The Effect of Firm Performance and Corporate Reputation on Intellectual Capital Disclosures. A Content Analysis on UK-listed firms

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The Effect of Firm Performance and Corporate Reputation on Intellectual

Capital Disclosures.

A Content Analysis on UK-listed firms

Master Thesis Accountancy

University of Groningen, Faculty Economics and Business July 15, 2013

Leonard Hendrik Kauffeld 1795589 P.Hans Frankfurthersingel 54 1060 TN Amsterdam tel: 06 46 25 12 26 email: l.h.kauffeld@student.rug.nl Supervisor University Prof. J.T. Degenkamp Second Supervisor University

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The Effect of Firm Performance and Corporate Reputation on Intellectual

Capital Disclosures.

A Content Analysis on UK-listed firms

Abstract

Purpose – The effect of Firm Performance on Intellectual Capital (IC) Disclosure in the UK is

investigated over 5 years during the crisis from 2007.

Design – Content analysis is applied to annual reports of 2008-2012 of 30 UK companies listed

on the FTSE 100 and FTSE 250. Linear regression is performed on financial information extracted from the annual reports located in the sample and corporate reputation scores located on the British Most Admired Companies (BMAC) list by management today.

Findings – The study reveals that firm performance negatively influences IC disclosures.

Corporate Reputation is not related to IC disclosures but positively mediates the relationship between firm performance and IC disclosures.

Originality – This study is the first in the field of IC that conducted a linear regression between

corporate reputation and firm performance. Furthermore, the mediating role of corporate reputation has not been investigated in existing literature and provides several research opportunities in this field of study.

Keywords Intellectual Capital, Disclosure, Corporate Reputation, Firm Performance, Content

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Table of Content

Intellectual Capital disclosures and Firm Performance p.12

European Context p.13 Hypothesis Development p.14 Firm Performance p.15 Corporate Reputation p.15 Mediator Effect p.17 Research Methodology p.18

Intellectual Capital Disclosure p.19

Firm Performance p.21

Corporate Reputation p.21

Control Variables p.22

Analysis and Results p.24

Discussion and Conclusion p.28

References p.31

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Introduction

In today’s world, the economy has given rise to enormous conglomerate companies operating in diverse and specific sectors. Given the complexity of these firms operating at the top of the chain it is no surprise that valuation of these firms is challenging let somewhat arbitrary. Calculating the book value of the firm’s assets is nowadays inadequate to fully comprehend the real value of the firm. Stock markets price several firms far above its actual book value as noted on the

balance sheet e.g. Facebook has a market to book ratio of 527%, Google respectively 1145%, but LinkedIn cuts the cake with a staggering market to book ratio of 2253%. These examples

basically show that there is more to firms then just the book value of its assets. The difference between market and book value, the so called ‘value gap’ is mostly explained by the firms intangible assets (Brennan, 2001) and more specifically, Intellectual Capital.

In this paper I intend to address in that firm performance influences the disclosure of

Intellectual Capital (IC) in the annual reports of firms listed on stock exchanges in the UK. Furthermore considering the interconnectedness of corporate reputation with IC disclosures and the proven relationship between firm performance and corporate reputation this paper will present how corporate reputation on one hand influences IC disclosures and on the other hand how corporate reputation acts as a mediator on the relationship between firm performance and IC disclosures.

Market participants are highly interested in the performance and valuation of firms. The

movement towards the knowledge economy as we recognize today; globalization, market liberalization and intensified competition has driven companies to heavily invest in attributes giving them a competitive edge. These attributes or value creating activities (Huang and Wang, 2008), are necessary in today’s world in order to create a competitive advantage leading to an increase in firm performance (Ittner, 2008; Marr, 2008). During the industrialized era, physical capital such as plant and equipment were profound drivers of performance, since we have moved towards the information age (or knowledge age according to Sveiby (1997) , IC has taken the place of tangible assets in organizational success (Sen & Sharma, 2013). Measurement and reporting of IC have gained importance during the last decade and IC is seen as a source of competitive advantage.

In order for investors to understand how management is creating value for them, it is

important that these topics are properly disclosed in the annual report. By mere addressing the (in)tangibles that the firms have of disposal is simply insufficient for shareholders to have knowledge of the firms strengths and weaknesses. Marr (2008) addresses this issue by stating that IC is vital to the business’ current and future performance. Lacking measurement and reporting of these assets can bring harm to the organizations performance due to the inability to attract capital, paying higher interest etc.

IC has taken a substantial stake in today’s economies and has evolved from being a mere

point of attention in the company’s mission and strategy into being a key performance indicator. Erhardt and Hough (2007) conducted a research which showed that 50-90% of the value created by firms operating in a new economy is due to IC rather than by production and sales (Sen & Sharma, 2013). Intangible assets, such as customer loyalty, distribution channels, financial relationships and work-related knowledge are barely recognized on the balance sheet even

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though companies might have heavily invested in them. With IC presenting such an important proportion of firm value nowadays one would expect financial reporting to increasingly put more value to the disclosure of IC, however this is not the case. Australian firms who recognize IC as one of their key-performance-indicators are declined to report IC items which suggests that reporting IC is more costly then it is value adding (Guthrie et all, 2000). Although Ittner (2008) has proven that disclosing IC leads to higher firm performance, Kehelwalatenna & Premaratne (2013) show that there seems to be a decrease in IC disclosures in the recent years, mostly during times of economic difficulties. Taking a look at studies concerning impression management, it seems that firm performance is positively related to the readability of the annual report (Li, 2008). While management states that IC is a key-performance indicator of the company’s core business, they put low emphasis on the reporting of IC (Marr, 2008; Guthrie and Petty, 2006). This could be explained by the costs associated with the disclosure of IC. Disclosures are costly since it is associated with the proprietary costs and costs of litigation (Darrough and Stoughton, 1990). When the amount and size of competitors increase in the market the firm is operating, managers become more reluctant to disclose information since disclosing certain information might be useful for competitors and damage the competitive advantage the firm has. On the other hand, voluntary disclosure increases the ability to attract capital, has a positive influence on analyst evaluations and decreases cost of capital (Healy & Palepu, 2001; Verrecchia, 2001).

The inability of the annual report disclosing the value of the firm’s IC is the main reason

of the so called value gap ,the difference between market and book value. The value gap is the main reason why the annual report is losing value to shareholders and financial analysts. With the information value and relevance of the annual reporting decreasing, it becomes harder for investors and financial analysts to make decisions based on this information.

While firm performance being closely linked to firm reputation (Flatt & Kowalczyk, 2008; Fombrun and Shanley, 1991), research has also shown there to be a relationship between corporate reputation and the reporting of intangible assets, in particular intellectual capital (Deloitte, 2005; Gamerschlag & Moeller, 2011).

