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CHAPTER 4

Recognizing a Firm’s Intellectual Assets: Moving beyond a Firm’s Tangible Resources

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Learning Objectives

After reading this chapter, you should have a good understanding of:

4-1 Why the management of knowledge professionals and knowledge itself are so critical in today’s organizations.

4-2 The importance of recognizing the interdependence of attracting, developing, and retaining human capital.

4-3 The key role of social capital in leveraging human capital within and across the firm.

4-4 The importance of social networks in knowledge management and in promoting career success.

4-5 The vital role of technology in leveraging knowledge and human capital.

4-6 Why “electronic” or “virtual” teams are critical in combining and leveraging knowledge in organizations and how they can be made more effective.

4-7 The challenge of protecting intellectual property and the importance of a firm’s dynamic capabilities.

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The Importance of Intellectual Assets

Consider. . .

A company’s value is not derived solely from its physical assets. Rather it is based on knowledge, know-how, and intellectual assets – all embedded in people.

In the knowledge economy, wealth is increasingly created by effective management of knowledge workers instead of by the efficient control of physical & financial assets.

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In today’s knowledge economy, it does not matter how big your stock of resources is—whether it be top talent, physical resources, or financial capital. Rather, the question becomes: How good is the organization at attracting top talent and leveraging that talent to produce a stream of products and services valued by the marketplace? Human capital is the foundation of intellectual capital, but the attraction, development, and retention of human capital is a necessary but not sufficient condition for organizational success. Social capital, the appropriate use of technology, and protection of physical and intellectual property are all also critical. Knowledge economy = an economy where wealth is created through the effective management of knowledge workers instead of by the efficient control of physical and financial assets. Investing in a company is, in essence, buying a set of talents, capabilities, skills, and ideas – intellectual capital – not physical and financial resources..

The Central Role of Knowledge (1 of 2)

Intellectual capital is a measure of the value of a firm’s intangible assets – the difference between a firm’s market value & book value. It includes these assets:

Reputation

Employee loyalty & commitment

Customer relationships

Company values

Brand names

Experience & skills of employees

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Intellectual capital = the difference between the market value of the firm and the book value of the firm, including assets such as reputation, employee loyalty and commitment, customer relationships, company values, brand names, and the experience and skills of employees. NOTE: the market value of a firm is equal to the value of a share of its common stock times the number of shares outstanding. The book value of a firm is primarily a measure of the value of its tangible assets. It can be calculated by the formula Total assets minus Total liabilities.

How do companies create value in the knowledge–intensive economy? The general answer is to attract and leverage human capital (intangible assets) effectively through mechanisms that create products and services of value over time.

The Central Role of Knowledge (2 of 2)

Human capital includes the individual capabilities, knowledge, skills, and experience of the company’s employees and managers.

Social capital includes the network of relationships that individuals have throughout the organization.

Knowledge management is critical to organizational success. Knowledge includes:

Explicit knowledge – codified, documented, easily reproduced, and widely distributed

Tacit knowledge – in the minds of employees, based on their experiences and backgrounds

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Human capital = the individual capabilities, knowledge, skills, and experience of a company’s employees and managers. This knowledge is relevant to the task at hand, and also includes the ability to add to this reservoir of knowledge, skills, and experience through learning. Social capital = the network of friendships and working relationships between talented people both inside and outside the organization. Relationships are critical in sharing and leveraging knowledge and in acquiring resources. Social capital can extend beyond the organizational boundaries to include relationships between the firm and its suppliers, customers, and alliance partners. Explicit knowledge = knowledge that is codified, documented, easily reproduce, and widely distributed. Tacit knowledge = knowledge that is in the minds of employees and is based on their experiences and backgrounds. New knowledge is constantly created through the continual interaction of explicit and tacit knowledge. Another important issue is the role of “socially complex processes,” which include leadership, culture, and trust. These processes play a central role in the creation of knowledge. They represent the glue that holds the organization together and helps to create a working environment where individuals are more willing to share their ideas, work in teams, and, in the end, create products and services of value.

Question (1 of 2)

Mary Stinson was required to take over a project after the entire team left the company. She was able to reconstruct what the team had accomplished through reading e-mails exchanged by the previous teams members. This is an example of

using explicit knowledge.

inefficient use of information management.

using tacit knowledge.

all of the above.

