Firm-specific determinants ofintangibles reporting: evidence

from the Portuguese stockmarketLıdia Oliveira and Lucia Lima Rodrigues

School of Economics and Management, University of Minho, Braga,Portugal, and

Russell CraigNational Graduate School of Management, Australian National University,

Canberra, Australia

Abstract

Purpose – This paper seeks to identify factors that influence the voluntary disclosure of intangiblesinformation in annual reports of Portuguese listed companies.

Design/methodology/approach – An index of the voluntary disclosure of intangibles isconstructed based on analysis of the Management Report and Chairman’s Letter of all 56companies listed on Euronext Lisbon at 31 December 2003. Several hypotheses about associationsbetween that index and eight firm-specific variables are tested.

Findings – The voluntary reporting of intangibles is found to be influenced significantly by size,ownership concentration, type of auditor, industry and listing status in univariate analysis; and bysize, industry, type of auditor, and ownership concentration (and listing status to a lesser extent) inmultivariate analyses.

Research limitations/implications – This study focuses on annual reports only, and iscross-sectional. The use of content analysis and the subjective judgment involved in constructingthe index cannot be view uncritically. The small sample size is inevitable because of the smallPortuguese capital market.

Practical implications – Accounting regulators will be better able to understand the factors thatexplain the voluntary disclosure of intangibles by firms and use this in developing futurerecommendations.

Originality/value – The paper validates some previous research and also provides insights to thefirm-specific factors that explain voluntary disclosure of intangibles by companies operating in thesmall share market of a European country in which capital market fund raising is not regarded to bean important source of financing.

Keywords Intangible assets, Intellectual capital, Disclosure, Portugal, Annual reports

Paper type Research paper

IntroductionThis paper focuses on the information about intangibles that is reported voluntarily byPortuguese listed companies in annual reports. It is motivated by the recentrecommendations of international accounting standards setters and researchersencouraging companies to improve their business reporting by making extensivevoluntary disclosures of information about intangibles. We seek to identify the factorsthat influence those disclosure practices by answering the following question: whatcharacteristics of the companies listed on Euronext Lisbon are associated significantlywith levels of voluntary disclosure of intangibles in annual reports?

The current issue and full text archive of this journal is available at

www.emeraldinsight.com/1401-338X.htm

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Journal of Human Resource Costing &Accounting

Vol. 10 No. 1, 2006pp. 11-33

q Emerald Group Publishing Limited1401-338X

DOI 10.1108/14013380610672657

This study contributes to understanding of the corporate reporting of intangibles byrevealing associations between voluntary disclosure of intangibles and characteristicsof firms. In particular, it enhances understanding of the determinants of voluntarydisclosure of intangibles in a small capital market of a country characterised by smalland medium enterprises whose managers generally do not perceive capital markets tobe an important source of financing. This study of firms listed on Euronext Lisbon in2003 also enhances understanding of how voluntary corporate reporting of intangibleshas responded to environmental and cultural challenges.

The paper is organised as follows. The next section briefly outlines previousliterature on intangibles reporting. This is drawn upon subsequently to developresearch hypotheses, identify appropriate independent variables, and to outline theresearch design. In the two concluding sections results are analysed and discussed.

Deficiencies in the accounting model and the voluntary reporting ofintangiblesHealy and Palepu (2001) discuss several significant factors in the economicenvironment which have the potential to alter the nature of financial reporting anddisclosure (e.g. rapid technological innovation and globalisation). They argue that thetraditional financial reporting model fails to capture the economic implications of manyof these changes in a timely way. A decline in the level of relevance of earnings andother traditional financial statements items has been documented by Lev and Zarowin(1999), Amir and Lev (1996), Collins et al. (1997) and Francis and Schipper (1999).Deterioration in the usefulness of financial information is argued to have been causedmainly by the inadequacy of accounting systems to reflect the increasing consequencesof rapid change on business enterprises. This inadequacy is especially pronouncedwith financial information about intangible items (Lev and Zarowin, 1999).

A majority of studies argues that current accounting models do not capture the keyfactors of a company’s long-term value – their intangible resources (Wallman, 1995;Canibano et al., 1999; Lev and Zarowin, 1999; Hedlin and Adolphson, 2000) – and fail torecognise a fuller range of intangibles (such as human resources, customerrelationships). This has led to claims that traditional financial statements are losingrelevance as helpful instruments in decision-making.

Different intellectual capital[1] models and measures have been developed byacademics, research groups, professionals and organizations over the past decade(Edvinsson, 1997; Sveiby, 1997; Stewart, 1999; Brooking, 1997). Companies arecurrently experimenting with voluntary intellectual capital frameworks for internaland external purposes (DATI, 2000; Meritum, 2002).

Concerns about the recent deterioration of accounting information are held byacademics and by accounting institutions (such as CICA, 1995; AICPA, 1994; IASB,2000; FASB, 2001). There is keen awareness of the need to respond to the challengesposed – in particular, by developing standard measures and forms of reporting thatfocus on the key elements of new economy enterprises.

The IASB (2000) considered it essential that narrative reports supplement financialstatements to help provide useful information to users of financial reports. Narrativereporting was thought likely to provide additional information about the assetsrecognised in financial statements; to provide explanations of unrecognised assets; andto help assess business risk. The FASB (2001), influenced by the Jenkins Report

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(AICPA, 1994), has encouraged companies to improve their business reporting byemulating the extensive voluntary disclosures of leading companies.

