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Intellectual capital in the new Internet economy

Its meaning, measurement and management for enhancing quality
Ray F. Carroll and Richard R. Tansey
Hong Kong Baptist University, Hong Kong
Keywords Intellectual capital, Intangible assets, Performance measurement, Quality management, Valuation Abstract Intellectual capital is the cornerstone of corporate success in the new economy. This article will discuss the meaning, measurement, and management of intellectual capital. It discusses the forces driving the concern about intellectual capital and how one company, Intel Corporation, has been able to manage intellectual capital to achieve market dominance. Unlike Philip Morris, Coca-Cola or McDonald's, which earn hundreds of millions year-in and year-out from the same product lines, technology companies must constantly reinvent themselves. Intel has managed to do this, but it is the exception.


Current intellectual capital definitions This is the age of the intellect. New economy companies must be agile, rapidly introducing new wave after new wave of products into rapidly changing global markets. Success requires intellectual capital (IC) and the ability to manage this scarce resource. The USA captured the market for memory chips in the 1980s because it was better than its Japanese rivals at leveraging its intellectual capital. Unlike the Japanese who were unable to market semi-conductor goods effectively, US high tech firms such as Intel excelled at marketing. ``Intel discovered the value of marketing in the late 1980s as it extended its dominance in PC chips. Marketing will be critical to Intel's efforts to extend its influence'' (Brandt, 1993a, p. 54). In 1991 Intel's 486X chip brought mainframe computer power to the masses and by 1993 the USA had become the low-cost producer among major industrial nations. The importance of IC as a critical driver in the competitive high tech sector is exemplified by the following quote:
I don't think anyone appreciated how fast Intel was going to throw new processors into the hopper. You put out a product, and in six to nine months it has to be replaced. It's hard for a company of any size to keep up (Pitta, 1992).

Journal of Intellectual Capital, Vol. 1 No. 4, 2000, pp. 296-311. # MCB University Press, 1469-1930

This paper is about intellectual capital, its creation and maintenance in the global corporate context. We use accounting concepts to create a structure and then reference Intel Corp. to illustrate our findings. We chose Intel because this company has reinvented itself three times since its inception in 1968. First its core business was making memory chips, then in the early 1980s it exited memory chips to focus on micro processors. Recently since the mid-1990s it has been in the process of building a new global Internet structure.

Legal perspective Intellectual capital is typically defined as intellectual property rights (IP). Intangible assets, i.e. patents, trademarks, and copyrights, come to mind. IP rights are recognized for accounting purposes because an objective value can be attached to their costs based on actual market transactions. In a competitive market the cost of a tangible asset is equal to the present value of the future benefits expected from the asset's lifetime use. No such relationship exists for IP rights. A patent is booked at its registration cost which may be a mere fraction of the cash flows actually generated from patent protection. Intel's fee, for example for developing its initial random logic micro-processor chips, was fixed at $60,000 but the value of new product markets created by the microprocessor is estimated at over $500bn a year (Manner, 1996). Unrecorded intangibles IC is commonly defined as intangible assets not frequently recorded on the balance sheet, such as employee skills, R&D, internally generated goodwill, brands, licensing opportunities, and innovative use of customer databases and relationships along the supply value chain. A major source of unrecorded intangibles is individual personality. Personality is the confluence of genetics, environment and personal traits and experiences (Koselka and Shook, 1997). Unrecorded intangibles help shape the assets that are recorded. For example architectural design of new corporate headquarters can reflect the personality and culture of companies of Silicon Valley companies such as Intel (Plotnikoff, 2000). Accounting perspective of knowledge based assets The Society of Management Accountants of Canada (1998) has defined IC in terms of assets as follows:
In balance sheet terms, intellectual assets are those knowledge-based items, that a company owns which will produce a future stream of benefits for the company. This can include technology, management and consulting processes and patented intellectual property.

