Journal of Business Economics (2021) 91:283–302

https://doi.org/10.1007/s11573-020-00998-8

ORIGINAL PAPER

The nexus of intellectual capital and operational efficiency:

the case of Indian financial system

Kanishka Gupta1   · T. V. Raman2

Published online: 20 June 2020

© Springer-Verlag GmbH Germany, part of Springer Nature 2020

Abstract
The emergence of the knowledge economy has made Intellectual Capital (IC)
progressively significant. The aim of the study is to evaluate the impact of intel-
lectual capital on operational efficiency calculated using Stochastic Frontier Analy-
sis (SFA) for Indian financial sector companies. The present study has been used
data of 64 companies for the time-period of 14 years (2004–2018) listed in National
Stock Exchange-500. The paper has used modified Pulic’s Value Added Intellec-
tual Coefficient (VAIC™) as a proxy to measure intellectual capital. Correlation and
Dynamic panel regression has been used in order to examine the relationship and
address the problems of heteroscedasticity, autocorrelation and endogeneity in the
data. The results of the study indicates positive and significant relationship between
IC and efficiency of the firm. Also, found that all the components of IC has a signifi-
cant impact on firms’ efficiency. The outcomes would help the regulatory authorities
and management of Indian financial sector in managing and organizing company’s
IC.

Keywords  M-VAIC · India · Financial sector · Value creation · SFA · Efficiency ·

Dynamic panel regression

JEL Classification  C58 · M41 · O34

* Kanishka Gupta
kani2607@gmail.com
T. V. Raman
tvraman@amity.edu
1
Amity College of Commerce and Finance, Amity University, Noida, India
2
Amity Business School, Amity University, Noida, India

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 284 K. Gupta, T. V. Raman

1 Introduction

The rise in the knowledge-based, rapidly changing, and economically powerful

businesses in the economy have boosted the significance of Intellectual Capital
(Canibano et  al. 2000). In this competitive era, tangible and intangible assets,
both are regarded as probable resources for acquiring an edge over other players
in the market. IC can be described as the amount of all intellectual or knowledge
assets that a company uses in enhancing the value of the firm. IC has substituted
tangible capital and has become vital for the success of the business (Drucker
1993; Boulton et  al. 2000). Earlier, it was believed that tangible resources like
plant and machinery, land and building are the firms’ most profitable resources.
Nonetheless, in the present economy, the basis of growth and enhancement of
firms’ value has moved to IC or intangible assets (Stewart 1997; Sveiby 1997).
In the current scenario, to create value, company’s IC plays an important role.
In particular, businesses in service sector considers IC as the primary base of
knowledge that can create various opportunities for the firms. The indicators of
IC, like human capital, structural capital, and relational capital developed within
or outside the organization (databases, systems, relation with customers, frame-
works, intellectual property rights, etc.), have been identified as determinants of
welfare for businesses (Edvinsson and Malone 1997). This recognition of IC as
a strategical asset gains interest in investigating the link between IC and firms’
efficiency.
At the global level, as countries shift towards the knowledge-based economy,
the value of IC efficiency grows as well. Indian analysts agree that knowledge-
based economy should transform from the manufacturing-based economy to sus-
tain the rate of economic development. World Development Report, 1998 further
stresses on the crucial role of technology and knowledge, claiming that today,
the most advanced and powerful countries are essentially knowledge-based. The
knowledge economy unleashes the development inside the organization that indi-
cates a rising pattern of the hidden value of the firm. This pattern was studied
by Serenko and Bontis (2004) in US and Western Europe. The outcomes of the
research showed that tangible assets were about 80% of the total company’s assets
in 1978, and only 20% of the assets were intangible. In 1988, the ratio between
tangibles and intangibles amended to 45:55. By 1998, just 30% of the assets of
the organization were tangibles, whereas the other 70% were intangible assets.
Despite its significance, IC is not adequately recognized, apprehended,
and recorded in the annual reports of the company. This is perhaps because of
the accounting standards adopted by the companies. As per the International
Accounting Standard (IAS) 38, “the recognition of internally generated brands,
mastheads, publishing titles, and consumer lists in financial statements is pro-
hibited” (IASB 2004). This indicates that conventional accounting practices
does not easily allow the classification and estimation of IC elements in corpo-
rations. Therefore, to answer the increasing gap between IC and firms’ value,
various researchers have established numerous methods for measuring IC,
such as Brooking’s Model (Brooking 1996), Skandia Model (Edvinsson 1997),

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The nexus of intellectual capital and operational efficiency:… 285

