Before I learned that writing about management is better than doing it, I was the editor-in-chief (and later president) of a book publisher, responsible for acquiring what we published, working with my staff and our authors to make the books better, then sending them off to seek their fortune in the cold, cruel world of sales and marketing. For a time our offices were in a landmark Fifth Avenue building, with pseudo--air conditioning and a poky elevator. On one stately ascent, I shared the lift with an elderly, charming colleague. As the elevator groaned to a stop at his floor, he said, "Have a profitable day."

I grabbed the door to keep it open, and replied, "No, George, you've got it wrong. I'm in the department that spends money."

Which wasn't right, of course: I was in the department that invested today for a profitable tomorrow. My children work in the same department, acquiring knowledge for future reward, as their parents remind them when they'd rather watch Nick at Nite than study fractions. And every company builds a bank of knowledge--research, skills, customer lists, tradecraft, and more.

What's it worth?

In the October 2 issue of FORTUNE, I described one way to measure intangible assets and threatened to share others with you. That first technique inferred the value of intellectual capital indirectly, by comparing a company's return on assets with the average for its industry and assuming that an above-average ROA is the product of intangible assets. What follows is a nifty way to measure corporate brainpower more directly.

Two quick points. First, knowledge may be intangible, but that doesn't mean it can't be measured. Markets do it. Wall Street prices high-tech stocks at a higher premium to book value than it does stocks in industries whose technology is mature. It also reacts, generally with higher prices, to announcements of increased R&D spending. Labor markets price knowledge too--for most people, income correlates better with IQ than with the ability to do pushups.

Second, this isn't just an exercise. The guardians of accounting standards are correct to worry about putting unproven and idiosyncratic data into corporate reports. But the data are vital. Says Alan Benjamin, former director of SEMA Group, one of Europe's leading computer-services companies, with 1994 sales of $853 million: "The knowledge bank, not the buildings, is the reason people invest in your company or come to work for it."

The "knowledge bank" is Benjamin's idea. Now retired, Benjamin, 63, developed it for the "Tomorrow's Company" inquiry, a three-year study of the sources of competitive advantage sponsored by a veritable Debrett's Peerage of British industry and conducted by the Royal Society for the Encouragement of Arts, Manufactures, and Commerce.

Benjamin recast the income statement of a division of an actual company to show how it would look if the main measurements were the creation of knowledge and cash--not bad criteria for the Information Age. His pseudonymous outfit is "Brilliant PLC."

Here is a snapshot of Brilliant PLC's cash account:

Sales (12 mo.) £ [pounds] 2,788,011 Minus overhead (rent, raw material, supplies) -£ [pounds] 506,386 capital spending -£ [pounds] 98,000 labor -£ [pounds] 1,594,602

Cash surplus at year-end £ [pounds] 589,023

In ordinary accounting, the capital expenses would be moved to the balance sheet and put on the asset side. The income statement would be charged only for depreciation from it and prior years' capital spending. Benjamin upends the rules to calculate his knowledge bank--the "real" profit of Brilliant PLC. He treats capital spending as an expense, not an investment. His argument: "In a people world, capital spending just houses people and equips them and gives them something to work with." The long-term investments are intellectual.

On the other hand, he defers a portion of salaries, treating it as investment--what he calls "real value." He does this by calculating how much of an employee's work is devoted to current-year tasks and how much to seeding the future (training, planning, research, business development, etc.). Thus, all the salary of a clerk is expensed, but half the pay of the marketing staff might be treated as capital spending and booked as an asset, because half the value of their work will be realized in future years. Most of the pay of a new hire, who accomplished more learning than doing, would also be banked. In the lab, researchers' entire salaries are capitalized.

You can come up with these figures by guess and by gosh, but don't. If knowledge is your most important asset, these books matter more than the ones auditors check. Says Benjamin: "A serious analysis of employees' activities, and of their training and what it achieved, must precede a decision on deferring employee cost." That would take work, but not much more than, say, rethinking job descriptions.

One group gets special treatment. Brilliant PLC's 91 technical employees, whose combined pay is £ [pounds] 1.1 million, are highly skilled, key people. Though their time is spent generating this year's revenue, they are in such demand that recently 30% a year have been wooed away; hiring and training replacements costs £ [pounds] 10,000 a head. Their value, therefore, is based on these figures: Sixty-four of the 91 will probably stay; their replacement cost is £ [pounds] 10,000; so £ [pounds] 640,000 goes in the bank and the balance is expensed.