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In Fortune, Thomas Stewart (1994) defined IC as intellectual material that has been formalized, captured and leveraged to produce higher-valued assets. A popular way for accountants to define IC is as the difference between market value and book value. According to Baruch Lev (1997) of NYU the market-tobook ratio of the S&P 500 was about 1:1 in the manufacturing economy of the 1970s. In the current knowledge-based economy it is about 6:1 on average and about 15:1 for Intel and 25:1 for Microsoft. The accounting system is clearly not accounting for intellectual capital, which for many firms is the largest and most valuable asset. Consequently it may be difficult to analyze a company by merely looking at its financial statements. A corporate strategy perspective IC is focused on four corporate knowledge phases beginning with its acquisition, accumulation, transformation, and ending with its valuation. IC is

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best conceived as the knowledge and creativity available to a firm to implement a business strategy that maximizes stakeholder value. This broad definition includes any benefits that can accrue to a firm along the value chain from applying knowledge and creativity. A strategic perspective involves capitalizing on knowledge to build alliances to ward off ``the innovator's dilemma.'' The innovator's dilemma is the phenomenon that well-managed companies that invest in new technologies still lose market share from disruptive technologies that move in to provide better value to low-end customers (Christensen, 1997). Microsoft is pursuing this strategy to prevent Intel from substituting advanced network chips to replace the current software that operates the Internet infrastructure. What is driving the current interest in IC?
IP intellectual property is often said to be the name of the high-tech game. IP makes you rich as Croesus, in the case of California's richest man Gordon Moore of Intel ($8bn) and the world's richest man, Bill Gates of Microsoft ($45bn) (Manner, 1998).

The new economy has shifted away from one based on traditional manufacturing to one propelled by knowledge. This shift is perhaps most evident in high tech firms. We use Intel to illustrate that business success is driven by the ability to use intellectual capital to maintain and extend competitive advantage and bring huge returns to shareholders. For instance, Intel has over $10 billion (bn) of sales through the Web and has cut data flow between trading partners from three weeks to 48 hours, while reducing inventory by 70 per cent (Shah, 2000). The major forces driving this transition are: . Technological changes in materials handling, information processing and biotechnology. E-commerce is beginning to revolutionize the way business is conducted and no one is certain of what will be the consequences. The Internet service provider business is growing at 100200 per cent a year in emerging countries and Intel's goal is to get in at the bottom and grow with them (Richey, 1999). . Trade liberalization represented by agreements such as NAFTA and the European Free Trade Agreement and expansion of the WTO. This has resulted in greater mobility of professionals and created a very competitive market for human capital. . Globalization of production systems and the goal to establish one dominant industry standard until the next strategic inflection point (Grove, 1996) for any new technology. Intel has captured 80 per cent of the world's micro-processor market with its 8086 micro-processor that has become the global standard for both home and business uses. We have seen a revolution in the worldwide political landscape, the rise of intense international competition, faster product development cycles, and explosive growth in the service sector. Complexity and the pace of change are fuelled mostly by knowledge and this has generated strong interest in

