data from their activities. The digital development combined with big-data analysis capabilities offers new business opportunities but also threatens established players that are to slow to react.
“Since identifying intangible assets is difficult, companies may be missing growth opportunities. Many have realized only recently that they can use social-media interactions with their best customers to leverage innovation efforts or that they may have unused data they could restructure into valuable big-data assets to sharpen business strategy. Similarly, companies should take stock of how digital capital they don’t own may be relevant to the business. A retailer that doesn’t have access to digital behavioral data on consumers, for example, may be at a disadvantage. So could a bank whose customers access products through a third-party platform that limits the bank’s ability to capture information.”
So what now? We need better accounting methods that reflect the real value of digital capital allocation but this is not going to happen quickly. eCFOs will need to do a much better job explaining to markets, shareholders and capital providers how they are planning to make money due to their digital capital investment. Financial statements will again become more irrelevant for company valuations and future earnings expectations.