Some studies of national practices of intellectual capital disclosure have analysedthe extent and content of information disclosed voluntarily in annual reports (e.g.Guthrie and Petty (2000) in Australia; Brennan (2001) in Ireland; Bozzolan et al. (2003)in Italy; Rodrigues and Oliveira (2002) in Portugal; Bontis (2003) in Canada and Olsson(2001, 2004) in Sweden). The overriding conclusion from these studies are first, thatthere is no consistent framework for external reporting of intangibles; and second, thatthe intangibles information reported by companies is generally presented in a narrativeor descriptive way. Bontis (2003) conducted a content analysis on the annual reports of10,000 Canadian companies and found that only a small percentage of them (68 out of10,000) disclosed intellectual capital terms in their annual reports. Olsson (2004) founda slight improvement between 1998 and 2002 in the amount of information disclosedabout intellectual capital by fifteen Swedish retail companies, especially on humancapital, about which the information amount was very small.

To provide some empirical insights to the factors that might explain the type andamount of information disclosed about intangibles, Bozzolan et al. (2003) tested theinfluence of size and industry on the extent and the content of intellectual capitaldisclosures. They found that size and industry seemed to explain differences inintellectual capital reporting behaviour among Italian companies. Garcıa-Meca et al.(2005) used univariate analysis and found a positive relation between a proactiveintangibles disclosure strategy (in presentations to sell-side analysts) and size,international listing, market-to-book ratio and type of meeting. They also usedmultivariate analyses and found that while leverage, profitability, industry and aninvestor relations department have no influence on the extent of disclosure ofintangibles, a partial variation was explained by firm size and type of meeting.

Independent variables and hypothesesIn our study, the explanatory variables were divided into three groups, consistent withLang and Lundholm (1993) and Wallace et al. (1994), as follows:

(1) structural variables, including firm size, leverage, ownership concentration andtype of auditor;

(2) performance variables, including profitability; and

(3) market variables, comprising industry, listing status and foreign activity.

Structural variablesFirm size. This is the most commonly used independent variable in studies ofaccounting disclosure. Studies in the USA (Singhvi and Desai, 1971; Buzby, 1975), theUK (Firth, 1979), Mexico (Chow and Wong-Boren, 1987), Sweden (Cooke, 1989a), Japan(Cooke, 1992), Spain (Wallace et al., 1994), Switzerland (Raffournier, 1995), Hong Kong(Wallace and Naser, 1995), New Zealand (Hossain et al., 1995), and France (Depoers,2000), have concluded that there is a positive relationship between firm size and extentof discretionary disclosure. This association has different underlying reasons:

. Larger companies are more likely to operate in different markets or sectors(Botosan, 1997; Depoers, 2000), to get financing in different countries, and berequired to provide more information to stakeholders, especially financialanalysts (Depoers, 2000; Lang and Lundholm, 1993).

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. The cost of accumulating and disseminating detailed information is relativelyhigh for smaller companies (Singhvi and Desai, 1971; Buzby, 1975; Lang andLundholm, 1993).

. Big companies tend to employ highly skilled individuals and sophisticatedmanagement reporting systems that are capable of providing an array ofcorporate information (Depoers, 2000).

. Smaller firms tend to be more sensitive to the risk of information disclosureendangering their competitive position (Singhvi and Desai, 1971; Buzby, 1975;Raffournier, 1995).

. Larger firms are watched more closely by government agencies and are moreexposed to political costs (Holthausen and Leftwich, 1983; Watts andZimmerman, 1978). These firms believe that better reporting will lessen thepressure of undesired scrutiny by government agencies (Buzby, 1975).

. Larger firms make more extensive use of capital markets for outside financing oftheir activities. Enhanced disclosure may promote investor trust (Singhvi andDesai, 1971; Buzby, 1975).

. Larger firms tend to have a higher proportion of outside capital and higheragency costs (Jensen and Meckling, 1976).

Alternative proxies of firm size include total assets (Singhvi and Desai, 1971; Buzby,1975; Firth, 1979; Chow and Wong-Boren, 1987; Cooke, 1989a, b, 1992; Wallace et al.,1994; Wallace and Naser, 1995; Raffournier, 1995; Giner, 1997; Craig and Diga, 1998;Bozzolan et al., 2003); turnover (Chow and Wong-Boren, 1987; Cooke, 1989a, b; Wallaceet al., 1994; Wallace and Naser, 1995; Raffournier, 1995; Hossain et al., 1995; Giner,1997; Craig and Diga, 1998; Bozzolan et al., 2003); market capitalization (Chow andWong-Boren, 1987; Lang and Lundholm, 1993; Wallace and Naser, 1995; Mora andRees, 1998; Bozzolan et al., 2003; Garcıa-Meca et al., 2005); and number of employees.While market capitalization is a market-related characteristic, the other three proxiesare structure-related characteristics.

From the evidence of other studies, a positive association between size and thevoluntary disclosure of intangibles is expected.

H1. There is a positive association between the extent of voluntary disclosure ofintangibles and firm size.

Leverage. Higher leverage (usually measured by the ratio of total liabilities/totalequity) suggests higher agency costs, due to the potential size of wealth transfers fromdebt-holders to shareholders. Thus, firms with higher leverage have more incentive todisclose information voluntarily, thereby hoping to reduce agency costs. On the otherhand, signalling theory suggests that a firm with a relatively low leverage hasincentive to send signals to the market about its financial structure – implying highervoluntary disclosures.

Nonetheless, no reliable relationship between indebtedness and informationdisclosure has been found in many studies in different countries and sectors (Leftwichet al., 1981; Chow and Wong-Boren, 1987; McKinnon and Dalimunthe, 1993;Raffournier, 1995; Aikten et al., 1997; Depoers, 2000). Based on the evidence of previous

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studies, there is no strong expectation regarding the sign of the coefficient of thevariable, leverage.