intellectual capital. Ambition plus personality combine to create a new economy culture in which conspicuous production (Lewis, 1989) replaces conspicuous consumption and paranoia replaces moderation as the moulder of corporate strategy. The leading global firms are increasingly dependent on the rapid production and distribution of knowledge and the need for single global standards for new technological innovations. For example, instead of changing fibre cables and digging up urban infrastructures every five or ten years Intel aims to establish one common infrastructure in which the chips and software are continually updated, thus saving billions of dollars (Foremski, 1999). Physical products and services are simply the exterior packaging of knowledge. In the new economy ideas and knowledge become the principal raw materials, and production is driven by diverse teams, empowered by technology. Successful firms are those that can produce and apply knowledge. They can consolidate corporate wide knowledge, skills and abilities faster than competitors through rapid organizational learning. A common proverb is ``knowledge is power''. However, from a new economy corporate perspective, real power flows from both conditional and unconditional knowledge sharing. A corporation is strategically vulnerable if too few of its employees possess adequate workplace knowledge. Perhaps a major reason for our interest in IC is the fear that key individuals can walk into the arms of competition taking valuable knowledge with them. This fear has led Intel to repeatedly sue both its former employees and their new employers for stealing secrets about Intel's new product innovations. Unconditional knowledge sharing In the early 1980s Intel began engaging in co-operative ventures. In 1982 IBM took a 12 per cent stake in Intel but agreed not to increase its stake beyond 30 per cent or to involve itself in daily operations. Intel's strategy has been to secure its position in the market place through second outsourcing with tight contractual controls over its proprietary assets. Intel agreed to this IBM alliance because it was cash poor during this recessionary period, urgently needing funds to launch new products. IBM was willing to finance Intel because it did not wish to remain hostage to Japanese micro-processing firms. The Japanese had recently dominated the production of televisions and Americans did not want to see a repeat of this ``invasion'' in the computer industry. Intel became a reliable US second source for IBM for both memory and micro-processor chips. The US Justice Department looked the other way despite the fact that the two dominant US producers of chips were colluding (Business Week, 1983a). Conditional knowledge sharing Intel's current policy of second sourcing is basically one of quid pro quo. Intel demands that any firm receiving Intel's proprietary technology by becoming a second source supplier to OEMs reciprocate by giving Intel proprietary

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information about their products. Traditionally OEMs such as IBM or Gateway did not want to rely solely on a single chip provider. They wanted to avoid becoming totally dependent on Intel to prevent Intel from having too much pricing power in the distribution channel. Before 1990 the OBMs were the leaders in the distribution channel and had enough market power to force Intel to share its proprietary chip technology with rival chip producers without reciprocity (Grove, 1996). Employees as revenue generators Part of what is driving the interest in IC is a management philosophy that views employees as revenue generators rather than as cost burdens. This view recognizes that employees add value through adaptive learning and the creative use of knowledge.. Intel recognizes the importance of employees by placing a strong emphasis on training and retraining. For example it is not uncommon for 20-year veterans at Intel to engage in totally new training experiences. Grove says, ``F F FIntel is a schoolish company, where it's perfectly respectable for a senior person with twenty years of experience to take some time, buckle down and learn a whole new set of skills'' (Grove, 1996, p. 145). Viewing employees as revenue generators requires an organizational culture focused on employee initiative and creativity. Ted Hoff, the Intel employee who invented their first microprocessor, describes a creative environment:
There was a tremendous spirit a sense of doing the impossible F F F in this kind of business you need to encourage a degree of creativity you can't chain people to a bench and get them to crank out the numbers (Electronics Weekly, 1996, p 1-4).

The flip side of employees as revenue generators is that personnel turnover has grave financial consequences:
The notion that someone could simply walk out with $1,600 million (about the same size as the Barings loss) is barely conceivable, but defections resulting in potential losses of the same magnitude happen all the time (Inside Fraud, 1999).

Knowledge management as a new HR concern Intel suffered serious problems in the early 1980s managing its human capital. Intel had several major defections. For example Ted Hoff, designer of the first successful microprocessor and one of Intel's top scientists left to become VP of Arari Inc. ``His leaving is a real indictment of Intel's ability to manage people'' (Business Week, 1983, p. 88). However, Intel now has designed pay incentive systems based on performance and allows discretion which helps retain key employees. For example, Steve McGeady, Intel's VP for new business has become an investor in startup businesses (Goodin, 1999). These businesses increase demand for chips thereby leveraging Intel's intellectual capital. Importance of knowledge retention Another driver of the interest in IC is the growing awareness of the possible consequences of not managing IC. A few years ago, when NASA went to the US