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Answer: A. Explicit knowledge gained through reading the e-mails.

Human Capital

Exhibit 4.2 Human Capital: Three Interdependent Activities

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The importance of talent to organization success is hardly new. Organizations must attract talented people—employees at all levels with the proper sets of skills and capabilities coupled with the right values and attitudes. Such skills and attitudes must be continually developed, strengthened, and reinforced, and each employee must be motivated and his or her efforts focused on the organization’s goals and objectives so this human capital can be retained. Hiring is only the first of three processes in which all successful organizations must engage to build and leverage their human capital. Firms must also develop employees to fill their full potential to maximize their joint contributions. Finally, the first two processes are for naught if firms can’t provide the working environment and intrinsic and extrinsic rewards to retain their best and brightest.

Attracting Human Capital

Hire for attitude, train for skill - emphasis on:

General knowledge & experience

Social skills, values, beliefs, attitudes

Use sound recruiting approaches & networking:

Build a pool of qualified candidates

Attract the “right” job candidates, not the greatest number of them

Current employees may be the best source of new ones, so provide incentives for referrals

Understand the value of millennials:

Tech-savviness, ability to innovate

Racially diverse

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The first step in building superior human capital is input control: attracting and selecting the right person. Some human resource professionals argue that firms can identify top performers by focusing on key employee mind-sets, attitudes, social skills, and general orientations. If they get these elements right, the task-specific skills can be learned quickly. Companies that take hiring seriously must also take recruiting seriously. The challenge becomes having the right job candidates, not the greatest number of them. Strategy Spotlight 4.3 explains how millennials have a different take on diversity, therefore are valuable if they are recruited into an inclusive culture of fairness and representation for all.

Developing Human Capital

Training and development must take place at all levels of the organization.

Requires the active involvement of leaders at all levels

Includes mentoring & sponsoring lower-level employees

Emphasizes the need to monitor progress & track development so knowledge can be shared

Consider evaluating human capital to assess the “soft” skills.

Use 360-degree.e evaluation & feedback systems

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It’s not enough to hire top level talent and expect that the skills and capabilities of those employees remain current throughout the duration of their employment. Rather, training and development must take place at all levels of the organization. Mentoring is traditionally viewed as a program to transfer knowledge and experience from more senior managers to up-and-comers. Mentoring can help recruit qualified managers, decrease turnover, fill senior level positions with qualified professionals, enhance diversity initiatives with senior-level management, and facilitate organizational change efforts. A sponsor is someone in a senior position who’s willing to advocate for and facilitate career moves, make introductions to the right people, translate and teach the secret language of success to their protégé. Systems for monitoring progress and tracking development need to evaluate the softer dimensions of communications and social skills, values, beliefs, and attitudes. Traditional top-down appraisal systems become insufficient as organizations continue to push responsibility downward. 360-degree evaluation and feedback systems = superiors, direct reports, colleagues, and even external and internal customers rate a person’s performance. Employees must share knowledge and work together, collectively, to reach organizational goals. Evaluation systems must ensure that a manager’s success does not come at the cost of compromising the organization’s core values.

Retaining Human Capital

Retention mechanisms must prevent the transfer of valuable and sensitive information outside the organization.

Help employees identify with an organization’s mission and values.

Provide challenging work and a stimulating environment.

Offer financial and nonfinancial rewards & incentives.

Money is not the most important reason why people take or leave jobs.

Investment in management & employee training, and recognition of efforts increase retention.

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Leaders can either provide the work environment and incentives to keep productive employees and management from wanting to bail out, or they can use legal means such as employment contracts and noncompete clauses. Firms must prevent the transfer of valuable and sensitive information outside the organization. Failure to do so would be the neglect of the leaders’ fiduciary responsibility to shareholders. Exodus of employees can erode a firm’s competitive advantage. A cohesive culture, challenging work, and valued rewards are all vital organizational control mechanisms for retaining human capital. (See more about this in Chapter 9.) Also see Strategy Spotlight 4.2: Some companies trying to increase employee retention are using data analytics to get a feel of where management can make changes that will improve the chances that employees will remain enthusiastic about the companyand ultimately stay there.