I make a contribution to existing literature by exploring the relationship between firm

performance and IC in the annual report, and how corporate reputation acts as a mediator on this relationship. Furthermore this research will be the first to empirically test the relationship

between corporate reputation and IC disclosures. To the best of my knowledge there has not been a study which addresses the influence that corporate reputation has on IC disclosures, and the possible mediator effect that I believe corporate reputation has. The scope of my research will be on UK-listed firms on the FTSE100 and the FTSE250 in the period 2008-2012, whereas there has been extensive research concerning IC disclosures, most are confined to a firms operating in Asia and emerging economies in the period prior to 2008. The sample will only include firms reporting under IFRS. Since 2005 EU-listed firms are required to report under the rules of IFRS, therefore my paper may have several implications that account for EU-listed firms and other firms who report under IFRS and thus can provide evidence and guidance in future research.

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Definition

Most firms are unaware of this rather new concept of intangibles, however what firms do not realize is that IC is not a new understanding. It has been around all along, going back to the days when the profession of merchants began to develop, but it merely has not been specified until the information age. In fact, the concept of IC is an evolved type of assets coming out of the broad spectrum of goodwill. While in the earlier days this was just an aspect of a company considered in valuation, nowadays firms are becoming active in the measurement and reporting of their invisible assets (Marr, 2008). With this in mind it is important to explain the concept of IC. This section will first provide the definition of IC. Second, give an overview of its characteristics discuss proprietary rights and this section will be end with the reporting standards concerning IC.

Intellectual Capital

In today’s world where stock prices greatly fluctuate by the disclosure of all sorts of financial and non-financial information and the value of companies multiple times surpasses the book value of the firms, it is no surprise that the firms intangible (and invisible) assets are of great importance. One could even say the balance sheet is losing its information value to investors trying to assess true firm value. According to Erhardt & Hough (2007) 50 till 90 percent of the today’s firm value is accounted for by intangible assets. Using the classification of Brennan (2001) a firm’s capital is divided into physical, financial and intellectual capital. While physical and financial capital are accounted for on the balance sheet, intellectual capital is not. Thus one could conclude that IC is the difference between market and book value, a definition which is quite often being used in existing literature (Seetharaman, Sooria, & Saravanan, 2002). In my opinion this definition is too narrow since it leaves out the effects of several segments that influence the market. The stock market prices firms and stocks by processing all available information including annual reports. Using the difference between market and book value as a definition of intellectual capital proposes the other way around, which is contradictory to economic theories addressing the matter of efficient markets. IC is not the explanation for the value gap, however it seems evident that IC is an important factor in the difference between market and book value.

IC is a very broad concept since there is a wide array of subjects which altogether define

the value of knowledge. In the scientific domain of IC there has not been a universal method of measuring and reporting IC, even though in recent years there has been an increased amount of attention on this subject (Marr, 2008; Borneman and Leitner, 2005). This is also one of the reasons while there has not been a universal definition of IC formulated (Leon, 2002). A key issue concerning intellectual capital is that it is often being confused with knowledge. Whereas knowledge is important, it is merely input for creating IC (Lynn, 2000). Therefore it is of great importance to correctly addressing this matter to eliminate the risk of misunderstanding this concept. Since IC is a relatively new subject which in today’s world is quickly evolving it is difficult presenting a definition that suits the complexity of IC.

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Existing literature on IC has divergent takes on definitions starting very broad such as

being ‘the difference between market and book value’ (Seetharaman, Sooria, & Saravanan, 2002) to very specific ‘Intellectual capital is intellectual material – knowledge, information, intellectual property, experience that can be put to create wealth’ (Stewart, 1997). With definitions in the literature divided among this scope it is of greater importance to actually understand the factors that are included in IC then debating an arbitrary definition. In the remainder of this section I will discuss the framework constructed by Karl Erik Sveiby (1997). This is one of the most used frameworks in existing literature used for the understanding intellectual capital (Guthrie and Pettie, 2000b; Lynn, 2000; Bornemann et al., 1999; Mavridis and Kurmizoglou, 2005; Yang & Lin, 2009). Sveiby classifies IC into three categories; internal structure, external structure and employee competence. Each category will be thoroughly explained in the next section to eliminate any existing ambiguities.

Internal structures

Lynn (2000) sees the internal structure as the backbone of the company. This is the foundation on what the firm is operating on. The internal structure of the firm consists of intangibles such as patents, concepts, models and computer and administrative systems. These are assets which are created by the employees of the firm and in general are being owned by the organization.

However sometimes they can be acquired elsewhere or can be outsorced if the costs of acquiring or maintaining these assets are too high. Decisions concerning investing or replacing these assets can be made with a reasonable amount of certainty since the work is done in-house or brought in from the outside (Sveiby, 1997). Organisational culture is also classified under internal structure since this defines the ways the firm acts and behaves in the environment in which it operates.

Susskind (2000) points out that these internal systems increasingly earn more and more importance in business nowadays. The internet and other information technologies changes legal practices rapidly, and the same goes for other professional services firms. People working in legal practices, administration, accounting and suchlike are depending more and more on information technology which increases efficiency and reduces costs. However, while technology is of increasing value it is not a replacement for human proceedings but is merely used as a tool. In fact information technology can and will be used to improve the capture, preserve and disemminate the knowledge and expertise thereby improving employee competence.

External structure

The external structure includes relationships with customers and suppliers. It encompasses assets such as brand names, trademarks, and a firm’s reputation or image. Some of these can be

considered as legal property but only on a temporary basis.Unlike internal structures, external structures are more difficult to manage since there is a higher element of uncertainty involved. The value of these assets is primarely determined by how well the firm solves issues with it’s customers and suppliers. With reputations and relationships changing over time there is an amount of uncertainty associated with these indicators. Firms can make decisions trying to control customers and suppliers but these decisions are futile when the external parties are not cooperative. Hence, the blurred three step relationship between supplier, firm and customer complicates the measurement proces making valuation of this nexus a complex matter (Guthrie

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& Pettie, 2000b).

Employee competence

Employee competence involves the capacity of employees to act accordingly to the situation presented at hand in order to create tangible and intangible assets. Elements of employee competence are the individuals education, skills, values, experiences, social network, and so forth (Guthrie & Pettie, 2000b; Sveiby, 1997). Existing literature concerning employee

competence have different perspectives on whether employee competence is an intangible asset owned by the firm. While individual compentence cannot be owned by anyone exept for the person who possesses it, an organization’s competitive liability, and hence its survival depends on the competence of its employees. Moreover, according to Pfeffer (1994) the individuals operating in a firm is what creates the firm’s characteristics (Bjurklo, 2008). In professional services firms knowledge is the only driving force behind the operating activities. The services that these firms provide are based on the talent of their people and on the experience and knowledge that they have acquired over time (Deloitte, 2005). According to Sveiby (1997) in knowledge organizations where there is practically no machinery, the employees have replaced the machines and therefore should be recognized as the firm’s assets. Therefore employee competence should be measured and placed on the balance sheet since an organisation cannot exist without employees, in accordance to the value based perspective (Guthrie & Pettie, 2000b).

