Strategic Knowledge Management

Intellectual Capital at Skandia

Maylun Bucklew

Ernst & Young Center for Information Technology and

Strategy

Leif Edvinsson, Skandia AFS

The Hidden Value of Companies

The "dawning of new insight" has struck executives after they have spent a decade

running companies based on bottomline. Executives are rethinking quality management,

core competencies, and the value of employees, their knowledge, and experience on the

job. This profile looks at what Skandia, an international, knowledge intensive company,

has done since 1991 to highlight the hidden value of a company. Skandia uses, in

addition to the standard book value of the official balance sheet, a new systematised

approach to make tangible these hidden values. Factors such as competence base and well

managed performance procedures contribute to the total value of a company. Competence

base is defined as employees' professional insights, applied experience, and

organisational learning. Performance procedures are defined as how customers are

handled, and how the operations, processes, business development and logistics are

conducted. The more knowledge intensive a company is, the more important are these

soft dimensions.

Skandia and its Growth

Skandia, a multinational insurance and financial services company, is based in

Stockholm, Sweden. In 1855, Skandia was founded as an international insurance

company. In 1900, Skandia was the first non-British reinsurer to have a New York office.

Today, five divisions comprise Skandia: Skandia Norden, Direct Insurance Nonlife,

Assurance and Financial Services, Skandia Investment Management, and Reinsurance.

Employing approximately 11,000 people worldwide, Skandia has total assets of $35

billion.

Assurance and Financial Services, AFS is the division with which this profile is

concerned. AFS addresses individual clients' financial well being through programs of

long-term savings solutions. The most rapidly growing division within Skandia, AFS has

grown swiftly more than 30% annually during the last six years. Spanning 10 countries

with 1200 employees and actively engaging more than 12.000 brokers, AFS takes care of

almost 500.000 customers. True of most growth companies, Skandia is interested in

attracting investors, and in having current as well as prospective investors understand and

recognize the full value of the company.

While most companies appoint directors of finance and operations and focus company

valuation on finance and operations, they lack a function to deal with hidden values. To

address this, AFS created a position that focuses on developing and applying a systematic

approach to hidden values. It has a director of intellectual capital. The mission of this

function is to identify and improve the visibility of intangible and non material items, to

capture and package these items for transfer to users, to cultivate and develop these items

through training and knowledge networking, and to capitalize and economize on these

items through rapid recycling of knowledge and increased commercialization.

The Director of Intellectual Capital at Skandia AFS, Leif Edvinsson, reports to the Chief

Operating Officer of the AFS division and is a member of the COO team. Charged with

enhancing and systematically developing the intellectual capital of the division, Leif

Edvinsson works through project teams. He faces the challenge of leveraging work

related to intellectual capital through other functions such as human resources,

information technology, and business development.

With this approach, AFS is trying to build more than a "learning organization." AFS

strives for an "intelligent organization." This is a dynamic learning and teaching

organization that continuously renews its performance. Critical for this development is a

federated global organization with competencies and alliances built on intellectual

capital, information technology, and leadership around core cultural values.

Describing Intellectual Capital

Leif Edvinsson uses the metaphor of a tree to describe hidden value. "Hidden value," he

says, "is the root system for the tree." In order for it to flourish and bear fruit, the tree

must have healthy, strong roots to provide the nutrients and nourishment necessary for its

growth and production of fruit The quality of the fruit, which you can see, is dependent

on the roots, which you cannot see. The same goes for financial capital. To get it to

flourish, you must cultivate the roots. In effect, this search for new indicators in the

knowledge area turns traditional bottom line accounting upside down. Since Leif has

been director, recognition of the importance of hidden values and their systematic

management has increased within Skandia and AFS.

To demonstrate what intellectual capital is, take the following example. A software

company has a value 15 times greater than the published book value. This greater value

goes beyond the finite software products delivered. The accounting gap is due to

unaccounted factors such as the millions of customers, intensive research and

development, a strong market position, company brand name, etc. Very detailed financial

accounting exists for the sales of software products. Rare, however, is any systematic

accounting for the hidden value of customer bases, knowledge levels of people,

replacement costs of information technology systems, and the return on investment for

training and development. Each employee comes equipped with his/her unique set of

experiences, education, background, skills, and outside interests that amplify intelligence

and combine knowledge. This set is called a competence base. What does not appear in

the book value is the inherent value of the existing people, their bright ideas and

competence bases, the systems, the organizational infrastructure, R & D portfolios, and

customer base.