Enhancing Human Capital: Redefining Jobs & Managing Diversity

Redefining jobs – breaking high-end knowledge work into specialized pieces - helps address skill shortages.

Sound management of diverse workforces can improve an organization’s effectiveness & competitive advantages through

Lower cost

Better reputation, leading to resource acquisition

Marketing sensitivity to client cultures

Creativity through diversity of perspectives

Better problem solving

Greater organizational flexibility

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A worldwide shortage of skilled workers means firms must redefine jobs – investing in apprenticeships, transferring some tasks to lower level or outsourced people. By identifying the gap between the talent your firm has and what it requires; creating narrower, more-focused job descriptions in areas where talent is scarce; selecting from various options to fill the skills gap; and rewiring processes for talent and knowledge management, this can lower costs and increase job satisfaction of the experts who remain. A combination of demographic trends and accelerating globalization of business has made the management of cultural differences a critical issue. Workforces, which reflect demographic changes in the overall population, will be increasingly heterogeneous along dimensions such as gender, race, ethnicity, and nationality. The effective management of diversity can enhance the social responsibility goals of an organization. Cost: firms effective in managing diversity will have a cost advantage over those that are not. Resource acquisition: firms with excellent reputations as prospective employers for women and ethnic minorities will have an advantage in the competition for top talent. Marketing: the insight and cultural sensitivity that members with roots in other countries bring to marketing efforts will be very useful. Creativity: less emphasis on conformity to norms of the past and diversity of perspectives will improve the level of creativity. Problem solving: heterogeneous groups typically produce better decisions because of the wider range of perspectives. Organizational flexibility: with effective programs to enhance workplace diversity, systems become less determinate, less standardized, and therefore more fluid. Such fluidity should lead to greater flexibility to react to environmental changes. See Strategy Spotlight 4.3 for how millennials view diversity.

Social Capital

Social capital – the friendships and working relationships among talented individuals – helps tie knowledge workers to a given firm.

Interaction, sharing, and collaboration will help develop firm-specific ties, with a higher probability of retaining key knowledge workers.

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Successful firms are well aware that the attraction, development, and retention of talent is a necessary but not sufficient condition for creating competitive advantages. In the knowledge economy, it is not the stock of human capital that is important, but the extent to which it is combined and leveraged. The development of social capital – the friendships and working relationships among talented individuals – helps tie knowledge workers to a given firm. Competitive advantages tend to be harder for competitors to copy if they are based on “unique bundles” of resources. So, if employees are working effectively in teams and sharing their knowledge and learning from each other, not only will they be more likely to add value to the firm, but they also will be less likely to leave the organization, because of the loyalties and social ties they develop over time.

How Social Capital Helps Attract and Retain Talent

Hiring via personal (social) networks:

Some job candidates may bring other talent with them – the Pied Piper effect.

Talent can emigrate from an organization to form startup ventures.

Social networks can provide a mechanism for obtaining resources and information from outside the organization.

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See the example of the Pied Piper effect at Third Millennium Communications.

Social Networks

Social network analysis depicts the pattern of interactions among individuals and helps to diagnose effective and ineffective patterns.

Who links to whom within the network or cluster?

Who communicates to whom and how effective is this communication?

Social ties can link individuals so they can

Convey needed resources.

Exchange information & support.

Treat each other in positive ways.

Develop trusting relationships to improve the groups’ effectiveness.

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Social networks can link people, ideas, and resources that wouldn’t normally be connected top each other., thereby providing access to assets that can bring about important change in organizations. Social network analysis = analysis of the pattern of social interactions among individuals. Analysis of communication patterns is helpful because the configuration of group members’ social ties within and outside the group affects the extent to which members connect to individuals who: convey needed resources, have the opportunity to exchange information and support, have the motivation to treat each other in positive ways, and, have the time to develop trusting relationships that might improve the group’s effectiveness. Developing social capital requires interdependence among group members. Social capital erodes when people in the network become independent. And increased interactions between members aid in the development and maintenance of mutual obligations in a social network.

Example: Social Network Analysis

Exhibit 4.4 A Simplified Social Network

Jump to Appendix 1 for long description.