Proprietary Rights

As I have briefly mentioned above, a recurrent issue concerning intangible assets and specifically IC is the question of ownership. While it might be evident that IC is being used and executed by the firm by conducting their business one would assume that the firm is the owner. However, the employees and staff of the firm generated these ideas and shape them into the products and services put out in the market, therefore one could argue that the employees are the legal owner of these assets. When considering the employees as owners of IC, a firm would therefore not be allowed to disclose this in the annual report since they would infringe the civil law and common law who deals with copyrights, however this is not the case. The European Court of Justice decided in one of its verdicts (art. 36 VwEU) that the existence and execution of Intellectual Property are not the same. The Court states that execution of Intellectual Property can be illicit when it is not justified by the ‘specific object’ criteria. This states that there has to be a certain intrinsic aspect which cannot be affected by its transferability and may never be executed contrary to its core objective. How this ‘specific object’ should be handled is treated with

controversy in existing literature and is being constantly adjusted by jurisprudence. In order to be able to speak of Intellectual Property it is inevitable that there is a ‘specific object’ however this still does not resolve the question of ownership.

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performance manifested in a concrete object leads to legal proprietary rights. The common ground to all intellectual proprietary rights is that it refers to absolute exclusive subjective properties. The existence of these objects is independent of the intangible asset in to which these objects are recorded on or which they are made visible (HvJ EG 31 october 1974). An idea for instance is made tangible when it is expressed and therefore automatically ownership is given to the asset or person which expressed it (Van Engelen, 1994; Grossheide, 2011). However when we take a look at Intellectual Property executed and distributed by a corporation, different standards and legislation apply. In copyright the owner is seen as the weaker party in relation to the potential parties that exploit the owners work. It is in this instance we see the distinction between copyright and industrial property. Whereas IC is being used to differentiate a

corporation from its competitors the copyright of IC accounts for corporation. In this corporate view the intellectual property can be compared to the intellectual property of its competitors. With corporations using idea’s and proceeds from its employees the right of patents comes to play. The right of patents includes many actions which can be performed such as: manufacture, use, resell, rent, deliver, trade and offer. Whereas the original creator of the idea remains the owner, legislation entitled corporations to the exploitation of these ideas. Therefore the firm is entitled to the exploitation of these assets and is legally seen as the owner. In conclusion, while the firm itself may have not created IC, due to the right of exploitation in the corporate view, the firm is legally seen as the owner.

It goes beyond the objective of this paper to fully extend the legal nature of IC however it is a key issue which has to be briefly explained. Shortcomings in the law concerning the

exploitations and protections of patents, copyrights and know-how will lead to free usage of these intangibles. In effect this would lead to firms being unable to protect their IC and not being able to use its full potential. While other existing literature does not assess the law in any way, in

my opinion this is a subject indispensable in the understanding of IC.

Reporting standards

After defining Intellectual Capital, and assessing the properietary rights it is for the relevance of this research essential that the reporting standards are adequately adressed concerning the

disclosure of IC. In my research I will focus on the reportingstandards of International Financial Accounting Standards (IFRS) since the firms included in the research mainly used IFRS in the annual report. Another incidental advantage of IFRS is that from the first of January 2005, it is mandatory for all publicly traded EU companies to prepare their annual reports and financial statements according to IFRS. Non publicly traded EU companies have been given the opportunity to voluntarily adopt the IFRS in preparing in their annual reports and financial statements. Reporting under IFRS includes the usage of the International Accounting Standards (IAS). Until now there has not been a standard concerning the rapporting of IC, however looking at the composition and nature we can conclude that IC is highly comparable to intangible assets.

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The reporting standard concerning the reporting of Intangible Assets is IAS 39 – Intangible Assets. IAS 38 embraces the treatment of intangible assets whoem are not specifically dealt within another IFRS. The Standard requires an entity to recognize an intangible asset on the balance sheet when certain criteria are met and specifies how the carrying amount of intangible assets should be measured. The scope of the standard is that IAS 38 applies to all intangibles other than: financial assets, the recognition and measurement of exploration and evaluation assets, expenditure on the development and extraction of minerals, oil, natural gas and non-regenerative resources, intangible assets arising from an insurer’s contractual rights under insurance contracts, intangible assets covered by another IFRS such as intangibles held for sale, deferred tax assets, lease assets, assets arising from employee benefits and goodwill (IAS 38.1).

This standard contains several criteria concerning the classifaction of intangible assets

aside the requirements of the amortization and valuation of these assets. One of the key

conditions concerning the classification of IC are the conditions that apply to intangible assets, meaning that the asset should be identifiable and controlable for the firm and it should be highly probable that the future cashflows generated by this assets are accountable for the presenting firm. This is a key requirement into determinening whether a firm is allowed to recognise the intangible asset on the balance sheet. Under IAS 38 a firm is allowed to recognise an intangible asset when it is ‘probable’ that the future economic benefits that are attributable to the asset will flow to the firm and the cost of the asset can be measured reliably. These two criteria apply to wheter the intangible asset is acquired externally or are internally generated by the concerning firm. Internally generated assets have additional requirements which must be met in order to be presented on the balance sheet. The probablity of future economic benefits must be based on reasonable and tolerable assumptions on the conditions concerning the life of the asset (IAS 38.22). If an intangible is unable to meet the definition and or the criteria concerning the recognition, the expenditures of this asset should be recognised when they are incurred (IAS 38.68).

Basu and Waymire (2008) discuss the presentation of intangibles on the balance sheet.

Valuation of intangibles is most accurate by correctly assessing the future cash flows generated by these assets, they state that “valuing accounting intangibles on a stand-alone basis requires heroic assumptions about seperability, highly uncertain estimates of ambiguous future benefits, and arbitrary allocations of jointly produced income.” (Stark, 2008 p. 275). Because of its high uncertainty, low seperabilty and hard identifiablity IC is mostly unable to meet the requirements of IAS 38, and therefore is barely reported on the balance sheet (Mouritsen, Bukh, & Marr, 2004). However this standard does lead to the reporting of costs associated with IC on the profit and loss account while future cashflows generated by these investments cannot be accounted for. Under certain circumstances intangibles such as IC which do not meet IAS 38 requirements are allowed to be presented on the balance sheet. This particulair circumstance is the acquisition of these assets. While companies generally do not trade their intangible assets, the value of IC only emerges in an indirect way on the stock market when a company is participating in a merger and acquisition project. When acquiring a target firm it is quite common that the acquiring firm pays a premium upon the value of the firms assets. This premium under accounting theory is placed under the term goodwill (Sveiby, 1997). Under IFRS 3 goodwill is presented on the balance sheet as a lump sum in the books and depreciated over time. While IC is included in the sum of goodwill, it is not allowed to be specified as such.