H2. There is an association between the extent of voluntary disclosure ofintangibles information and levels of leverage.

Ownership concentration. Agency costs increase as ownership structure becomes morediffuse because of the increased likelihood of conflicts of interest between owners(Fama and Jensen, 1983). Firms with higher ownership diffusion have strongerincentives to disclose information voluntarily, reducing those agency costs. However,the research evidence is inconsistent: Ruland et al. (1990), McKinnon and Dalimunthe(1993) and Malone et al. (1993) found moderate support for such an hypothesis, whileRaffournier (1995) and Depoers (2000) did not.

Shareholder concentration is measured by the percentage of shares owned by thethree most important and known shareholders. Because of the contradictory evidenceof previous studies, there is no strong expectation regarding the sign of this variable.

H3. There is an association between levels of shareholder concentration in a firmand levels of voluntary disclosure of information.

Type of auditor. Auditing is a mechanism for reducing agency costs (Jensen andMeckling, 1976; Watts and Zimmerman, 1986), mitigating the information gap, andincreasing the credibility of disclosures. Large and well-known auditing firms arealleged to encourage companies to disclose more information (Singhvi and Desai, 1971;Firth, 1979), for several reasons: first, to preserve their reputation (Dumontier andRaffournier, 1998; Chalmers and Godfrey, 2004); second, to develop their expertise(Mora and Rees, 1998); and third, to ensure they retain their clients (Malone et al., 1993).

Empirical evidence does not support a strong relationship between size of auditingfirm and the extent of information disclosed. While Singhvi and Desai (1971),Raffournier (1995) and Giner (1997) confirmed this hypothesis, several other studieshave rejected it (Firth, 1979; Wallace et al., 1994; Hossain et al., 1995; Depoers, 2000).

We used a dummy variable for the type of auditing firm, assigning a value of 1 if theauditor is a Big 4 accounting firm (that is, either Deloitte & Touche, KPMG,PricewaterhouseCoopers, or Cap Gemini Ernst and Young); and 0 in the other cases.Because of the level of expertise of Big 4 auditing firms, it is expected that thefollowing hypothesis will be confirmed.

H4. Firms audited by Big 4 auditing firms are likely to voluntarily disclose moreinformation about intangibles than those that are audited by non-Big 4auditors.

Performance related variablesProfitability. Theoretical models of voluntary disclosure establish a positive relationbetween disclosure and firm performance in the face of adverse selection. Agencytheory posits that disclosure works as a mechanism to control a manager’sperformance and that managers are stimulated to disclose information voluntarily tomaintain their positions and compensation arrangements. Furthermore, consistentwith signalling theory, highly profitable companies are expected to be more likely todisclose good news to avoid undervaluation of their shares. Political cost theorysupports the idea that highly profitable firms have strong incentives to disclose more

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in order to show the market the source of their profits. In the presence of disclosurecosts, firms whose performance exceeds a particular threshold will disclose, whilethose below the threshold will not (Verrecchia, 1983, 1990; Dye, 1985, 1986; Felthamand Xie, 1992).

But the empirical evidence regarding any association between firm performanceand disclosure is mixed. Patell (1976), Penman (1980) and Lev and Penman (1990)suggest that companies tend to disclose more frequently when they experiencefavourable earnings and that earnings forecasts are, on average, associated withpositive returns. By analysing company presentations to financial analysts,Garcıa-Meca et al. (2005) found evidence suggesting that more profitable firmsdisclose more detailed information on intangibles to raise management compensationand to justify profit levels. However, other research is not so conclusive (Skinner, 1994;Frankel et al.; 1995; Trueman, 1997).

The independent variable chosen to proxy for profitability is measured by the ratioof net income before tax divided by total assets. Because of the mixed empiricalevidence in prior studies, there is no strong expectation regarding the sign of thisvariable.

H5. There is an association between the extent of voluntary disclosure ofintangibles information and the level of profitability.

Market related variablesType of industry. Membership of a given industry is argued to affect levels of voluntarydisclosure – and that this can be explained by political costs, signalling, proprietarycosts, and legitimacy theory.

In the context of political costs, industry type may affect the political vulnerabilityof a firm (Watts and Zimmerman, 1986). However, companies belonging to the samesector have equal political costs.

Proprietary costs also vary according to industry. Different industries havedifferent characteristics relative to market competition, the type of private information,and the threat of entry of new firms into the market. These factors provide incentivesfor companies belonging to the same industry to disclose more information than firmsin another industry.

Signalling suggests that, within an industry, any deviation from establishedcorporate reporting practice may be perceived by the market as bad news (Giner, 1997).Additionally, mandatory financial reporting is claimed to be less informative in hightechnology industries which make larger investments in intangibles (such as R&D,human capital and brand development) (Collins et al., 1997; Francis and Schipper, 1999;Lev and Zarowin, 1999). Therefore, firms with less informative financial statements arelikely to provide more voluntary disclosures (Tasker, 1998). Bozzolan et al. (2003) showsome considerable differences in the amount of intellectual capital disclosed in Italianannual reports between companies belonging to high profile industries and thosebelonging to low-profile industries[2].

To capture the influence of industry on the voluntary disclosure of intangiblesinformation, we use a dichotomous variable (applying 1 for firms belonging to highintangibles intensive industries; and 0 otherwise, based on their SIC code) (Collins et al.,1997; Francis and Schipper, 1999; Chen et al., 2002). It is expected that industries with

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high levels of intangibles will voluntarily provide more information about intangibles,consistent with prior studies.

H6. Firms belonging to industries with high levels of intangibles are likely tovoluntarily disclose information about intangibles.