Congress requesting funding for the next generation heavy lift launch vehicle, NASA officials were questioned on why the agency could not just rebuild the Saturn 5 rocket, the largest and most powerful American rocket ever assembled. In the 1960s about $50 billion was invested to create this rocket yet NASA estimated that it would cost the same amount of money to rebuild a new one. No set of plans could be found, and most of the engineers who had built the initial rocket were retired or dead. About half of the intellectual capital that went into the rocket's creation had been lost. Although some knowledge was captured and retained, a better IC management system would have saved billions of dollars that will have to be spent to reinvent this new economy wheel. Job creation The interest in intellectual capital is also driven by social concerns about the impact of high technology on joblessness. Nobel prize winner Wassily Leontief fears that the explosive rise in high technology resulting from the electronic chip will have a devastating effect on labour because in the age of the microchip ``not only the physical but also the controlling `mental' functions involved in the production of goods and services can be performed without the participation of human labor'' (Business Week, 1983b). This gloomy prediction of lost jobs has not occurred in the USA. In 1997 Fortune Magazine (Issacson, 1998) reported that over 400,000 new jobs were created in just one month reducing unemployment to the lowest in 25 years. Advances in microchip technology accounting for 10 per cent of America's growth in 1990 rose to 30 per cent of the growth in 1997. Why book value Tmarket value the failure of accounting to recognize the new economy's intellectual capital
We expect technology stocks to continue to be one of the most volatile groups in the market. We believe the current tech stock slump has little to do with the Fed and much more to do with investors trying to figure out how much they are willing to pay for high-growth technology companies (Sibilski, 2000).

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Valuation of high technology firms represents a formidable challenge. A major accounting problem in the new economy is its failure to recognize IC. Assets and liabilities are recorded at historical cost, and changes in their values are generally not recognized until these items are disposed. If we control for changes in market value it is arguable that IC is the difference between the current market value of net assets (assets minus liabilities) and market value of a firm's shares. Myopia of accounting measures Traditional measures have tended to be primarily financial, often sacrificing relevance for reliability. To be relevant, information must be timely, provide feedback value, or have predictive ability. The purpose of accounting/financial reporting is to provide information that is useful to investors, creditors, monitors, and other stakeholders such as employees and major suppliers and

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customers in making investment, credit, monitoring, and other decisions. Financial reporting is required for specific functions such as asset, capital and investment allocation, settling of actual and implied contracts, and corporate stewardship and monitoring. Accounting profession whistle blowing Johnson and Kaplan (1987) severely criticized financial accounting measures for overemphasizing objectively and reliability at the expense of relevance. Robert Eccles (1991) of the Harvard Business School strongly argued that financial measures distort reality, representing lagging instead of leading business success indicators. Thus, new economy firms are burdened with financial accounting systems with artificial constraints such as:


Reported earnings are based on past costs rather than replacement cost leading to an understatement of corporate assets. Assets are recorded at market value only on the date of acquisition. Changes occurring after that date are not generally recognized until the asset is disposed. Some exceptions warrant write-downs but not writeups leading to another understatement of assets. This is not a serious concern for a firm such as Intel that replaces its capital assets every two to three years, investing $1 million in new manufacturing equipment per employee. The distortion between book value and market value will be less for high technology firms whose capital assets have short life cycles. Earnings depend on the firm's revenue recognition accounting policies and thus management has wide discretion to define whether they had a profitable quarter or not. For Intel with 1999 revenues of $29.4 billion there is considerable room for discretionary reporting to help shape Wall Street analysts' quarterly expectations. Also, managers may be motivated to choose accounting policies that are in line with maximizing rewards that are affected by reported earnings. Rewards can be substantial. For example, Andy Grove CEO of Intel has total stock holdings of 4.1 million shares worth approximately $492 million (http:// Reported on 25 April, 2000). Earnings are influenced by how a firm decides to capitalize or expense cash outlays. For new economy firms research costs may be the single most important determinant of the firm's future ability to succeed. Research costs are an asset if future benefits will be generated. Yet GAAP requires that research costs be expensed. Intel spent $780 million in 1992 and increased this to $3.1 billion in 1999. Internally generated intangibles are not given any accounting recognition. In 1996 the annual journal Financial World designated the Intel brand name as the tenth most valuable brand in the world, yet this valuable asset was not reported on the balance sheet (Intergraph

Corporation v. Intel Corporation, US District Court for the Northern District of Alabama). Accounting provides minimal information about individual passion and group dynamics that are the mainstay of building intellectual capital. For example, American workers are motivated differently than Japanese workers. In one study quality management researchers found that ``unlike Japanese workers, Americans are not interested in making small step-by-step improvements. They want to achieve the breakthrough, the impossible dream'' (Business Week, 1993, p. 52). Accounting measures do not tell users anything about the psychological climate that motivates American workers. Financial statements measures may impede the financing of knowledge based firms because their assets, human resources, are not given accounting recognition.