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certain discrepantion in the treatment of IC which is being developed by the firm and IC which is brought in. Under the current legislation, in house developed IC cannot be presented on the balance sheet while the costs made in order to create, maintain and improve IC are recognized as such and reported on the income statement. Certain intangible assets are unable to meet the criteria to be reported on the balance sheet such as corporate culture. Corporate culture can not meet the identifiability criteria described above since it is impossible to be seperated from the firm and cannot be sold, licensed, rented, or exchanged. Either individually or together with a related contract and does not arise from contractual or other legal rights. We face the same problems with the reporting of ‘Human Capital’. Since it is impossible to identiy, control and asses the probablity of future economic benefits with a reasonable amount of insurrance, human capital is therefore not disclosed on the balance sheet. While training and recruitment costs related to human capital are accounted for in the income statement (IAS 38.66). Recognition of brands, customer lists, and comparable assets are prohibited under IAS 38, since these items are indistinguishable from the costs incurred when operating a firm (IAS 38.63).

Theoretical Framework

Prior Literature on Intellectual Capital

Even though extensive research has been done in this field of study, the concept of intellectual capital remains an interesting subject. The IC and additional knowledge management have been around for over a decade now and as I have mentioned before a uniform definition or method of measurement are yet to be considered. Still in its embryonic stage, the academic research in this domain is trying to gain recognition among academics and industry professionals (Serenko et al., 2010). Numerous papers have appeared over the past 15 years studying the concepts,

components and elements, management, measurement and reporting of IC. This section provides an overview of existing literature concerning IC disclosures.

In 1994 Skandia, a Swedish insurance company, was the first company to publish a report

concerning IC. This is being considered as the emerging of IC, from this point it became interesting for academics to study the disclosure of IC by firms. Bontis (2003) was the first to examine IC disclosures, he carried out a study on 10.000 Canadian companies and found that only 68 companies used the term intellectual capital in their reports. That IC is a concept being taken seriously has been made clear since in 2000, the Danish government published a guideline in which IC has to be reported in a separate statement with the annual report. In ‘A Guideline for Intellectual Capital Statements’ the IC statement should reflect the effort the firm puts in the development and streamlining of its resources and competencies concerning its employees, customers, technology and processes (Danish Agency for Development of Trade and Industry, 2000).

Academic research in this field experienced exponential growth when Karl Erik Sveiby

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be measured. The classifications made by Sveiby of External Capital, Internal Capital and Employee Competence have been further developed by Guthrie & Petty (2000b). They prepared a shortlist of IC indicators within these three classifications which made it possible to measure the extent and quality of IC disclosure in a firm’s annual report. Using this framework they were the first to perform a content analysis on IC disclosure. This framework is currently highly accepted and commonly used in content analysis to measure IC disclosures (Bontis, 2003; Brüggen et al., 2009; Cerbioni and Parbonetti, 2007; Vafaei et al., 2011; Vandemaele et al., 2005; Sen and Sharma, 2013). In their research, conducted in an Australian setting, Guthrie & Petty (2000b) found that key components of IC are poorly understood, inadequately identified, managed inefficiently and not consistently reported, when reported at all. The main area’s on reporting focus on human resources, intellectual property rights and organizational and workplace structure. Despite the Australian context being thought of as ‘best practice’ on the development, reporting and measurement of IC, the disclosure levels were low.

Ismail (2008) performed research on Egyptian companies’ annual reports examining

voluntary IC reporting. The goal of this research was in understanding IC reporting and evoking the barriers around the development and implementation of IC indicators. Goh and Lim (2004) showed evidence of disclosure of IC in annual reports of 20 Malaysian companies resulting in low disclosures. Singh and Kansal (2011) measured IC in Indian pharmaceutical companies resulting in low disclosures of trademarks and copyrights leasing to undervaluation of these firms. Bhanawat (2008) conducted similar research resulting in the inability of Indian

pharmaceutical firms to adequately report intellectual property and failing to disclose whether intellectual property is self-developed or acquired. That the emerging market of India is a popular setting for IC disclosures is made apparent since Joshi and Ubha (2009) looked at the disclosure of IC in the Indian software industry using content analysis. Sen and Sharma (2013) combined research conducting in India looking at both the pharmaceutical industry and software industry in India. They found that the IC disclosures made in the annual report by the selected firms does not adequately fulfill the demand of stakeholders, and firms should disclose more meaningful information in their annual reports or should even produce a separate IC report. IC disclosures are low in qualitative form rather than quantitative form in Hong Kong and Australia, where the disclosure level is positively related to the company’s size (Guthrie et al., 2006). Whereas Whiting and Miller (2008) examined IC disclosure in New Zealand testing the difference between market and book value.

Intellectual Capital Disclosures and Firm Performance

In US-based multinational firms IC has a positive influence on firm performance, which was measured by Riahi-Belkaoui (2003) using the net value added over total assets approach. This finding is similar to research by Tan et al. (2007) who have found that on the Singapore stock exchange IC and firm performance are positively related by the firms operating in that context. . The profitability of quoted banks on the Istanbul Stock Exchange seems to be positively

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influenced by IC (Yalama and Coskun, 2007). The same goes for Australian-listed companies whereas the disclosure of IC variables in publicly available statements plays a part in price-sensitive company announcements. The market is very price-sensitive on disclosures of IC elements which is detected by measuring the abnormal returns generated by company announcements caused by IC disclosures (Dumay and Tull, 2007).

However not all studies show a positive relation between IC and firm performance. There

has not been found a strong relationship between IC and profitability of South African publicly traded companies by Firer and Williams (2003). Whereas Chen et al. (2005) found that IC has a positive impact on market value and financial performance of Taiwanese listed companies. Shiu (2006) has some mixed results whereas profitability, measured by ROA, and market valuation have a positive correlation with IC while productivity as an indicator of firm performance correlated negatively. Meaning IC has mixed correlations with firm performance. Maditintos et al. (2011) failed to find any strong relationship between IC and financial performance on selected firms on the Athens Stock Exchange.

European context

Several studies have been undertaken looking at IC disclosures in Australia, India and other parts of the world. There has also been extensive research looking at European countries. Brennan (2001) looked at 11 Irish knowledge-based listed companies on which methods of reporting IC they use in their annual reports. Brennan compared market and book values of selected firms and a content analysis was executed. Significant differences between market and book value were found suggesting that knowledge-based Irish listed firms have a substantial level of intangible IC assets. However, the level of disclosure of information concerning IC was poor and inadequate. Olsson (2001) looked at the annual reports of the 18 largest Swedish companies, focusing on the disclosure of human resource information. He concluded the annual reports being deficient in the quality and dept of the information disclosed. Bozzolan et al. (2003) provided a content analysis of the annual reports of 30 listed Italian companies, looking at the amount and content of IC disclosures as well as the factors that influence voluntary disclosure. The main result begin mostly interesting is that industry and size are not important in the content of the information being disclosed, however these variables do explain the differences in the amount of information being disclosed.

Another variable which might be of an influence is culture. Chaminade and Roberts

(2003) found in their research of implementation of IC disclosure systems in Norway and Spain, that culture may determine the emergence of IC management and reporting. This is in line with Abeysekara (2007), who supports this argument by findings that show that IC disclosures differ from one context to another because of influences of social, political and economic factors.