Listing status. Agency and signalling theories support this variable. Companies listedin multiple and foreign stock exchanges are argued to have greater agency problems.Consequently, voluntary disclosure reduces the monitoring costs of shareholders.Voluntary disclosure can also be associated with a capital-needs hypothesis, that is,with a company’s objective to raise capital in foreign markets at the lowest possiblecost (Cooke, 1989b).

Listing status in organised and prestigious markets can also be used by a firm toprovide signals to stakeholders about a company’s financial strength. Severalempirical studies have found a significant association between listing status and extentof disclosure (Singhvi and Desai, 1971; Firth, 1979; Cooke, 1989a, 1992; Hossain et al.,1995; Wallace et al., 1994; Giner, 1997). Listing status is a categoric variable, coded 1 ifthe company is also listed in one foreign stock exchange or multi-listed, and 0otherwise.

H7. Companies listed on foreign stock exchanges are more likely to have levels ofvoluntary disclosure of intangibles information.

Foreign activity. Another possible motive for increased voluntary disclosure is thedegree of foreign activity of the firm. Managers of companies operating in severalgeographical areas have to control a greater amount of information, due to the highercomplexity of the firm’s operations (Cooke, 1989b). They are prone to increase theirvoluntary disclosure to show their international presence to stakeholders as aperceived good signal. Cooke (1989b), Raffournier (1995) and Depoers (2000) haveconfirmed this argument. The proxy for foreign activity is the exports-to-sales ratio.

H8. The extent of voluntary disclosure of intangibles information is positivelyrelated to the internationalisation of the firm.

Research designSampleTo assess the potential associations between voluntary disclosure of intangibles (inannual reports, and in particular, the Management Report and Chairman’s Letter) andfirm characteristics, this study analyses disclosures by listed companies in Portugal.Our study includes all companies listed on the Portuguese Stock Exchange – EuronextLisbon – as at 31 December 2003. These companies are required to comply with therequirements of the Comissao do Mercado de Valores Mobiliarios (CMVM – thePortuguese Securities Market Commission) and Euronext concerning financialdisclosures and the quality of information provided to stakeholders. The samplecomprises the annual reports of 56 companies for 2003: 49 listed on the main marketand seven on the second market of Euronext Lisbon. These annual reports areavailable on the Portuguese Securities Market Commission web site (www.cmvm.pt).

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The dependent variable: index of voluntary disclosure of intangiblesEmpirical research has used disclosure indices to evaluate the extent and quality ofinformation of a mandatory and voluntary nature that is disclosed by firms (Singhviand Desai, 1971). Disclosure indices are extensive lists of selected annual report itemswhich are duly weighted (based on subjective criteria of usefulness to user grouptargets) to measure the extent of the disclosure (Marston and Shrives, 1991). But amajor drawback is the subjective judgment involved in their construction. Anadditional difficulty occurs in replicating the analysis and/or making comparisons(Marston and Shrives, 1991). However, the extent to which such indexes are deployed isindicative of their usefulness as a research tool.

Based on prior research, we use a disclosure index as a dependent variable. Toconstruct the index, the consolidated annual reports of all 56 firms were analysed,influenced by argument that disclosure levels in annual reports are correlatedpositively with the amount of disclosure provided by other media; and that annualreports are generally one of the most important sources of corporate information (Langand Lundholm, 1993). Nevertheless, we are aware that companies have diversecommunication channels to voluntarily disclose information (these include privatechannels, such as internet sites, conference calls to analysts, press releases, andcorporate newsletters).

The emphasis of this study is on analysing disclosures in the Management Reportand Chairman’s Letter, because this part of the annual report is a suitable andconvenient medium for making voluntary disclosures. The contents are not required toconform totally to accounting conventions. The Chairman’s Letter is not a mandatorydocument.

In Portugal, the Consolidated Management Report is required to be prepared inaccord with article 508C of the Codigo das Sociedades Comerciais[3] (the Portuguesecode of commercial companies), and to provide a fair and true view of the businessaffairs and the situation of companies in the consolidation. The ConsolidatedManagement Report should also include information about the most important eventsthat have occurred after the balance sheet date; the forecasted development ofcompanies belonging to the group; the activities of the companies in terms of R&D; andthe number of shares, including the nominal (or accounting) value of the parent entity’sshare of financial investments in the group companies’ equity[4]. Listed companies arerequired also to comply with CMVM Regulation No. 1/2003 about corporategovernance – including in annual report information about disclosures, shareholdersrepresentation and the right to vote, company rules, and the profile of the board ofdirectors.

The research methods used in several studies (Guthrie et al., 2004) focus on what isreported. To provide further understanding of this, we conducted a content analysis bycoding qualitative and quantitative information into pre-defined categories. The choiceof these categories, and the items chosen to comprise each category, was based on priorliterature (Edvinsson and Malone, 1999; Stewart, 1999; Sveiby, 1997; Brooking, 1997,etc.), guidelines and recommendations of several institutions (FASB, 2001; Meritum,2002; DATI, 2000; Nordika Industrial Fund, 2001), and the common items used inempirical studies of intellectual capital reporting practices in different countries,including Australia (Guthrie and Petty, 2000), Ireland (Brennan, 2001), Italy (Bozzolanet al., 2003), Portugal (Rodrigues and Oliveira, 2002), Canada (Bontis, 2003), Sweden

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(Olsson, 2001, 2004), and Spain (Garcıa-Meca et al., 2005). These sources offered sometheoretical and empirical support and some comparability. We embrace the three mostcommon classifications of intellectual capital: human capital[5], structural capital[6],and relational capital[7] (Stewart, 1999; Sveiby, 1997; Meritum, 2002), together with theintellectual capital attributes presented by Brooking (1997).

