As it happened, Professor Lev, who specializes in valuing trademarks and patents, had recently hit a turning point in his research. After performing a series of in-depth comparisons of corporate asset values (“book values”) and share prices, he had concluded that the financial reporting methods used by nearly all corporations — the methods codified by the Financial Accounting Standards Board (FASB) and required of public companies by the Securities and Exchange Commission (SEC) — were giving “exactly the wrong impression” of the real comparative worth of corporations. In growth industries, in particular, the accounting numbers consistently overstated the value of physical assets (like buildings and machinery) and consistently underestimated other assets, especially the so-called intangibles that were, in the early 1990s, just coming to be seen as critical sources of corporate competitiveness. These assets include research and development, intellectual property (especially in the form of patents, trademarks, and copyrights), brand names (and the customer loyalty they engender), software, secret formulas, training and development, reputation (such as the reputation for good governance or environmental sustainability), unique team capabilities and work processes (now coming to be known as “organizational capital”), and any other distinctive form of corporate know-how.
Later, Professor Lev came to use phrases like “perverse distortions” and “worse than useless” to describe standard accounting practices, but at the time, he merely told the aide that they represented a “deficiency” because they omitted intangibles. The aide called back with a quick follow-up question from Senator Lieberman: “Where’s the harm?”
“What do you mean?” asked Professor Lev.
“The senator isn’t really interested in accounting issues,” the aide elaborated. “He wants to know what damage there might be — to the economy, to society, to investors, or to institutions. And if there isn’t any kind of serious harm, why should we worry about this?”
Although Professor Lev has given his fair share of expert testimony on the harm caused by corrupt and careless accounting practices in the last decade, he says the phone call from Senator Lieberman’s office sparked a “profound change” in his thinking about the scope and severity of the harm caused by conventional and legal accounting practices.
Since then, first at Berkeley, then as dean of the business school at Tel Aviv University, and now at New York University’s Stern School of Business (where he is the Philip Bardes Professor of Accounting and Finance and the Director of the Vincent C. Ross Institute of Accounting Research), Professor Lev has devoted much of his time to exposing the harm in prevailing accounting rules and pushing to have them changed.
Most corporate managers probably haven’t heard of Baruch Lev. Policymakers and academic accountants know him, however, as one of the leading advocates for reforming the established methods for valuing corporate activity. Loosely known as “accounting for intangibles,” this new school of thought developed in parallel to such accounting and performance measurement innovations as Activity-Based Costing and the Balanced Scorecard. (See "What Are the Measures That Matter?" by Art Kleiner, s+b, First Quarter 2002.) As Jonathan Low and Pam Cohen Kalafut point out in their book Invisible Advantage: How Intangibles Are Driving Business Performance (Perseus, 2002), the movement evolved naturally, starting in the late 1980s, from the growing recognition of the hidden value in such business assets as corporate knowledge, brand value, R&D, and social responsibility. Because these assets had never been stated on most corporate balance sheets, their contribution to individual businesses had remained invisible, and the overall value of the U.S. economy had been understated in most estimates by billions or even trillions of dollars. This had led to poor decisions: For example, businesses typically in-vested far less in training and brand development than they might have if their value showed up with more weight on the balance sheets.