In the end, Benjamin apportions Brilliant PLC's payroll as follows:

Deferred labor cost (added to knowledge bank): £ [pounds] 871,979 Expensed labor cost (no residual value): £ [pounds] 722,623

Next, Benjamin conservatively estimates the value added by R&D: the net present value of estimated sales from forthcoming products, minus contingency deductions for failure and unforeseen competition or costs.

Now Benjamin draws his new bottom line.

Sales (12 mo.) £ [pounds] 2,788,011 Minus overhead (£ [pounds] 506,386), capital spending (£ [pounds] 98,000), and expensed labor (£ [pounds] 722,623) -£ [pounds] 1,327,009

£ [pounds] 1,461,002

Plus R&D value added £ [pounds] 40,097 Surplus at year-end £ [pounds] 1,501,099

That surplus consists of £ [pounds] 589,023 in cash (the same as in the first, conventional figures above) and £ [pounds] 912,076 in banked knowledge--capitalized pay plus the R&D value added--which the company can call on in the future and which, like any asset, will depreciate.

Horsefeathers? It is subjective, Benjamin cheerfully admits, but he insists that subjective measures, used consistently, are as valuable as any others. If investors saw such figures, they would get rigorous fast. There's informed guesswork in "hard" numbers too. If valuing brick and mortar were objectively foolproof, companies would never have to take write-offs for those assets or dispute the government's depreciation schedules.

Benjamin's arithmetic doesn't show the full panoply of intellectual assets: It doesn't count up intangibles like databases, brand equity, or customer loyalty. But a company that calculated the growth of its talent and know-how would have a way to see how it is putting its human capital to work--and show investors, managers, staff, and recruits that it was keeping tabs on what matters most.

REPORTER ASSOCIATE Joe McGowan

[SIDEBAR]

A THOUGHT IN THE SHOWER

Cleveland Mayor Michael White isn't the only municipal leader to get his knickers in a twist about a peripatetic sports franchise. Coffee grows cold in Seattle as residents wonder if the Mariners will ship out. The New York Yankees' ever affable George Steinbrenner keeps a loaded gun under his pillow, taking it out occasionally to cock it next to mayor Rudolph Giuliani's ear...

One hesitates to apply the logic of intellectual capital to businesses whose owners (baseball's, at least) are fabled for idiocy and whose employees majored in carbohydrate packing. But by luck or wit, sports franchises have become nimble Information Age businesses, renting the fixed assets they need and outsourcing whatever isn't a core competence. Only five of the 28 major-league baseball teams, and just three of the National Football League's 30 clubs, own their own stadiums. Would the Browns leave if they owned Municipal Stadium? Only if they could put it to good use--selling it to someone or converting it into housing, which is what the citizens of medieval Arles did with the Roman arena in that French city and which is what became of the land where Ebbets Field once stood. In their eagerness to attract sports teams with taxpayer-built stadiums, local and state governments have handed them free tickets out of town.

Assets, like children, tie you down. One of the New Economy's megatrends, if we may borrow a word, is stripping balance sheets of fixed assets. Headquarters move into rented space, banks securitize mortgages, manufacturers let Ryder trucks lug their freight. Making allowances for thousands of exceptions, one could say that businesses are moving to one side or the other of a dividing line: asset owners vs. asset renters.

As fiduciaries for their owners' assets, managers must understand this phenomenon. It's vital to competing. A tackle whose assets weigh 295 pounds can crush a halfback, but he has to catch him first. In general, the more differentiated and proprietary the work, the more likely you should own the assets it requires. Microsoft, whose sacred cow is code, owns no factories; Intel, whose mantra is manufacturing, builds its own.

But some industries can't travel light. Says Adrian Slywotzky, a consultant whose book Value Migration discusses how changing competitive conditions affect business models: "For a lot of asset-intensive businesses, like real estate, chemicals, or steel, making money will be tougher." But not impossible. At least four strategies suggest themselves to businesses that don't have the option of taking off those concrete shoes.

Be the low-cost producer. As long as the world needs aluminum, the market will reward whoever makes it efficiently.

Share the burden. Many chemical companies lighten up by sharing factories and even production lines.

Sell expertise as well as output. Asset management--the ability to run a network, say--is a skill you can sell. Electricite de France helps build plants and manage power companies in Argentina, China, Ivory Coast, Portugal, Sweden, Ukraine, and elsewhere.

Manage assets for capital gains as well as income. Says Slywotzky: "If you're smart, you can play the asset side" the same way you'd play the bond market, by buying at lows. That can turn a dull business into an exciting profit, as Warren Buffett's shareholders can testify.

Join Tom Stewart in the FORTUNE FORUM ON COMPUSERVE (GO FFORUM) or by E-mail: 74774.3555@compuserve.com

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