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An anomaly to the above is that intangibles are recognized in the form of purchased goodwill in the case of business acquisitions. This happens when the amount paid for an acquisition exceeds the market value of the net assets of the acquired firm. Accounting for intangibles involves an upwards bias in favour of conservatism. GAAP requires that research cost be expensed because research results are uncertain. We can argue however that future returns from investments in plants and equipment are also uncertain. North American Steel Companies learned this the hard way. A lot of intellectual capital is hidden from view in research expenses. The most successful companies in today's market place have become leaders by investing heavily in R&D. Intel has been investing in research at an annual growth rate of over 19 per cent for the past ten years. In the semiconductor business the pressure for innovation is great and the cost of capital equipment is escalating. ``A very small addendum to Moore's Law (that each new chip contained roughly twice as much capacity as its predecessor, and each chip was released within 18-24 months of the previous chip) is Rock's Law which says that the cost of capital equipment to build semiconductors will double every four years.'' Lev (1997) argues that firms should capitalize research costs and if results do not pan out as expected the costs should be expensed when failure is evident and adjustments made to previous years financials. Lev notes that historians frequently revise historical accounts, and so too should accountants. An oddity is that a firm must expense costs incurred to develop a new product and its related advertising costs. If the asset were purchased instead of developed internally the costs can be capitalized. The main obstacles to recognizing IC relate to the complexity of valuation. Accounting standard setters are concerned about the uncertainty of any value ultimately determined, and the potential for fraud if values are established without objective verifiable evidence. As a result of these concerns, obviously valuable intangible assets go unrecognized. It is arguable that the values of

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these assets are reflected, implicitly, in the statement of cash flows or in earnings, so obviating the need to report a separate valuation. If this is true for intangibles then it is true for other assets. If we carry this argument to its logical conclusion, there is no compelling reason to report the value of any asset. On its face validity, a reasonable goal for financial reporting is to improve the credibility and reliability of all asset valuations or to develop new solutions to this nagging problem. Ignoring the issue is an invalid alternative, especially for industries in which intangibles are an enterprise's most valuable asset. In addition to these limitations it is well documented that relying on single financial measures such as ROI or net income to measure performance lead to sub-optimal business decisions and dysfunctional behaviour (Drury, 1992; Garrison et al., 1998). For knowledge based firms the problem is greatly magnified. The absence of intangible assets on the balance sheet results in return-on-investment and other financial ratios being seriously distorted. The failure to measure and record IC can lead to the misallocation of capital, underinvestment in intellectual capital creating activities such as training, and unrealistic income reporting. Financial statements become less and less relevant. Financial measures alone may not be helpful in predicting who will be the future market leaders. For example, financial measures of firms like IBM, Xerox, US Steel, Pan Am Airlines in the 1970s were no help in projecting their loss of dominance. If non-financial measures of customer satisfaction, quality, and innovation had supplemented their financials perhaps these firms could have made better strategic choices. Non-financial knowledge measures A recent trend in management accounting standards is a growing use of nonfinancial measurements. Accountants supply management with non-financial information that offers insight into the problems behind the numbers. To quote Kaplan and Norton (1992), an over-emphasis on financial measures ``can give misleading signals for continuous improvement and innovation-activities today's competitive environment demands''. Some examples of non-financial information include: on time delivery measured as the percentage of shipments made on or before the promised delivery date; the number of defective units shipped to customers as a percentage of total units shipped; the number of customer complaints; and the percentage of revenue coming from new products. This information should be calculated accurately and consistently over time so trends can be identified and corrective action taken. Management should draw on accountants to supplement financial information by collecting, measuring, recording, reporting and analyzing of non-financial information relating to corporate strategy (Garrison et al., 1998). An implicit assumption is that IC is captured by non-financial measures. The balanced scorecard (BSC), developed by the Norton Nolan Group and made famous by advocates such as Bob Kaplan of Harvard, has become popular around the world as a means of providing performance measures from various perspectives. Implementing a balanced scorecard may help achieve goal congruence by focusing