One of the few studies in an European setting conducting research in cross sectional

industries the paper written by Striukova et al. (2008). This research looked at the reporting of IC concerning UK firms in the sectors: retail, pharmaceuticals/biotechnology, ICT/software and real estate/utilities. They found that the reported elements of IC in each sector are likely to provide

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these firms with a competitive advantage. Therefore elements of IC which deliver firms a competitive advantage in that sector are most likely to be disclosed. There is also evidence that corporate reports are used aside annual reports to communicate information about IC. Similarly Zégal and Maaloul (2010) looked at 300 high tech, traditional and service firms in the UK. They reported that IC has a positive impact on economic and financial performance, furthermore they found IC seems to have a positive influence on stock market reactions of high-tech industries, where in Australia the same reaction is detected by Dumay & Tull (2007). Cerbioni and Parbonetti (2007) examined how voluntary intellectual capital disclosures are influence by corporate governance variables in European Biotechnology firms. They found a positive

relationship between good corporate governance, measured by amount of independent directors, CEO duality and board structure, and the quality of IC disclosures.

The tremendous diversity of conducted research in an array of different settings, variables and periods creates inconsistent findings which makes it impossible to generalize conclusions in regard to the reporting of IC. As existing literature makes it apparent, social, political, cultural and technological factors create differences in the reporting, measurement and impact of IC (Kehelwalatenna and Premaratne, 2013).

Hypotheses development

The firm’s annual report is the foremost used way of communication by the firm towards its shareholders. It contains historical quantitative information, narratives, graphs, qualitative information and information concerning possible future outcomes. The annual report informs shareholders, creditors, investors and other stakeholders about historic performance, its current financial status, core values and direction it is undertaking (Courtis, 1995). Annual reports are a very important source of data for shareholders, because management uses the annual report to signal what is important (Gibson and Guthrie, 1997). With the annual report being the most read corporate document and its high information value it has proven to be highly susceptible to impression management (Aerts, 2005; Merkl-Davies and Brennan, 2007). Where impression management is an interesting subject of research in sociology additionally it has an impact on the field of accounting. Impression management is ‘how individuals present themselves to be perceived favorably by others’ (Hooghiemstra, 2000). Translated into an accounting context impression management is seen as a method to control and manipulate the perceptions of the users of accounting information, specifically the annual report. Bloomfield (2002) states that management carefully take decisions and consider ways of disclosing information in the annual report in order to create difficulties for investors to properly assess the annual report. The objectives of these considerations are often to obfuscate information which could negatively influence the annual report. Since the annual report has a direct influence on the firm’s share price on the stock market, management creates barriers making the processing and reporting of

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negative information difficult and costly thereby trying to prevent publication of unfavorable information.

Firm Performance

Adjusting the textual parts of the annual report especially takes place when firms are having financial difficulties (Lehavy, Li & Merkley, 2010; Li, 2008; Schleicher & Walker, 2010). Looking at the disclosure of IC elements, research have shown that firm performance and IC disclosures are closely related (Chen et al., 2005; Dumay and Tull, 2007; Shiu, 2006; Yalama and Coskun, 2007; Riahi-Belkaoui, 2003). Taken these findings together with the results of Kehelwalatenna and Premaratne (2013) that IC disclosures have decreased especially in times of economic difficulties one could conclude that firm performance influences IC disclosures. Readability of annual reports of well performing firms are more readable than annual reports of poorly performing firms (Li, 2008). Therefore quality of overall disclosure in the annual report increases with the performance of the firm, although this relation is not examined with respect to disclosures concerning IC, I expect the same relationship. Hence I hypothesize that firm performance, measured by return on equity, is positively associated with the level and quality of voluntary disclosure on IC.

H1: Ceteris paribus, Firm Performance is positively related to IC disclosures.

Corporate Reputation

As I have pointed out in the development of the first hypothesis, academic research has examined the relationship between IC disclosures and firm performance, with some mixed results. One of the factors often influencing, and being a key factor of firm performance is corporate reputation (Sabate and Puente, 2003). In their literary review they found empirical support for the relationship between corporate reputation and financial performance. Not only did they found that corporate reputation influences financial performance, these two variables seem to behave in both ways where financial performance also influences corporate reputation. Research has proven that reputation and firm performance are connected (Brown and Perry, 1994; Deephouse, 2000). Corporate reputation is increasingly being seen as a driver for a sustainable competitive edge. It acts as a necessity for corporations trying to outperform their opponents, increase financial performance, increase market share and none the least guarantee corporation of a sustainable existence (Iwu-Egwuonwe, 2011). A firm’s reputation has a great influence in determining the behavior of certain firm’s stakeholders towards the firm. Firms who have a favorable reputation are able into charging higher prices (Benjamin and Podolny, 1999), are more competent into hiring high class employees (Fombrun and Shanley, 1990), creating entry barriers for possible competitors (Caves and Porter, 1977; Milgrom and Roberts, 1982) and

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are more capable into stabilizing their share price (Vergin and Qoronfleh, 1998), therefore firms with a good reputation outperform on financial area’s (Flatt & kowalczyk, 2008).

Likewise corporate reputation has a positive impact on capital gains (Vergin and Qoronfleh, 1998) and market value (Black et al., 2000). A positive reputation severely increases the possibility that stakeholders will do business with the firm (Deephouse, 2000; Rhee and

Haunschild, 2006). In fact corporate reputation provides the opportunity to create economic rents which provides incentives for firms to invest into creating a sustainably positive reputation (Fang, 2005). Stakeholders are more willingly to invest into a firm with a good reputation since the reputation acts as a warrant. It guarantees that the firm fulfills the expectations that

stakeholders have. Therefore a good reputation puts firm in a good market position that will provide better resources, investment opportunities and more favorable contracts which generate value (Sabate and Puente, 2003). Whereas most studies have undertaken into investigating if there is a possible relationship between firm performance and corporate reputation, the results shown are mixed however it is evident that both variables are interconnected. Taking a look at the contractual perspective, there has also been support on the reverse relationship between corporate reputation and firm performance. The greater investor value the firm creates, the more friendly and relaxed the atmosphere related to diverse stakeholders will be. This is simply do to the fact that the stakeholders have an increased probability into receiving their legitimate claim resulting from investments they have made into the firm (Deloitte, 2005).

Fombrun and Shanley (1990) investigated several parameters influencing corporate reputation in the US, whereas corporate reputation is seen as the overall perception of a firm’s performance by various stakeholders. They used the eight items of used of the Fortune survey to investigate which variables play a major part in the reputational scores. The most significant results were found in accounting variables such as profitability and risk. Results show that current market performance and previous accounting profit play a significant role in a firm’s corporate

reputation. Also important drivers, but less significant are: firm size, reflected media visibility, their dividend yield and social concern. Other variables such as intensive media scrutiny seem to have a negative influence on corporate reputation. Moreover Riahi-Belkaoui and Pavlik (1991), who conducted their research in a US-based setting, stated that corporate audiences construct rankings on reputation based on their asset performance. More specific they found that asset size, with asset sized being measured by total assets, is positively related to corporate reputation. Asset turnover and market assessment of the firm’s assets are also positively correlated with corporate reputation with a few exceptions. Whereas profit margin showed significantly to be positively related to corporate reputation perceived by the firm’s stakeholders. Therefore asset performance leads to an improvement of corporate reputation.

