Firms with intangible assets often opt for management compensation by making use of different forms of equity. Instead of making use of other options, service based organizations compensate the management in terms of equity. This particular step can be directly correlated to the fact that these firms value human capital as their biggest and most valuable asset and such steps are taken to retain human resources in the company. The company, as such, has to make amends to normative ways of compensation which can be accounted for easily and opt for rather innovative, challenging and satisfying ways to remunerate the management.
There are different ways in which these challenges can be overcome. Since these problems stem from accounting, the solution also lies in the system of accounting itself. A few operating expenses can be classified as capital expenses (Trugman, 2007). A consumer products company could capitalize advertising expenses whereas HR expenses in a service related firm could be capitalized. The underlying concept, however, is that for an expense to be capitalized, it is necessary that the benefits of such an expense are gathered over multiple accounting periods. If this concept is followed religiously, one of the major challenges of segregating expenditures under the two broad heads and the same being inappropriate for few companies and firms can be averted. A three-step process can be followed in this case. The first step is to find out the period during which the benefit of the particular expense would flow and capitalize the same if it is more than one. In order to estimate the returns on equity and capital, the asset created by such an expense should also be recognized. The created asset should be amortized whereas the operating expense should be adjusted against it.
The other prominent challenge that affects firms with significant intangible assets is that the management tends to get remuneration in terms of equity options and not cash or cash equivalents. The reason behind this is to increase the interest of the management as they are stockholders of the company as well. However, the main reason in the case of such firms happens to be their cash-poor condition which they protect by not fishing out finances in remuneration. As such, the original stockholders and the management constitute two sets of claimholders when the entire equity needs to be calculated. There are three different methods for valuing shares and that option which best suits the nature of business needs to be explored in this case. Since it is important that the equity capital is calculated accurately, accountants should give emphasis on this part and deal with the situation in the most appropriate way. The diluted stock method and the treasury stock method are not accurate ways and are seldom used in such cases. Modified option pricing models need to be used for valuing the equity options. It is not just the past or the present equity options that need to be considered. In fact, the value of common shares at a given date should be computed on the basis of both the past and the present. The value of common shares should be adjusted for options granted in the past and those foreseeable option grants that would occur in the future.