on the entire organization. More complete information may serve as a basis for improving communication and setting organizational objectives thus generating better input for creating new corporate strategies. An attraction of the BSC is that every measurement chosen is related to a firm's strategy. According to Anthony and Govindarajan (1998) these measurements should: (1) accurately reflect the critical factors that will determine the success of the company's strategy; (2) show the causal relationships among the individual constructs indicating how non-financial measures affect long-term financial results; and (3) provide a comprehensive view of the firm's current status. A well-known model recommends gathering data on over 160 accounting measures (Edvinsson and Malone, 1997). This may be overkill. Corporate workstations assist in generating these measures, but how do accountants prioritize among these measures? Where is the metric for making the tradeoffs? It is unclear which measures are reliable predictors of a firm's long-run profitability. Some measures may be irrelevant, and too many critical measures make the system uncontrollably complex. Customer satisfaction will likely lead to repeat sales and hence to shareholder value, but can we measure customer satisfaction accurately? Dissatisfied customers are the ones who fill out surveys so there is a downward bias. Another problem with these measures is that they do not provide any mechanism for improvement. Sometimes major changes are required which need additional resources or a complete cultural change. This will not automatically happen unless drastic changes are made in the way business is conducted. Leveraging intellectual capital It seems clear that in today's economy maximizing the value of a firm's intellectual assets will have a larger effect on firm value than maximizing the value of its financial assets. IC is indeed the underlying source of future cash flows. Satisfying customer needs profitably in an increasingly competitive market place requires that firms manage IC effectively. It is almost a cliche however to say that what gets measured gets managed. Fear of not managing IC is driving firms to look for new metrics. We agree with Robert Mclean (1995) that firms need to develop tools that will inventory intellectual capital and help prioritize additional IC investments. Clearly the process by which firm value is being created is changing so we need a model that helps capture information about this process. It may be helpful if we can agree on a common language for discussing IC. Leif Edvinsson at Skandia (and Hubert Saint-Onge at Canadian Imperial Bank of Commerce) proposed that intellectual capital is made up of human capital, structural capital and customer capital (Edvinsson and Sullivan, 1996):

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Human capital knowledge, experience, and competencies in the minds of individuals. This is the origin of innovation for any business. Structural capital the value of what is left when the human capital the employees has gone home (i.e.) databases, customer lists, manuals, and organizational structures. These are the systems and procedures required to exploit human capital for tracking management activities. Customer capital the value of the customer base, customer relationships, and customer potential.


Leveraging the three components of Intel's intellectual capital Creating domestic human capital In the early 1980s Intel brought jobs back from Asia and Mexico. Because the transportation component of packaging often exceeds labour costs, Intel shifted the packaging of its silicon chips to Chandler, Arizona. This strategy had the effect of bringing Intel closer to its main customers and also led to economies in training its employees and increased reliability of its products. Intel's corporate strategy of creating structural capital during the boom period of the early 1980s Intel created structural capital by creating autonomy in its business relationships. Intel used the economic boom of the early 1980s to reduce its dependence on IBM as its major customer. Chip sales were reduced by 33 per cent despite the fact that Intel produced 70 per cent of the world micro processing chips. Greater independence enabled Intel to later become a competitor to IBM in the computer supplies business Intel's structural capital has been called its ``best kept secret'' (Business Week, 1984a). Marketing segmentation as a tool for creating enhanced customer capital In the early 1980s Intel leveraged its IC primarily through marketing strategies that focused on selling only complete systems to customers. A new strategy called ``decomposability'' was introduced by which Intel sold both complete systems and components or any combination desired to fit the tailor-made needs of its customers. Facing tough international competition Grove said, ``Our best strategy against the Japanese is to compete with them on every front in systems and in components'' (Business Week, 1982). Intel seems particularly adept at leveraging customer capital. For example, in the 1970s Intel was suffering at the hands of more efficient Japanese rivals. Japanese firms had gained a commanding market share in the US market because they produced cheaper, more reliable and higher quality memory chips. For a while the Japanese held 40 per cent of the market of 16K RAMs. By the end of the 1970s the Japanese captured 70 per cent of the more sophisticated 64K designs. To close this quality gap Intel succeeded by using a market segmentation strategy through which it differentiated its chip offerings to meet