Hammond and Slocum (1996) collected seven measures of financial risk and financial

return which they linked to four attributes of the Fortune Most Admired Companies list through a regression analysis. They found that the standard deviation of the market return of the firm and the firm’s return on sales accounted between 12 and 14% of subsequent perceived corporate reputation. This implies not only that firm performance is related to corporate reputation but managements ability to influence corporate reputation by managing firm performance. As a result I conclude that firm performance is positively related to corporate reputation.

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H3: Ceteris Paribus, Corporate Reputation is positively related to IC disclosures.

Mediator Effect

In the current economy that firm operate, corporate reputation is very closely linked to

knowledge management (Deloitte, 2005), whereas knowledge management is the management of the firms intangible assets and more specifically, Intellectual Capital (Bontis & Wei, 2002). Linking existing literature concerning IC and firm reputation, one could conclude that in these times there are only two major keys to success, the firm’s knowledge and their reputation. The main conclusion of the research performed by Deloitte (2005) is that the establishment of a good corporate reputation is closely linked to the management of the firm’s intangible assets, more specific the IC that drives the firm. Courtis (2004) investigated, in the field of impression management, how and to what extend the intention of the annual report can be influenced. He looked in which manner by usage and choice of vocabulary the message in annual reports, interim reports and profit forecasts can be influenced. He found that there are three recurrent causes who influence the original intention of these reports. First, annual reports are made less transparent with the objective to relieve the pressure shareholders might be experiencing because the firm’s environment is subjective to change or there are occurring firm specific events. By choice of vocabulary or method of disclosure management is able to put less emphasis on these events and therefore preventing or mitigate unfavorable shareholder responses. Second,

unfavorable events are dismissed out of the annual report of in a way so briefly mentioned that the objectivity of the annual report is being compromised. Disregarding unfavorable events thereby places more emphasis on positive side of the report, which in turn leads readers to interpret the report more positively than is actually the case. Third, the content of the report can be randomly influenced since there are several people writing different sections of the report who have different beliefs of the content and have a different vocabulary of disposal, thereby

unwillingly modifying its content. Using outcomes of this research and linking this to Lehavy, Li and Merkley (2010) who determined that readability and level of disclosure is influenced by the variation of earnings and corporate reputation also being influenced by the variation of earnings (Hammond and Soculum, 1996; Fombrum and Shanley, 1990). To conclude I assume that corporate reputation influences IC disclosures and that corporate reputation behaves as a moderator on the relationship between firm performance and IC disclosure.

H4: Ceteris Paribus, corporate reputation mediates the relationship between firm performance and IC disclosure.

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Figure 1: Conceptual Framework

Research Methodology

This study adopts a content analysis in the collection of data. It concerns the same methodology created and used by Guthrie and Petty (2000a; 2000b) and is in the field of IC disclosures by far the most commonly used method for gathering IC disclosure data. The content analysis is performed on the annual reports of 30 UK firms listed who were listed on the British Most Admired Firms shortlist computed by Management Today for the period 2008-2012. The firms were randomly chosen until the firms in the dataset were listed on the BMAC for every year during the period. I have consulted the database of compustat global for financial information of the firms included in the sample. Data which was not available in the database of compustat was manually withdrawn from the annual reports.

The preference for a content analysis of this study lies in its exploratory nature. It is possible to compare qualitative and quantitative data and categorize the data to discover certain patterns in the presentation and disclosure of information in the annual report. This methodology is a way to objectively study the content of written or other published communications in a uniform matter (Holsti, 1969; Krippendorf, 1980). The documents on which the content analysis is performed are annual reports because as I have mentioned before, the annual report is by far the most important corporate document on which management communicates information to its

stakeholders. It contains the interests and concerns that management has which are presented in a understandable format in order that the stakeholders can properly interpret management’s message. Furthermore the annual report is a document which are is not only annually produced but also audited therefore meaning that it is a reoccurring document which is objective and reliable, while management has complete control (apart from reporting standards) to choose

Intellectual Capital Disclosure Firm Performance Corporate Reputation

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which information, to what extent and in which format it discloses.

Instead of using a content analysis to collect data concerning IC disclosures it is possible to conduct interviews with management. However formulating questions to examine the extent to which firms disclose IC which generate objective answers is very complex and time consuming. Above that, interviews with management remain biased to some extend since. With response rates on interviews mostly being relatively low and the processing of the accumulated data being very time consuming it is much simpler and more efficient to extract data from the annual report. Above that using a content analysis on the annual report is the foremost used method in the field of IC disclosures (Abeysekera and Guthrie, 2003; Bozzolan et al., 2003; Brennan, 2001;

Brüggen et al., 2009; Guthrie and Petty, 2000b; Guthrie and Petty, 2006; Olsson, 2001; Petty, 2003;).

Intellectual Capital Disclosure

With the purpose of measuring IC disclosures this paper adopts the IC classification of Sveiby (1997) as I have mentioned in the theoretical framework section, Sveiby created an Intellectual Capital framework which categorizes IC into three distinct categories: Internal capital, External capital and Employee competence. Using this framework Guthrie and Petty (2000) developed a classification scheme for intangibles, consisting of 24 IC indicators as shown in table 1 . The first column of the framework presents internal capital, which are the indicators created by the

employees of the organization which the organization has of disposal. The second column external capital contains indicators which a company uses externally with diverse stakeholders. Although these indicators are usually appurtenant with the firm as a whole, these can still be affected by the employees who created these assets. Although not directly, these attributes can directly be affected when the composition of the firms employees changes. The third column employee competence contains indicators which are temporarily owned by the firm. When employees vacate the firm, the knowledge which is carried by these employees and used in the firm as a whole is in fact being lost (at least partially). Even though knowledge can be transferred within a firm and from one person to another, knowledge is still being lost.

The method employed in this paper was analyzing the 2008-2012 annual reports of the selected companies and record the information related to each variable of table 1 onto a coding sheet. A numerical coding sheet is constructed for each variable and each annual report. Whereas I assigned a value of zero to indicate that the variable did not appear in the annual report. A value of one is assigned to each variable that appeared in a qualitative form. A value of two is assigned if the variable is denoted and clarified to some extent, whereas a value of three is assigned to variables denoted in quantitative form. I have not taken the quantity a term appeared in the annual report into account since this creates outliers and does correctly not represent disclosure

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quality, which I will further discuss in the result section.

This framework, made by Sveiby and further developed by Guthrie and Petty, is by far the most commonly used framework in content analysis indentifying IC disclosures. (Cerbioni and Parbonetti, 2007, Guthrie et al., 2006; Sen and Sharma, 2013; Shaik, 2004; Vandemaele et al., 2005) In fact over a third of all papers published concerning IC disclosures have used a

comparable framework in the identification and measurement of IC disclosures (Serenko et al., 2010).