As another example, consider a film processing company. Once a chemically based

operation, the company has had to transform its operations to use computer technology

and electronic processing to stay competitive. This has caused the company to shift its

competence base from chemistry to electronics. Such a shift is costly and not positively

reflected in traditional accounting procedures. In fact, the valuation of the company may

even decrease with current accounting practices. The costs of replacing staff, developing

or acquiring new talent to accommodate and support the shift, maintaining that talent, and

transferring the knowledge are significant. However, in terms of the company's future in

image and film processing industry, such costs are necessary and positive to the well

being of the company.

What led AFS to the concept of intellectual capital is the concern with speed of learning,

recycling of applied experience, and international transfer of skill. Ironically, intellectual

capital is invaluable to a company, and yet is assigned no value. Intellectual capital is the

essential root system of companies but is often invisible in the accounting systems. Such

systems show historical statistics. Intellectual capital indicates the future. Traditional

systems seldom account for and measure the worth of concepts, competence, and

innovation. AFS, therefore, is consciously making sure that the transfer of skills,

learning, and experience takes place through the procedures it puts in place. However,

managing intellectual capital is cross-functional. It is a combination of human resources

development, business development and strategy, and information technology

development. So, to reveal hidden value, AFS defines what performance items must be

measured and how those items can be made tangible. Through this process, intellectual

capital is transformed into added value.

Promoting Intellectual Capital

How does Mr. Edvinsson spend time as the Director of Intellectual Capital? Initially,

much time was spent developing a language, or taxonomy, to increase awareness and

share insights on the four functions of intellectual capital development. These functions

are: to identify, capture, cultivate, and capitalize on intellectual capital. As part of his

responsibility, Mr. Edvinsson meets with colleagues to do "missioning". A portion of his

time is spent implementing information technology with the systems group for

knowledge networking. This means communication technology is used to knit together

employees and give them access to knowledge inside and outside the company. To refine

company culture, cultivate core values, and channel leadership, he cooperates with

human resources. With people in accounting& he works to develop ways to measure

hidden value and create intellectual capital ratios. And to initiate and implement projects,

programs, and joint activities that will add to the business of AFS, he works with

operating units. Another important role for the Director is to make people within and

outside of Skandia aware of the hidden value of AFS, and engender cooperation for joint

business growth beyond the published book value. A primary focus is to identify and

measure, or "map," critical intellectual capital items within each operating unit of AFS.

Through this, the importance of information technology (IT) in developing intellectual

capital has become evident

Measuring Intellectual Capital

Skandia has started to describe intellectual capital through measurement of new

indicators. Periodically, a balance scorecard for measuring performance on financial

capital and various intellectual capital dimensions is presented to Skandia management.

To define what to measure, each of the operating units of Skandia (located in the U.S.,

England, Columbia, Spain, Germany, and Switzerland) identified the five most relevant

and critical intellectual capital items for itself, using a proprietary list of over 30

intellectual capital items. Identification was done through dialogue with local

management. From these sets of the five most relevant and critical items, a set of three

major intellectual capital dimensions (or categories) was derived. These are customer

capital ratios, human capital ratios, and structural capital ratios. Within each of these

dimensions, a number of intellectual capital ratios can be defined. Each intellectual

capital item was discussed with management and accounting to establish a baseline ratio.

As an example, suppose the number of existing customer accounts is one ratio for which

a baseline is established. That ratio can be used to measure how well the business is

doing in terms of that intellectual capital item. We would score the number of new

customer accounts or the growth per account. This number would be compared with the

strategic goal, and then, we would look at the effect on the business by examining the

profit per customer. By computing the ratio periodically, a performance controller or

manager can plot the trend of the ratio and determine what intellectual capital factors

should be focused on and changed in the business to improve the performance of the

company.

In the interest of intellectual capital AFS invests in training and development of its

employees, places value on their applied experience and competence, and seeks

crossfertilization within the organization. Such cross-fertilization adds to another critical

ratio, innovation and development. This is one of the most important ratios to follow for

the future value of a company.