First, we pilot tested five randomly chosen annual reports using an interrogationprotocol that had been developed from prior studies. However, we modified andextended the items listed so that they converged better with the type of items reportedby Portuguese companies. All Management Reports and Chairman’s Letters containedin the consolidated annual reports were analysed by the first author to guaranteecoherence and uniformity in data categorization.

The items selected for inclusion in the disclosure index are shown in Table I.The intent of our index was to capture quantitative and qualitative levels of

disclosure. We gave a score of 2 to each item reported in quantitative terms; a score of 1if the item is reported in qualitative terms (i.e. in a narrative or descriptive way); and ascore of zero if the item is not referred to. This is consistent with Bozzolan et al. (2003).The heavier weighting given to quantitative disclosures is based on the assertion thatprecise information is more useful and will enhance management’s reputation andcredibility (Botosan, 1997). If the same information is repeated in the report, we onlyconsider this once.

However, each item of disclosure is considered equally important, i.e. the additivemodel is unweighted, consistent with Cooke (1989a, b), Raffournier (1995) and Giner(1997). This is because we do not focus on one particular user group, but rather allusers of corporate annual reports. Clearly, different user groups confer differentimportance levels to information items.

A methodological problem inherent in this type of research is that every item is notnecessarily relevant to all companies. The procedure used by Cooke (1989a, b),Raffournier (1995), and Giner (1997) is to exclude the items considered irrelevant to a

Structural Capital Relational Capital Human Capital

Management philosophy Brands and perception of the firm’sproducts and services

Employees

Corporate culture Customers Know-how and experienceManagement process Customers loyalty EducationInformation systems Portfolio orders Formal trainingNetworking systems Company image Incentives and remunerationResearch and developmentactivities

Distribution channels andstructures

Initiative, motivation anddedication

Patents, copyrights andtrademarks

Business collaborations Teamwork capacity andspirit

Corporate know-how Agreements and favourable contracts FlexibilitySuppliers ProductivityCompetitors Occupational health and

safetyInvestorsCommunity involvementEnvironmental activitiesFinancial entities

Table I.Selected items

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company. This avoids penalizing the firm for not disclosing them. In case of doubt, theitem is maintained. In this study, only “portfolio orders” are not considered relevant toall companies. Owing to the descriptive/narrative nature of the items “Managementphilosophy” “Corporate culture” and “Management process” we considered them tohave a score of 1, and this was corroborated by the empirical analysis.

Taking account of the above considerations, the total score of the voluntarydisclosure index for intangibles (VDII), for a company is:

VDII ¼

Xm

i¼1

di

m

where di ¼ 0 or 1 or 2, as follows: di ¼ 1 for disclosures in qualitative terms; di ¼ 2 fordisclosure in quantitative terms; di ¼ 0 if the disclosure item is not referred to;m ¼ theweighted maximum number of (relevant) items a company may disclose.

The independent variablesTable II summarises the proxies used for each independent variable.

To classify a firm as belonging to a high or low intangible intensive industry, weused the classification method of Fonseca et al. (2004), based on the United Nationsstandard classification of industries according to Nace Rev1 (hereafter, NR)[8]. Themanufacturing sectors with high and medium-high technological intensity include:

Explanatoryvariables

Expectedrelationship Proxies

Structural variablesFirm size þ Total assets (in e)

Turnover (in e)Number of employeesMarket value (in e)

ATNEMV

Leverage þ /2 Total liabilities/equity LOwnershipconcentration

2 Percentage of stocks owned bythe three most important andknown shareholders

OC

Size of auditor þ Dummy variable TA ¼ 1 if a Big 4 auditor,TA ¼ 0 otherwise

Performance variablesProfitability þ Net income before tax/total

assets ratioP

Market variablesIndustry þ Dummy variable I ¼ 1 if firm belongs to a high

intangibles intensive industry;I ¼ 0 otherwise

Listing status þ Dummy variable LS ¼ 1 if firm is listed on one ormore foreign stock exchanges at31 December,LS ¼ 0 otherwise

Foreign activity þ Exports – on-sales ratio FA

Table II.Explanatory variablesand proxies

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. chemical products (NR 24);

. manufacture of office, accounting and computing machinery (NR 30);

. manufacture of radio, television and communication equipment and apparatus(NR 32);

. manufacture of machinery and equipment n.e.c. (NR 29);

. manufacture of electronic machinery and apparatus n.e.c. (NR 31);

. manufacture of motor vehicles, trailers and semi-trailers (NR 34); and

. manufacture of other transport equipment, except naval construction (NR 35,except 35.1).

The services were classified according to knowledge intensity, based on theclassification introduced by the OECD’s “2001 STI Scoreboard” and used in its “2003STI Scoreboard”. The knowledge intensive services for companies include:

. post and telecommunications (NR 64);

. financial intermediation (NR 65-67); and

. renting and business activities (NR 71-74).

And other knowledge intensive services:. education services (NR 80); and. health and social services (NR 85).

NR was re-classified for some service companies when we became aware that theirR&D activity focused on other sectors, in particular those belonging to NR 74. Othereconomic sectors (such as electricity, gas and water and construction) were notconsidered high technology sectors unless the company belonged to the list of firmswith a high value of investment in R&D activities (in 1999 or in 2001) as determined bythe Observatory of Science and Superior Teaching of the Ministry of Science,Technology and Superior Teaching (2002a, b)[9].

Table III presents the sample characterised by technological intensity. Lowtechnology companies comprise 52 per cent of the sample and high technologycompanies comprise 48 per cent of the sample.