Table 1: Intellectual Capital Framework

1. Internal Capital: Organisational (Structural) 1.1. Intellectual Property  Patents  Copyrights  Trademarks 1.2. Infrastructure Assets  Management philosophy  Corporate culture  Management processes  Information systems  Networking systems  Financial relations

2. External Capital: Customer (Relational)

 Brands  Customers  Customer loyalty  Company names  Distribution channels  Business collaborations  Licensing agreements  Favourable contracts  Franchising agreements

Page | 21 3. Human Capital Employee competence:

 Know-how  Education

 Vocational qualification  Work-related knowledge  Work-related competencies

 Entrepreneurial spirit, innovativeness, proactive and reactive abilities, changeability

Firm Performance

There are several dimensions of firm performance, namely the realization of returns to the firm’s shareholders, the firm’s utilization of its assets creating profits (Pal and Soriya, 2012), return on Investment, earnings per share, net income per employee (Davis and Daley, 2008). For the purpose of this research the profitability of the firm which is accountable to its shareholders seems the most suitable method of measuring firm performance. Since I have mainly taken a shareholder perspective in the method of analyzing corporate reputation, likewise it is

appropriate to use the shareholder perspective for the independent variable firm performance. Therefore it seems logical to use return on equity (ROE) as a proxy for firm performance rather than other performance measures. Accounting measures such as ROE Return on equity indicates the return the shareholders receive on their investment in the firm, in other words it tells us how the firm created value for it’s shareholders. For the measurement of return on equity, EBIT is divided by the firms total equity.

Corporate Reputation

One of the limitations of the sample lies with the variable of Corporate Reputation. There are certain measurements to give corporations a reputational score most of these remain biased to a certain extend. Corporate reputation can be measured by calculation the asset quality ratio, by a third-party rating agency, using a content analysis on media data (Deephouse and Carter, 2005), market share (Fang, 2005) and rankings by recruiters (Rindova et al., 2005). However the most commonly used method into measuring corporate reputation is Fortune’s Most Admired Companies (FMAC), the FMAC is used over 39% of studies in measuring corporate reputation Walker, 2010). However since the FMAC does not contain all data for UK-listed firms, therefore this study uses a comparable method to the FMAC namely Britain’s Most Admired Companies

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(BMAC) by management today. In existing literature this is widely considered as a very similar measure to the FMAC with limited to British firms.

Firms who were not presented on the BMAC shortlists from 2008-2012, or firms who have data missing for one of these years, were removed from the sample. Also banks were excluded from the sample since the reporting of these financial corporations is incomparable with other

organizations. This is in accordance with most research in the fields of accounting, economics and finance.

Control Variables

Industry

Industry type is an important factor for IC disclosures as IC is more important in some industries that others (Brüggen, Vergauwen and Dao, 2009) The value relevance of IC for investors in industries having high levels of IC might pressure firms to disclose more information concerning IC. Which is in accordance to research conducted by Brennan (2001), Williams (2001), Bozzolan et al. (2003) who all found that industry is related to the disclosure of IC. Since industry is

categorization which can be quite arbitrary I have chosen to use the Standard Industrial

Classification (SIC) codes. After collecting the SIC codes for the firms among my sample I have used the FamaFrench industry classification in order to make a distinction between the firms into 5 different sectors. The 5 sectors being: sector 1 consumer, sector 2 manufacturing, sector 3 Hi-Tech, sector 4 health and sector 5 is other.

Leverage

Williams (2001) examined annual reports of 31 FTSE 100 listed firms in the period of 1996-2000 which lies just before the period into which I perform my content analysis whereas he found that leverage was one of the strongest explanatory variables who influenced the level of IC disclosures. Firms with higher leverage are subject to creditors and shareholders who demand more information than lower leveraged firms. When leverage of the firm is high it is more probable that the firm will not be able to fulfill its obligations thereby needing to disclose more information (Camfferman and Cooke, 2002). As a proxy for leverage of companies, the debt-equity ratio is used; it indicates the proportion of debt-equity and debt that the company is using to finance its assets (Pal and Soriya, 2012).

Page | 23 Size

There are various papers who conducted research taking firm size into account relating to IC disclosures. Larger corporations receive more publicity than smaller corporations (Fombrun, 1990) and would therefore be more willingly to disclose information. Beaulieu et al. (2002) researched the amount of IC disclosure in a Swedish context. Under 30 randomly selected firms they found that firm size and IC disclosures are positively related. This relationship is further supported by Garcia-Meca et al. (2005) who found that larger companies disclose higher levels of IC in Spain during the period 2000-2001. Bontis (2003) found no evidence to support this relationship. Furthermore looking at literature concerning corporate reputation firm size is an important variable to be taking into account with. Fobrum and Shanley (1990) found that firm size is positively related with corporate reputation. These results confirm the assumption of Sobol and Farrel (1998) who found that in certain industries firm size is stronger related to corporate reputation than prior financial performance. Controlling for size in this paper I will use the natural logarithm of total assets.

Year

Since my content analysis has the time span of 2008-2012 it is not unlikely that certain events have taken place outside the scope of this research who might have a serious impact on IC disclosures. These could be changes in legislation, updates in reporting standards, social or political factors and other events which are very difficult to measure or which illogically have an effect on IC disclosures. Therefore taking a year dummy variable into the research it can be made apparent when a certain year has outliers which influence the sample.

Intangibles

Another variable used for control is that of intangibles. I assume that when a firm has more intangibles this might influence the amount of IC disclosures.

This leads to the following linear regression equation

+ ε

ICD = Intellectual Capital Disclosure

ROE = Firm Performance measured by return on Equity REP = Corporate Reputation

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IA = Intangible Assets Lev = Leverage MOD = Moderator Ind = Industry

Analysis and Results

As we can derive from figure 5 External Capital is mostly disclosed in the annual reports of British Firms, followed by Internal Capital and Human Capital. The presence of the IC indicators has remained at a reasonable constant level throughout the years for all categories. Apart from 2012 we can see that there is an increase in the description and valuation of the IC indicators of Internal and External Capital. Human capital seems to have decreased in describtion as well as in quantity. Worth mentioning is that it seems that External Capital is far more often mentioned in the annual report, however these results are distorted since around 95% of the quantity is due to the 2 terms customer and brand. Not taken the quantity of these 2 terms into account the quantity of terms disclosed of internal and external capital are on a comparable level. The abundance of the terms customer and brand can be easily explained, firms like BT group and Diageo

respectively use these terms very extensively whereas Diageo as a multinational trader in alcoholic beverages has an enormous array of brands under the products it offers. BT group plc. is a telecommunications provider which serves a very diverse client portfolio. BT group offers several products depending on the customer. Therefore it makes sense that terms such as brands and customer are more often named than management philosophy and patents. The quantity of disclosure of the IC indicators is not used in statistical analysis.

