Good Things Flow from Bad Tax - 2003

Here’s a contradiction. In the year 2000 the South African accounting profession adopted a new international accounting standard. As part of its programme of harmonising SA Gaap with global practice the South African Association of Chartered Accountants (SAICA) introduced A C 129, its version of IAS 38, the standard developed by the International Accounting Committee.

This standard deals with Intangible Assets; the first time the profession had guidance on this slippery class of assets. The standard states quite clearly that internally generated brands (among other intangibles) will not qualify as assets. It also implies that acquired brands are part of goodwill - which is an asset - and all costs associated with brands must be expensed when occurred. As far as auditors are concerned, brands are not assets.

Finance Minister Trevor Manuel has a different view. Almost at the same time that A C 129 became a Gaap standard, he announced in the year 2000 budget that Capital Gains Tax (CGT) would be introduced in 2002. Any asset sold after the start date, will attract tax on the gain over its cost. Note the word asset and note that brands are included in this definition. If a company sells a brand and makes a gain, regardless of what the accountants say, tax will be payable on the gain.

As a result companies have hectically been having their brands valued to record with SARS a base cost on which such a gain will be calculated; should the asset ever be sold. Companies previously resistant to the idea of brand valuation have used a variety of techniques to be able to reduce the amount of CGT they might one day pay should they sell their brand. This has been an expensive exercise but it might have an unintended but valuable consequence.

Simply put it might have the effect of improving the relationship between marketing and the boardroom. A colleague at the London Business School once summarized a research finding from a study he had conducted in the UK among financial managers regarding marketing managers as follows: “Most financial manager think that most marketing managers are business amateurs.” He supported this view with the damning statistic that no more than 25% of listed British companies had a marketing person on their board of directors. We replicated this research in SA and similar findings and figures emerged.

The long lasting benefit of the CGT stimulated scramble for brand values could be the use to which these values may now be put. For reasons far removed from marketing and marketing management, some major brand owning companies now know the full value of the company’s portfolio of brand assets. Even the language is new. Imagine brands being ranked with assets like machinery and property. Fact is they are.

Now take this one stage further. If the factory manager wishes to extend the capacity of a machine he motivates the capital expenditure required by working out the economic benefits that will accrue to the company as a results of the expenditure. The way he will present his argument will be to calculate the cash flows and work out what the Net Present Value (NPV) of these will be. That is the present value of the projected cash flows less the opening investment. Everyone in the boardroom understands this way of supporting a request for funding.

Marketing people struggle to motivate the need for funding for, say, brand extensions. Their submissions get lost in marketing jargon which non-marketing executives battle to comprehend. They cannot see clearly the financial benefit in simple return on investment terms. Once brands are viewed as assets the situation changes. Money spent on brand maintenance, new product development and extension will produce financial benefits that can be measured. And the techniques available to measure them (NPV; IRR and Return of Marketing Investment) are fully understood in the boardroom.

CGT may not be a particularly efficient tax, but it could be a crucial tipping point for marketers. If only a few of the many brand valuations conducted in the last year or so are ever used for their original purpose the money might not be wasted. Not if the values are used to track marketing expenditure and place brand building and maintenance in the context of shareholder wealth protection and growth.

Mr. Manuel’s new tax might turn out to be a blessing in disguise.