Intensity of technology N Per cent

Electricity, gas and water and construction 8 14Low technology 11 20Medium-low technology 2 4Other services 8 14Low technological intensity 29 52High technology services 7 12Intensive electricity, gas and water and construction 1 2Medium-high technology 5 9Other knowledge intensive services 14 25High technological intensity 27 48

56 100.00

Table III.Sample according to

technological intensity

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ResultsDescriptive analysisTable IV shows the number of firms that voluntarily disclosed intangibles informationby item and type of disclosure. We can see that the majority of companies report in aqualitative form, with the item reported most frequently being “Management process”ðn ¼ 55Þ; “Investors” ðn ¼ 54Þ; and “Employees” ðn ¼ 54Þ: The least reported itemswere “Patents, Copyrights and Trademarks” ðn ¼ 6Þ; “Flexibility” ðn ¼ 7Þ and“Corporate know-how” ðn ¼ 8Þ: Relational capital items were the most frequentlyreported (mean ¼ 33.29, 8 items); followed by structural capital items (mean ¼ 30.13,14 items), and human capital items (mean ¼ 26.6, 10 items).

Type of disclosure

ItemsNumber ofCompanies Qualitative Quantitative

SC Management philosophy 29 29 0SC Corporate culture 30 30 0SC Management process 55 55 0SC Information systems 39 39 2SC Networking systems 51 51 5SC Research and development activities 23 23 6SC Patents, copyrights and trademarks 6 6 1SC Corporate know-how 8 8 0RC Brands and perception of the firm’s products

and services 31 31 11RC Customers 50 50 21RC Customers loyalty 20 20 0RC Portfolio orders 13 11 9RC Company image 21 21 4RC Distribution channels and structures 36 35 19RC Business collaborations 42 42 4RC Agreements and favourable contracts 36 36 6RC Suppliers 34 34 1RC Competitors 44 42 29RC Investors 54 54 8RC Environmental activities 27 27 6RC Community involvement 25 25 6RC Financial entities 33 33 6HC Employees 54 52 32HC Know-how and experience 25 24 2HC Education 14 13 7HC Formal training 35 35 25HC Incentives and remuneration 24 23 11HC Initiative, motivation and dedication 38 37 4HC Teamwork capacity and spirit 10 10 0HC Flexibility 7 7 0HC Productivity 38 34 11HC Occupational health and safety 21 21 11

Notes: SC: structural capital; RC: relational capital; HC: human capital

Table IV.Number of companies byreported items and typeof disclosure

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The descriptive statistics for all variables are reported in Table V. The VDII range ofscores varied from 5.75 to 72.22 per cent.

Firm size is measured by four variables: assets, turnover, number of employees andmarket value. The potential for collinearity among these measures is confirmed by thehigh coefficients in the correlation matrix (Pearson R: Table VI).

In Table VII, the Kaiser-Myer-Olkin (KMO) measure of sampling adequacy is 0.813,showing high correlations among all variables, suggesting the use of principalcomponents analysis. This is also reinforced by Bartlett’s test of sphericity, whichconfirms those correlations. The component computed accounts for 92 per cent of thetotal variance in the original variables. The scores of this component, incorporating theeffects of the original collinear variables, are the firm size (S) variable of this study.They are derived from the equation:

N Minimum Maximum Mean Std. deviation

Panel A: Continuous variables (m ¼ millions of euros)VDII 56 0.058 0.722 0.303 0.154A 56 6.2 m 351,780 m 11.5 m 48,106 mT 56 3.4 m 23,742 m 1,669 m 3,603 mNE 56 110 103,958 7291 16,399MV 56 1 m 44,155 m 1,683 m 6,067 mL 56 25.97 538.69 16.08 71.59OC 56 7.79 99.36 62.89 20.53P 56 20.3178 0.3194 0.0062 0.0851FA 56 0.0000 0.9586 0.26645 0.2879Panel B: Dummy variables

Frequency Per centTA 0 16 28.6

1 40 71.4I 0 29 51.8

1 27 48.2LS 0 49 87.5

1 7 12.5Total 56 100.0

Table V.Descriptive statistics

A T NE MV

CorrelationA 1.000 0.896 0.827 0.965T 0.896 1.000 0.898 0.922NE 0.827 0.898 1.000 0.852MV 0.965 0.922 0.852 1.000Sig. (1-tailed)A 0.000 0.000 0.000T 0.000 0.000 0.000NE 0.000 0.000 0.000MV 0.000 0.000 0.000

Table VI.Correlation matrix

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23

S ¼ 0:975*MV þ 0:969*T þ 0:962*Aþ 0:931*NE

Analysis of estimation resultsAfter incorporating the derived firm size (S), the regression model used to test thehypotheses was:

VDII i ¼ a0 þ a1Si þ a2Li þ a3OCi þ a4TAi þ a5Pi þ a6I i þ a7LSi þ a8FAi þ ei

Where L, leverage (total liabilities/equity); OC, ownership concentration; TA, type ofauditor; P, profits; I, industry; LS, listing status; and FA, foreign activity.

To analyse the stability of the regression equation we excluded the outliers andinfluential observations. Five observations were found. Correlations among variableswere determined for the new sample (Table VIII).

The correlations between independent variables and the disclosure index aresignificant at the 1 per cent level for size (S), ownership concentration (OC), type ofauditor (TA), industry (I) and listing status (LS), all with signs as predicted.

A new model was estimated and the assumptions underlying the regression modelwere tested again for null covariance, normal distribution of residuals, andmulticollinearity. Heteroscedasticity was corrected by the White matrix. Table IXpresents the regression results.