varying customer needs. For example, chips were developed for signal processing and graphics. Intel was also closer in geography and language to its big customers (Business Week, 1984b). Market segmentation was used initially as a very successful defensive strategy to reduce the penetration of the Japanese into the US domestic market. Intel continues to this day to use market segmentation, but now it employs a proactive global strategy to maintain its dominant position. A market-based allocation rule for resolving the conflicting demands of structural and customer capital Intel's internal selection decision rule: strategically Intel viewed itself in the 1980s primarily as being in the memory business (DRAM). Intel's senior management strongly believed that the company's core product was producing increasing amounts of memory to clients while ignoring the fact that memory only produced 3 per cent of the firm's revenue stream (Burgelman, 1984). Despite top management's belief that its core business was still memory Intel's micro-processing business accounted for over half of the firm's revenues. Only when mid-level executives allocated most of the firm's manufacturing capacity to micro-processor production did it become obvious that Intel had evolved a new corporate strategy without explicit direction from top management. Intel had created an organizational environmental that encouraged ``constructive confrontation'' in which employees' views were listened to and evaluated based on their intellectual merit rather than the individual contributor's rank. Ideas were evaluated according to the firm's internal selection criteria, namely that alternative strategies maximize Intel's ROI when allocating space in its manufacturing plant between competing product categories. This open policy of constructive confrontation was an effective tool for leveraging Intel's human capital. This belated insight represented an openness by top management that corporate strategy at Intel was a cooperative enterprise shared by both senior executives and mid-management in which strategy evolved often in a dialectical fashion from the bottom up. New product forms as a function of customer driven R&D Intel has evolved as a result of responding to customer demands in the global market. During the 1970s when Intel focused its corporate strategy on production of memory, it concentrated its R&D efforts almost exclusively on creating new proprietary products using Intel's memory chips. Microprocessors were developed serendipitously. When Busicom, a Japanese calculator company, contacted Intel for the development of a new computer chip set, Intel took the opportunity to move away from proprietary development during a slack period. New projects took a long time to design and Intel took advantage of this slack period to respond to Busicom's request. Ted Hoff, an applications research manager at Intel developed a chip that revolutionized the micro-processing field.

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So in one fell swoop. Hoff revolutionized how electronics products would be built, paved the way to make computers universally affordable, and invented a product from which Intel could get immensely rich. There was one snag. Busicom didn't like it (Electronics Weekly, 1996).


