I wondered if anyone had played around with formulae that treat intangibles, goodwill, and r&d expenses as capital expenses contributing to gross plant and total assets on a depreciated basis. A lot of people are saying that in modern corporations (e.g. Apple), those expenses actually function in that manner. But I, personally, can’t see how to easily adjust a company’s balance sheet for this, and any formula would probably be extremely complicated, involving several custom formulae that refer to each other. And then the question is what use one would make of it. I don’t use the price-to-book-value ratio much, and I doubt many others here do either; if you adjust book value to allow for these expenses, would that make it more or less useful? It might be more practical to adjust earnings and free cash flow so that these expenses are depreciated rather than deducted outright, but again, I’m not sure how to go about doing so, or whether to even try. And do we depreciate all intangibles or only some?
Yuval, I did a bit with the idea of capitalizing R and D in context of unlevered free cash flow by adding back in current year RandD and expensing out out (amortizing I guess) 1/6th of the past 6 years’ R and D. I don’t know if that’s the right way to do it but it smooths out RandD expense over time and doesn’t penalize single year RandD investments so heavily. That said, I couldn’t tell that the process was very useful compared to regular unlevered free cashflow.
I found separate factors for R and D to be more useful. I possibly didn’t investigate it enough, but wasn’t seeing noticeably better results using the above. I use the RandD adjusted version of the calc as a very small weight in my value factor, but I’m not sure it helped at all in the context of all the other factors.
edit: Upon reflection, I think we may have already discussed this. Apologies if I’m repeating myself. 
It’s sort of been on my to do list for a while to recreate a direct method cash flow statement. For its own reasons, FASB went the other way in the 1980s, mandating that companies report statements of cash flows via the indirect method. …probably makes more sense in context of the accrual method.
Anyhow, my sense is that if you could recreate the old timey accounting statements a) statement of cash flows, direct method, and/or b) sources and uses of funds, the answer to your question should be much more apparent.
also on my to-do list… I assume you guys saw the OSAM piece where they did a number of corrections to Book Value and got some decent results
http://www.osam.com/Commentary/negative-equity-veiled-value-and-the-erosion-of-price-to-book
In theory, a few of these adjustments would affect the income statement as well.
To to this, we need to be able to drill down to more of the individual line items in Compustat. I was trying to re-create the clean version of free cash flow but many of the necessary items are not currently set up for direct referencing. In the article above on enhanced book value, I don’t see how we can access advertising costs directly.
Does Compustat have certain restrictions on the granularity of the data or is this more of an issue that it takes a lot of work to map and make it available?
Yuval, here’s an interesting related article from hbr
https://hbr.org/2018/06/why-we-need-to-update-financial-reporting-for-the-digital-era
The article title is a red herring. The article did not address any ways in which the digital era requires that financial reporting standards to be updated. Rather, it only claimed that the traditional measures of value seem to be disregarded by the current market. Moreover, whenever this phenomenon occured in the past (it has – many times), we subsequently attributed to animal spirits or euphoria. Not once did the authors address how/why the digital content is different in this respect.
I call BS.
MBAs heralding that shareholders profits shouldn’t matter to shareholder valuations is a harbinger of a new tech bubble.