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In this diagram the links are used to depict informal relationships among individuals involving communication flows, personal support, and advice networks. There may be some individuals with literally no linkages, such as Fred. These individuals are typically labeled “isolates.” However, most people do have some linkages with others. There are two primary types of mechanisms through which social capital flows: closure relationships depicted by Bill, Frank, George, and Susan, where one member is central to the communication flows in a group; and bridging relationships, depicted by Mary, where one person bridges or brings together groups that would have otherwise been unconnected.

Social Network Analysis

Closure Relationships

The degree to which all members of the social network have relationships with other group members

Bridging Relationships

Relationships in a social network that connect otherwise disconnected people

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Both closure and bridging relationships have important implications for the effective flow of information in organizations and for the management of knowledge. Closure = the degree to which all members of the social network have relationships (or ties) with other group members. Through closure, group members develop strong relationships with each other, high levels of trust, and greater solidarity. Bridging relationships = relationships in a social network that connect otherwise disconnected people. Employees who bridge disconnected people tend to receive timely, diverse information because of their access to a wide range of heterogeneous information flows. Structural holes = social gaps between groups in a social network where there are few relationships bridging the groups. Example: sales and engineering are two groups where members traditionally interact more with their peers than across group boundaries.

Social Networks: Implications for Career Success

Effective social networks provide advantages for the firm AND for an individual’s career advancement.

Access to private information communicated in the context of personal relationships

Access to diverse skill sets – trading information or skills with people whose experiences differ from your own

Access to power

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Private information = information that is not available from public sources, and is usually communicated in the context of personal relationships. Public information = information that is available from public sources such as the Internet. Success is also tied to the ability to transcend natural skill limitations through others. Training information or skills with people whose experiences differ from your own provides you with unique, exceptionally valuable resources. You can also gain power by being a network broker, or someone who bridges multiple networks. Network brokers can adapt to changes in the organization, develop clients, and synthesize opposing points of view. Brokers are especially powerful because they connect separate clusters, thus stimulating collaboration among otherwise independent specialists.

Social Capital: Potential Downside

Social capital does have some potential downsides.

Groupthink

Dysfunctional human resource practices

Expensive socialization processes (orientation, training)

Distortion or selective use of information to favor preferred courses of action

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Groupthink = a tendency in an organization for individuals not to question shared beliefs. Groupthink may occur in networks with high levels of closure where there is little input from people outside of the network. If there are deep-rooted mindsets, there could be a tendency to develop dysfunctional human resource practices. The organization could continue to hire, reward, and promote like-minded people who tend to further intensify organizational inertia and erode innovation. Socialization processes such as orientation and training can be expensive in terms of both financial resources and managerial commitment. A cost-benefit analysis is encouraged. Individuals may also use the contacts they develop to pursue their own interests and agendas in ways that may be inconsistent with the organization’s goals and objectives – engaging in unethical or illegal acts. (Chapter 9 contains discussion of behavioral control mechanisms that reduce such dysfunctional behaviors and actions.)

Using Technology to Leverage Human Capital and Knowledge

Sharing knowledge and information throughout the organization

Conserves resources

Develops products and services

Creates new opportunities

Technology can leverage human capital & knowledge

Within the organization

With customers

With suppliers

Sharing knowledge and information throughout the organization can be a means of conserving resources, developing products and services, and creating new opportunities. Technology can be used to leverage human capital and knowledge within organizations as well as with customers and suppliers beyond their boundaries.

Networks & Electronic Teams: Share Information & Enhance Collaboration

Using networks to share information and develop products and services

Through e-mail

Through an intra-company news feed

Using electronic teams or e-teams to accelerate product development

Advantages: few geographic constraints; access to multiple social contacts

Challenges: failure to identify team members with the most appropriate knowledge and resources; low cohesion, low trust, lack of shared understanding creates “process loss”

E-mail is an effective means of communicating a wide variety of information. It is quick, easy, and almost costless, however it can be excessive, and embarrassing if one is not careful. Electronic teams = a team of individuals that completes tasks primarily through e-mail communication. However, such teams require members who can identify those among them with the most appropriate knowledge and resources; and members need to know how to combine individual contributions in the most effective manner for a coordinated and appropriate response. “Process losses” prevent teams from reaching high levels of performance because of inefficient interaction dynamics among team members.

Question (2 of 2)

Which of the following is NOT an advantage of electronic teams (e-teams)?