This procedure produces more balanced reporting through the addition of intellectual

capital items to traditional financial ones. Such reporting leads to more systematic

management of hidden values. To sum up, this whole intellectual capital and hidden

value pursuit is very much a pedagogical one. The hidden value of the company, which is

not shown in traditional accounting is articulated and made tangible to provide deeper

insight into future growth. The mission is to reveal hidden values which are strategic to

the company's future, in order to fertilize continued growth of AFS. Transnational and

global development of AFS as an entity is heavily based on further development of

concepts, systems, competencies, alliances, customer bases, and organizational issues,

and on packaging and dissemination of nonmaterial values throughout AFS. The speed of

development relies on linking human capital to structural capital. This calls for

systematic management of human and structural capital.

Intellectual capital managed this way also cultivates investors' relationships. The first

time information about intellectual capital values was presented, verbally, was in the

1992 Skandia annual report. Now, such information supplements are provided quarterly

as a number of balanced performance indicators for AFS. These supplements also serves

to deepen the perspectives of analysts and investors.

Costs and Gains from Intellectual Capital

The intellectual capital effort is expected to save a significant amount of money over

time. By using the prototyping process, AFS has reduced startup time for a new office by

one third or more. For a 30% growth rate in new businesses, this amounts to sizable

savings. In the area of competence development, the computer based training and

network are expected to reduce traveling and expenditures for training. The savings each

year are projected to be several times the cost of developing the systems. Other major

gains are increased speed of strategic learning, systematic focusing of leadership, and

increases in valuation of the company over the book value.

The Reach on to Intellectual Capital

Externally and internally, reactions to intellectual capital have been very good. Senior

managers have been very supportive. They agree with the concept, appreciate the new

insights, and promote key activities related to intellectual capital. Middle managers have

also been supportive. They have experienced a growing need for a formal approach to

intellectual capital issues in recent years. Frontline staff and the union agree with the

concept and actively participate.

Many people still mistakenly view intellectual capital as a resurrection of human resource

accounting of companies. Twenty years ago, European companies tried to establish

connected audit systems to monitor training and people's attitudes, behavior, and

performance. Eventually, the effort was abandoned. In contrast, the intellectual capital

approach covers both human and structural capital, joining them together for more rapid

growth.

The Importance of Intellectual Capital

Systematic treatment of intellectual capital at AFS highlights how important intellectual

capital is. Company value depends on and includes the total worth of individuals plus

company structure. That worth encompasses the knowledge, skills, and in house

experience of each person, as well as the shared knowledge, skills and experience of all

employees combined, and the organizational procedures followed in the business. That

worth is dynamic and difficult to measure. AFS, however, has started to articulate and

make tangible, ratios for systematic management of these factors. For AFS, intellectual

capital increases company value and makes business operations more efficient. AFS is

showing investors that the value of a company is dynamic and is more than just hard

financial ratios.

In addition, the sharing of competencies requires management of information.

Information management and intellectual capital are, therefore, related. Intellectual

capital at AFS involves human resources, information technology, business strategy, and

the participation of employees, in order to rapidly transfer experience in the company. It

is energizing and charging both the national and transnational operations at AFS.

To get people to share competencies, a company must facilitate exchange of knowledge

among employees. The company must inform people of intelligence that is available,

make people and intelligence accessible, and train everyone to use the information and

any supporting technology.

AFS has developed vehicles to do this, using technology when appropriate. The

technology and its degree of sophistication are less important than the organizational

intelligence and competence of the employees. Leadership and organizational design are

crucial to this process.

Measuring and valuing intellectual capital, as AFS does, promotes strategic

organizational learning and teaching, and a balanced management focus on hidden values

which encourages organizational survival. Intellectual capital gives sharing of knowledge

legitimacy, establishes the worth of competence in a company, and places value on

combined and individual silos and experience of coworkers. Intellectual capital is

invaluable and intangible. However, it manifests itself in business through productive,

consistent, and efficient operations, and management that adds value. Leadership must

focus on linking human capital to structural capital and producing sustained value. The

ultimate target is to transform IQ into ECU (European Currency Units). In other words,

the gray cells and intelligence are translated into hard currency.