The adjusted R 2 of 0.574 is acceptable for this type of analysis: it is greater than theadjusted R 2 of 0.45 obtained from the total sample (the exclusion of outliers andinfluential observations improved the regression adjustment). The model is globallystatistically significant ðr ¼ 0:00Þ:

After the White matrix correction, LS is not statistically significant, and does notconfirm the results of the univariate analysis. The TA, I, and OC are statisticallysignificant at the 5 per cent level, while S is statistically significant at the 10 per centlevel. For these four variables the expected signs of the coefficients are verified. Theresults confirm four hypotheses: H1, H3, H4 and H6. So, larger firms, firms with alower shareholder concentration, firms with “Big 4” auditors, and firms belonging tohigh intangibles intensive industries, appear to disclose more information aboutintangibles voluntarily. The other hypotheses not supported by the model results are:H2 (leverage); H5 (profitability); H7 (listing status) and H8 (foreign activity).

Next we performed stepwise regression with backward elimination[10]. Thesignificant independent variables are: S, OC, TA, I, and LS. The deleted variables wereL, P and FA. Table X shows the results of the regression including only thosevariables.

The results of this regression support the findings of the univariate analysis. Thereis a statistically significant influence at the 5 per cent level of TA, OC, I and S on thevoluntary reporting of intangibles. LS is statistically significant at the 10 per cent level.

Overall, the results suggest that the factors with most influence on the level ofvoluntary disclosure of intangibles are S, I, TA and OC. LS has a moderate influence.The results of the regressions do not support hypotheses H2 (leverage); H5(profitability) and H8 (foreign activity).

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24

PanelA:KMOandBartlett’stest

Kaiser-Meyer-Olkin

measure

ofsampling

adequacy

0.813

Bartlett’stest

ofsphericity

Approx.x2

329.79

Df

6Sig.

0.000

PanelB:Totalvariance

explained

Com

ponent

Initialeigenvalues

Extraction

sumsof

squared

loadings

Total

Percentageof

variance

Cumulative

percentage

Total

Percentageof

variance

Cumulative

percentage

13.681

92.027

92.027

3.681

92.027

92.027

20.207

5.178

97.205

30.080

1.996

99.201

40.032

0.799

100.000

PanelC:Com

ponentmatrix(a)

Com

ponent

1

MV

0.975

T0.969

A0.962

NE

0.931

Note:Extraction

method:principal

componentanalysis

Table VII.

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25

ConclusionsUsing Portuguese data for 2003, this study validates and extends knowledge providedby prior empirical studies of the factors influencing the voluntary disclosure ofintangibles information in company annual reports.

Drawing from prior literature on voluntary disclosure, we computed a voluntarydisclosure index for intangibles and formulated a set of hypotheses based on differenttheoretical foundations of the voluntary reporting of intangibles. Univariate analysisshowed a significant influence of S, OC, TA, I, and LS on the voluntary reporting ofintangibles. Multivariate analysis showed that TA, OC, I, S (and to a lesser extent, LS),provide a satisfactory basis for explaining firm behaviour towards the voluntaryprovision of intangibles information.

In the small capital market of Portugal, Big 4 auditor firms seem to play animportant role in the disclosure of voluntary information about intangibles. Furtherresearch seems warranted to investigate the nature of the impetus that these firmsprovide for the voluntary disclosure of intangibles information. This could beundertaken with a view to spreading any protocols or techniques to non-Big 4 auditfirms, possibly though the continuing professional development activities ofprofessional accounting bodies in Portugal.

Our findings have other implications. Annual reports are still important vehicles forcorporate managers to disclose voluntary information, but it is notable that thefrequency of disclosures in the area of Human Capital lags well behind that in the areasof Relational Capital and Structural Capital. This study should assist accountingstandards setters and corporate reporting regulators to better understand the factorsthat explain the voluntary disclosure of intangibles information by firms. They shouldthen draw upon this knowledge when formulating future accounting standards andcorporate reporting recommendations. As a simple example of this, the empiricalevidence we have provided reveals that extant incentives to disclose intangiblesinformation dealing with Human Capital have produced a lower mean frequency ofvoluntary disclosures than for Relational Capital and Structural Capital. The causesand implications of these findings merit closer scrutiny, possibly as part of a quest toidentify the nature of any regulatory intervention that is required to mandateappropriate disclosures.

VDII S L OC TA P I LS FA

VDII 1 0.58 * * 0.15 2 0.47 * * 0.50 * * 0.09 0.49 * * 0.55 * * 20.04S 1 0.22 20.35 * 0.34 * 0.12 0.30 * 0.40 * * 0.07L 1 20.12 0.03 20.21 0.32 * 0.12 20.07OC 1 0.03 0.08 20.11 20.45 * * 0.17TA 1 0.17 0.41 * * 0.21 0.20P 1 20.15 0.09 0.03I 1 0.23 0.01LS 1 20.13FA 1

Notes: * *Correlation is significant at the 0.01 level (two-tailed); *correlation is significant at the 0.05level (two-tailed)

Table VIII.Correlations (Pearson R)

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26

PanelA

Changestatistics

RR

2Adjusted

R2

Std.errorof

theestimate

R2change

Fchange

df1

df2

Sig.Fchange

Durbin-W

atson

0.802

0.643

0.574

0.0967

0.643

9.436

842

0.000

2.264

PanelB:Coefficients

Model

Unstandardized

coefficients

Stand.coeff.

tSig.

Collinearity

statistics

Whiteheteroskedasticity

consistent

standarderrors

andcovariance

BStd.error

bTolerance

VIF

Std.error

t-statistic

Prob.