However, with strong support from both senior management and marketing directors Intel convinced Busicom that Intel's design was superior to a competing design initially proposed by Busicom because the Intel design had potential for outside applications. Human capital was also leveraged by forming alliances to tap the best minds in the industry. Intel was a champion in pressing for open standards based on common formats so that electronic data could be exchanged between semiconductor and silicon foundaries. Chartered, Hewlett Packard, and Lucent joined forces to form the eFAB alliance to build a data exchange standard. Industry standards facilitate Intel whose job is to make chips that aid this process. Intel as a business incubator for creating external customers and partners leveraging IC capital requires investment in activities that build future demand for the firm's products and services. Intel investment in Intel Architecture Labs where Steve McGready led the development of technologies that helped audio and video run on computers created strong demand for new chip applications. Another clever way to leverage IC by creating demand for the company's chips has been Intel's strategy of funding new startup developments through its New Business Group. The number of new startups is a useful leading indicator for helping estimate future chip demand. Intel's New Business Group has invested over $4.8 bn in more than 300 startup firms such as SideTalk, a browser company that provides context to Web sites (Goodin, 1999). Technological eclecticism as a corporate strategy to leverage customer software knowledge the development of the Pentium chip is a clear example of how to leverage human and customer capital. Brain storming by engineers working with customer surveys was critical in developing the new Pentium technology. The Pentium chip represented a combination of Intel's old CISC and RISC technologies championed by Intel's rivals, Sun and IBM (Brandt, 1993). Allowing competitors to save face to enhance future leveraging of intellectual capital when Toshiba Corporation invented flash memory chips (chips that retain information even when the power is not turned on) US companies found themselves in a follower rather than the typical leadership role. ``It's a rare case of a US company playing catch-up with the Japanese, then stealing the game'' (Gross, 1993, p. 16). Instead of claiming victory, Andrew Grove praised the competitiveness of the Japanese, ``The ruggedness of the Japanese in industrial society is awesome. The Japanese will be back'' (Brandt, 1993b, p. 50). This allowed the Japanese to save face and opened the door for possible future alliances.

Conclusion Success in the new economy is anchored on a firm's ability to manage intellectual capital. Managing IC successfully relies heavily on top management support and a corporate culture that thrives on learning and relearning. Intel managed its IC by not allowing itself to become overly complacent and by creating a climate of constructive confrontation that allows strategic initiative to emerge throughout the organization. In the case of Intel and others it may be possible to develop metrics that link intellectual capital to firm strategy. Measures of human capital may include: . an inventory of employee competencies; . identifying and listing competencies that must be mustered to implement firm strategy; . developing a system to acquire these competencies; . implementing a performance appraisal and reward system linked to matching of the attainment of IC resources to strategy implementation. Measures of structural capital are those that help identify the elements of organizational processes and activities and link them to the creation of firm value. The value-creating process is how knowledge is created, integrated, converted, and used. Each processing activity should be analyzed to assess the flows of information and the conversion of information into knowledge between functional departments, or divisions. The knowledge management process can then be valued in terms of results such as: . acquiring a patent or trademark; . enhancing organizational efficiency resulting in identifiable cost savings and subsequent higher return of investment, or . improved innovative capacity measured by performance indicators. Firms ought to tread carefully about providing IC measures for external purposes. IC measures involve predictions and predictions are invariably wrong. Firms may be opening the floodgates for a surge of frivolous lawsuits. Lawyers and accountants may benefit at the expense of consumers, employees, and shareholders. There is also the problem of a negative spillover effect. That is, annual report users may become sceptical and begin to distrust even traditional measures. Worse still governments may step in and begin to mandate non-financial measures. This may create an entirely new bureaucracy within the firm whose task is to provide statistics many that may be meaningless to the government. Mandated disclosures should be resisted so that the market can do its proper job. Firms should be allowed to make their own choices about what non-financial measures to disclose. This will send the appropriate signals to the market. Internal reporting is another matter. To effectively do their jobs managers need reasonably accurate statistics about what activities are driving costs and/

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or creating firm value. Firms should choose measures that relate value creation to firm strategy. The benefits of gathering these measures should outweigh the cost of their preparation. Finally, we propose the following criteria for the development of IC measures: . Parsimony information gathering and analysis must be straightforward. The fewer pieces of information the better. Avoid overkill. . Finite horizon it is not practical to forecast over infinite horizons so we need to develop measures that make sense over the near future. In the new economy firms must be flexible and able to shift strategies rapidly to accommodate dynamic changes in the marketplace. . Validation forecasts must be observable ex-post. Since we cannot directly observe knowledge we must find suitable proxies that reflect IC and assist in making tacit knowledge explicit.
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