They can facilitate communication.

They have the potential to acquire a broader range of human capital.

They can be effective in generating social capital.

They’re less flexible in responding to unanticipated work challenges.

Answer: D. If e-team leaders and team members do not know how to combine individual contributions in the most effective manner they will not be able to create a coordinated appropriate response.

Codifying Knowledge for Competitive Advantage

Explicit (codified) knowledge

Can be documented

Can be widely distributed

Can be easily replicated

Can be reused many times at very low cost

Tacit knowledge

Embedded in personal experience

Shared only with the consent and participation of the individual

Has the organization effectively used technology to codify knowledge for competitive advantage?

Tacit knowledge is embedded in personal experience and shared only with the consent and participation of the individual. Explicit (or codified) knowledge, on the other hand, is knowledge that can be documented, widely distributed, and easily replicated. One of the challenges of knowledge-intensive organizations is to capture and codify the knowledge and experience that, in effect, resides in the heads of its employees. See Strategy Spotlight 4.5 for how SAP has been able to leverage the expertise and involvement of its users to develop new knowledge and transmit it to SAP’s entire user community.

Protecting Intellectual Assets

Intellectual property rights are more difficult to define and protect than property rights for physical assets.

Unlike physical assets, intellectual property can be stolen.

If intellectual property rights are not reliably protected by the state, there will be no incentive to develop new products and services.

Firms can use technology, attract human capital, or tap into research and design networks to get access to information. However employees can become disgruntled and patents can expire. Where is the firm’s sustainable competitive advantage then? Intellectual property rights = intangible property owned by a firm in the forms of patents, copyrights, trademarks, or trade secrets. Protecting a firm’s intellectual property requires a concerted effort on the part of the company. Effective protection of intellectual property is necessary before any investor will finance such an intricate undertaking. Intellectual property is characterized by significant development costs and very low marginal costs. Once developed, though, the reproduction and distribution cost (or variable costs) may be almost zero. (See Case 15, Zynga, for a discussion of how one company has struggled with this.)

Protecting Intellectual Assets Through Dynamic Capabilities

Dynamic capabilities involve the capacity to build and protect a competitive advantage.

Requires knowledge, assets, competencies, and complementary assets & technologies

Requires the ability to sense & seize new opportunities, generate new knowledge, and reconfigure existing assets & capabilities

Include internal processes & routines that enable product development, strategic decision making, alliances, or acquisitions

Dynamic capabilities = a firm’s capacity to build and protect a competitive advantage, which rests on knowledge, assets, competencies, complementary assets, and technologies. Dynamic capabilities include the ability to sense and seize new opportunities, generate new knowledge, and reconfigure existing assets and capabilities. Dynamic capabilities may be one of the best ways that a firm can protect its intellectual property. Dynamic capabilities are related to the entrepreneurial side of the firm and are built within a firm through its environmental and technological sensing apparatus, its choices of organizational form, and its collective ability to strategize. Dynamic capabilities are about the ability of an organization to challenge the conventional wisdom within its industry and market, learn and innovate, adapt to the changing world, and continuously adopt new ways to serve the evolving needs of the market.

Summary: Creating Value Through Intellectual Assets

Human capital: Does the organization effectively attract, develop, and retain talent? Does the organization value diversity?

Social capital: Does the organization have positive personal and professional relationships among employees?

Do the social networks within the organization have the appropriate levels of closure and bridging relationships?

Technology: Does the organization effectively use technology to transfer best practices across the organization, codify knowledge, and develop dynamic capabilities for competitive advantage?

Intellectual assets or intangible resources are critical to organizational success. The growing importance of knowledge, coupled with the move by labor markets to reward knowledge work, tells us that investing in a company is, in essence, buying a set of talents, capabilities, skills, and ideas – intellectual capital – not physical and financial resources. Here are some questions organizations should ask. See Exhibit 4.5: Issues to consider in creating value through human capital, social capital, and technology.

APPENDICES

Description of Images

Appendix 1 Example: Social Network Analysis

Return to slide.

The graphic shows a simplified social network.

Fred is outside of the group, or an "isolate." He has no connections to the other five.

Mary is shown with connections to the other four, George, Bill, Frank, and Susan.

However, none of these four have connections to each other or Fred, only to Mary.