Constant

0.344

0.059

5.879

0.000

0.064

5.352

0.0000

S0.094

0.045

0.236

2.081

0.044

0.663

1.509

0.049

1.905

0.0636

L20.001

0.002

20.047

20.463

0.645

0.827

1.210

0.002

20.413

0.6814

OC

20.002

0.001

20.270

22.463

0.018

0.709

1.411

0.001

22.111

0.0407

TA

0.090

0.036

0.278

2.486

0.017

0.680

1.471

0.034

2.613

0.0124

P0.071

0.166

0.042

0.425

0.673

0.855

1.169

0.082

0.857

0.3965

I0.074

0.033

0.251

2.253

0.030

0.685

1.461

0.033

2.272

0.0283

LS

0.106

0.055

0.215

1.936

0.060

0.688

1.454

0.067

1.593

0.1187

FA

20.023

0.050

20.044

20.454

0.652

0.901

1.109

0.035

20.638

0.5269

Table IX.Results of regression

model without outliersand influentialobservations

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Limitations and future researchThis study has focused on only one disclosure vehicle – one section of the annualreport, the Management Report and Chairman’s Letter. Future research could extendour study to include other disclosure channels, such as press releases, conference callsto financial analysts, and online announcements.

The small sample size used is a limitation too, but it is unavoidable in the smallPortuguese capital market. Another limitation is the use of content analysis andreliance on the subjectivity of a researcher to identify and classify the nature ofreported information. No software-assisted electronic searches were used to identifythe information disclosed. This should not be an impediment because electronicsearches are not robust, and do not capture the extent or the nature of the intellectualcapital information disclosed (Beattie and Thomson, 2005)[11]. Whilst it is impossibleto remove researcher subjectivity completely, the value of the disclosure scoresobtained, and their subsequent use in testing hypotheses, should be viewed cautiously.Like most disclosure studies, the present study has examined the extent of voluntarydisclosure cross-sectionally. Longitudinal studies offer the prospect of obtaining morerobust results and should provide profitable areas for future research.

The increased demand by stakeholders for relevant information, prompted by themany frauds and scandals of the last decade, has demonstrated the need for there to bebetter rules and practices for financial information disclosure to improve trust inaccounting. In general, the academic community and accounting standards setters areaware of the importance of issuing guidelines on how to improve financial reports.There is much to be done to advance the financial reporting of intangibles. Knowledgeof the factors influencing the voluntary reporting of intangibles, provided here, shouldbe an early step in this process of improvement. To understand what are the mostimportant theories of voluntary disclosures of intangible assets and how they explainthe information companies provided voluntarily is the next step of our research. Futureresearch, possibly conducted by interview or questionnaire survey, could consider theneeds of users of accounting information (namely investors) in terms of reportingintangibles assets and/or liabilities and study the implications for companies of thedisclosure of this kind of information. The appropriate standardisation of somemandatory disclosures by all companies should be considered urgent by the academiccommunity and accounting standards setters.

Coefficient Std. error t-statistic Prob.

Constant 0.333 0.058 5.709 0.000S 0.090 0.044 2.057 0.046OC 20.002 0.001 22.298 0.026TA 0.092 0.035 2.635 0.012I 0.067 0.031 2.181 0.035LS 0.112 0.062 1.799 0.079R 2 0.6368 Mean dependent var. 0.2940Adjusted R 2 0.5964 SD dependent var. 0.1482SE of regression 0.0941 Akaike info criterion 21.7778Sum squared resid 0.3988 Schwarz criterion 21.5506Log likelihood 51.335 Durbin-Watson stat. 2.2276

Table X.Regression resultsðVDII i ¼ b0þ b1Sþb2OC þ b3TAþb4I þ b5LS þ uiÞ

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Notes

1. The expressions “Intangibles” and “Intellectual Capital” are used synonymously. However,“Intangibles” is an accounting term, while “Intellectual Capital” arises from human resourcesliterature (Canibano and Sanchez, 2001). Intellectual capital is the combination of acompany’s human, organizational and relational resources, but is more than the sum of thesethree components. It includes how a firm’s knowledge generates value.

2. Bozzolan et al. (2003) used the listing segments of the Italian Stock Exchange as the variablegroup in their sample companies: the ones listed in the New Market are considered “highprofile” whilst the firms listed in the other segments are considered “low profile”.

3. This article was changed recently by Decree-Law No. 35, 2005, which aims to translate intoPortuguese law the European Directives and Regulations related to the adoption of IFRS,namely Directive No. 2003/51/CE.

4. This information is not required if it is present in the notes to the consolidated financialstatements.

5. “Human capital is defined as the knowledge that employees take with them when they leavethe firm. It includes the knowledge, skills, experiences and abilities of people.” (Meritum,2002, p. 63).

6. “Structural capital is defined as the knowledge that stays within the firm at the end of theworking day. It comprises the organizational routines, procedures, systems, cultures,databases, etc.” (Meritum, 2002, p. 63).

7. “Relational capital is defined as all resources linked to the external relationships of the firm,with customers, suppliers or R&D partners. It comprises that part of human and structuralcapital involved with the company’s relations with stakeholders (investors, creditors,customers, suppliers, etc.).” (Meritum, 2002, p. 63).

8. Statistical classification of economic activities in the European community.

9. University and Polytechnic Teaching.

10. This method involves computing a regression equation with all the predictor variables, thengoing back and deleting independent variables that do not contribute significantly.

11. Beattie and Thomson (2005) recommend the adoption of manual analysis and a detailed listof intellectual capital components accompanied by detailed coding rules to increase thetransparency, facilitating replication, comparison and the development of shared meanings.

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Corresponding authorLıdia Oliveira can be contacted at: lidiaoliv@eeg.uminho.pt

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