Table 2: Content analysis

Internal Capital

Year Present Described Valuated # Present Described Valuated # Present Described Valuated #

2008 65 32 6 159 89 43 21 3724 20 12 1 59

2009 68 25 7 176 82 35 26 3761 15 3 0 22

2010 66 27 8 198 78 37 35 4099 17 7 1 33

2011 75 29 11 208 73 51 38 4250 17 5 1 30

2012 70 28 10 218 72 43 28 4189 13 1 0 20

External Capital Human Capital

In the performed statistical analysis there are several outliers which might have an impact on the results. In order to prevent these abnormal values disturbing the sample I have winsorized the data in order to prevent the outliers having an impact on the results, therefore making the results more reliable. The margins on which the data is winsorized is three times the standard deviation. Data diverging positively and negatively from this margin are matched to the values of this margin. The means and standard deviation of the winsorized data can be found in table 3.

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I’ve winsorized all the variables, except for size and firm reputation. Size consists of the natural logarithm of the firm’s assets, this scaling automatically deletes outliers. The reason for not winsorizing firm reputation is that the numbers extracted out the BMAC shortlist are ordinal. Eliminating the possible outliers defies the entire purpose of the BMAC. The scores present the distinction between the perceived reputation of the firms by diverse shareholders and

stakeholders. The average IC disclosure score of is 14,42 with the highest score of 35,72 for BSKYB and an absolute low of 0 by Berkeley group. The average reputation is 57,61 where the highest and lowest scores are 73,33 and 33,80 respectively. The average naturally logged size is 15,52 with a standard deviation of 1,76.

Table 3: Descriptive Analysis

N Minimum Maximum Mean Std. Dev.

Size 150 12,31 19,55 15,5234 1,76246 Intangibles 150 0 35.902.000 2.195.300 5.029.400 Leverage 150 -55,54 65,22 4,6244 12,48154 ROE 150 -4,21 4,4 0,2299 0,8276 REP 150 33,8 73,33 57,6144 7,55781 ICD 150 0 35,72 14,4267 7,01518

To ensure the variables included in statistical testing do not disrupt the accuracy of the analysis a test on multicollinearity has been performed. Testing on multicollinearity examines the

correlation between the independent and control variables. When multicollinearity is an issue, separate variables might not have an explanatory effect on the dependent variable, they do have a relation with the dependent variable in conjunction with other variables it does have an effect. I have substantively tested for multicollinearity where values of 0.7 suggest multicollinearity takes part in the variables. Table 4 presents the correlation matrix for all the independent variables. From this table we can derive that leverage has a positive significant correlation with reputation and firm performance. Also, size has a significant correlation with the amount of intangible asset and leverage. However we can see that multicollinearity is not an issue among any of the

variables since there are no values exceeding the 0.7 benchmark. Therefore conducting a linear regression analysis is not an issue.

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First, a regression analysis will be made with model 1, consisting only of control variables and the dependent variable. In the next three regressions I will test the hypotheses together with the control variables and the dummy variables industry and year. Model 2 tested for hypotheses 1, if firm performance has an effect on ICD. In model 3 hypotheses 2 is tested, and in model 4 all the hypotheses and control variables were combined.

Hyp1: Firm Performance is positively related to Intellectual Capital Disclosures.

The results show that firm performance has a significant relationship with IC disclosures on a 5 percent level (t= -1,772, p = 0,039) however this is only the case in models 2 and 3. In model 4 where corporate reputation and the moderator effect are included this relationship is significant at 1 percent level (t= - 2,811, p=0.003). Therefore hypothesis 1 can be accepted.

Hyp2: Corporate Reputation and Intellectual Capital Disclosures are positively related.

As we can see in table 5, there is no significant relationship between corporate reputation and IC disclosures (t= 0,330, p= 0,742). Even with the addition of the moderator variable the

relationship is not significant (t=-0,208, p=0,836). Therefore there is not enough evidence to support hypothesis 2 and is therefore rejected.

Hyp3: Corporate Reputation moderates the relationship between Firm Performance and

Intellectual Capital Disclosure.

Looking at the results presented under model 5, we see that corporate reputation acts as a moderator between firm performance and IC disclosure (t= 2,450; p=0.008), resulting in the acceptance of hypothesis 3.

Hyp4: Firm Performance positively influences Corporate Reputation.

In table 5 another model is presented, which is the testing of hypothesis 4. The results in model 6

Size Intangibles Leverage ROE REP

Size 1

Intangible 0,540 1

Leverage 0,431 -0,009 1

ROE -0,008 0,023 0,607 1

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show that firm performance significantly influences corporate reputation in a positive way. Firm performance is positively related to corporate reputation at a 1% level (t= 2,589, p = 0,010). This leads to the acceptance of hypothesis 4. Furthermore we see that leverage significantly influences corporate reputation in a negative way at a 1% level (t=-3,499, p=0,001).

Variable Model 1 Model 2 Model 3 Model 4 Model 5 Model 6 (REP)

Constant -5,459 -2,353 -13,796 -3,397 0,694 57,717 Size 1,286 *** 0,825 1,562 *** 0,797 0,645 0,071 Intangible 0,000 0,000 0,000 0,000 0,000 0 Leverage -0,008 0,135 * 0,054 0,139 * 0,169 ** -0,355 *** ROE -1,800 * -1,816 * -11,852 *** 3,156 *** REP 0,028 0,027 -0,170 - MOD 0,225 ** 2008,000 0,733 0,967 0,783 1,211 -1,66 2009,000 -0,147 0,118 -0,096 0,469 -2,476 2010,000 0,949 0,968 1,003 1,158 -2,137 2011,000 2,279 2,243 2,300 2,459 -0,511 Industry 1 2,502 ** 1,294 2,509 * 2,751 ** 1,337 Industry 2 0,814 0,967 0,901 1,207 -1,467 Industry 3 9,537 *** 8,317 *** 9,514 *** 8,565 *** 3,299 *** R-Square 0,096 0,297 0,293 0,297 0,327 0,198 Adjusted R-Square 0,078 0,235 0,231 0,230 0,257 0,127 F-value 5,185 4,814 4,727 4,423 4,678 2,811

* Correlation is significant at 0.10 level (2-tailed) ** Correlation is significant at 0.05 level (2-tailed) *** Correlation is significant at 0.01 level (2-tailed)

Dependent variable IC Disclosure

Apart from hypotheses 1 and hypotheses 3 having a significant relationship with IC disclosures it is apparent that industry factors play a role in the disclosure of IC. Industry 1 (trade) is

significant on a 10% level (t=1,886, p= 0.061) for models 2 and 3 and is significant at a 5% level (t=2,099, p=0,038) for model 4. Industry 3 (High-Tec) is at all three models significant at 1% level (t=5,599, p= 0,000). Industry 4 was excluded from the model since the sample did not have any industries that fell into that category. The year dummies do not have a significant

relationship in any of the models.