Intangible Assets Monitor (Sveiby 1997), and Value Added Intellectual Coeffi-
cient (VAIC™) (Pulic 1998). Amongst all these approaches, Pulic’s VAIC™ is
commonly used as a tool for calculating IC and representing corporate market
interest among researchers and professionals. This method offers a consistent and
structured indicator of cross-industry and cross-nation comparison.
Various researchers have used VAIC as a model for measuring IC, Kamath (2007)
for India, Ting and Lean (2009) for Malaysia, Alipour (2012) for Iran, Abhayawansa
and Azim (2014) for Bangladesh, Dzenopoljac et al. (2017) for Arab region, and Nawaz
(2019) for UK, to name a few. VAIC model despite presenting number of advantages
was questioned on the composition of structural capital. The model was revised and
mostly all the aspects of IC namely, human capital, structural capital divided into rela-
tional capital, innovation capital and process capital, were a part of the model proposed
by Nazari and Herremans (2007). Modified VAIC (M-VAIC) is considered to be more
efficient than the original VAIC. This model has not been explored substantially but has
been highly appreciated (Ghosh and Maji 2015; Kamath 2017).
The present research aims to adopt M-VAIC as a tool to measure IC of Indian finan-
cial sector. The financial sector offers an important service to stimulate economic
growth as a fiscal mediator that channels necessary wealth to industries and house-
holds. The financial sector has adequately established the key roles and developments
for the mechanism of finances across businesses or industries. Owing to the reasons,
like, increased world-wide competition, higher living standards, and financial market
liberalization, the intellect-intensive financial sector companies are required to build its
human capital, serve distinguished products and provide more quality services to sup-
port its customers and enhance its value through efficient and effective planning of its
IC (Mavridis 2004). The sector therefore is not only affected by tangible capital, but
is also directly or indirectly enacted to IC. Ernst and Young (2011) has pointed out
that because of the recognition and awareness of IC it has become another factor for
determining the performance of the firm. Also, financial sector is one of the extremely
knowledge-intensive sector, and thus offers a vibrant research atmosphere and avail-
ability of accurate data from the audited financial statements.
This paper is one of the first study to examines the effect of IC and its compo-
nents on firms’ efficiency (using SFA) for Indian financial sector companies over a
period of 14 years (2005–2018). The outcomes would help the regulatory authorities
and policymakers of Indian financial sector in managing and organizing company’s
IC. The paper is followed up as: Sect. 2 explores the background and review of lit-
erature, research methodology is discussed in Sect. 3, results and their interpretation
are explained in Sect.  4, Sect.  5 outlines the conclusions and implications of the
research, and lastly, Sect. 6 describes the limitations and future research areas.

2 Background and review of literature

2.1 Intellectual capital and its measurement

The growing significance of IC in the evolving economy is unquestionable in the

recent times. Companies have started valuing, monitoring, and reporting IC in their

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 286 K. Gupta, T. V. Raman

books of accounts. It constitutes of employees’ knowledge and skills, processes,

information systems, and relations with customers, which gives a company a sig-
nificant advantage over its rivals in the market. In addition, when tangible assets are
absent, IC ensures prospect profits (Lev 2004). However, the full transparency and
disclosure of IC is in its infant stage. Although there happens to be an agreement
on the substantial role of IC in creating value, there is still an absence of a widely
accepted definition (St-Pierre and Audet 2011). Nonetheless, the meanings estab-
lished by various researchers (Brooking 1996; Stewart 1997; Roos and Roos 1997)
align with the intangible aspect of IC centred primarily on the implied knowledge
and its potential to generate value. The gap between company’s market value and
book value is often seen as the prominent indicator of IC, since it is considered as
the intrinsic value of the intangibles (Maditinos et al. 2011).
As per the literature, IC has been classified differently by different researchers and
academicians. However, IC is usually described as the combination of Human Capi-
tal (HC), Structural Capital (SC), and Relational or customer Capital (RC) (Bontis
1996; Stewart 1997; Edvinsson and Malone 1997). One of the IC’s first models was
Skandia Navigator Model given by Edvinsson and Malone (1997), which enabled
numerous researchers to examine IC over and above the traditional approaches. This
framework changed the dynamics of company-customer relationship and recognized
its effect on wealth creation (Bontis 2001). Intangible Asset Monitor (Sveiby 1997)
is another popularly known method for measuring IC. The issues that arise with
these two approaches are the non-accessibility of the information to the outside par-
ties of the organization and the qualitative form of the required data, which cannot
be converted into quantitative values (Clarke et al. 2011).
Pulic (1998) developed the most popular IC measure, which quantitatively meas-
ures IC efficiency by calculating Value Added Intellectual Coefficient (VAIC™).
The model gives details on the effectiveness of tangible and intangible assets, which
are used to generate firms’ value. Pulic (2004) claimed that value of the firm is gen-
erated by capital employed (financial or physical capital) and IC (human and struc-
tural capital). The VAIC score is the total of efficiencies of these capital namely,
Human Capital Efficiency (HCE), Structural Capital Efficiency (SCE), and Capital
Employed Efficiency (CEE), where HCE and SCE together form Intellectual Capital
Efficiency (ICE). The model suffered from criticisms regarding what comprises of
SC, and hence, few researchers developed the modified model known as M-VAIC,
which is an extended version of the original VAIC™. The model was designed to
address the shortcomings and evaluate the value efficiency in a more extensive way.
The model was modified by Nazari and Herremans (2007) by adding new compo-
nents to SC. As explained by them, Structural Capital is the aggregate of Relational
Capital Efficiency (RCE), Innovation Capital Efficiency (InCE), and Process Capital
Efficiency (PCE). These capitals can be estimated using the secondary data available
in the financial reports of the companies. Therefore, M-VAIC is the summation of
HCE, SCE (RCE, InCE, PCE), and CEE.
M-VAIC is regarded more efficient than VAIC as the performance of the firm
depends heavily on its relationship with stakeholders like consumers, business asso-
ciations, shareholders, government, policymakers and competitors. Therefore, RC
is an effective asset that helps create and preserve these long-term partnerships that

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The nexus of intellectual capital and operational efficiency:… 287

contributes to positive performance. Additionally, firms investing in research and

development gives an opportunity to extend the business and add new product lines.
It provides company a forum for innovation and development. Thus, InC is an asset
that contributes to the sustainability and growth of an organization. Similarly, in the era
of digitalisation a company cannot function without its processes i.e., information sys-
tems, communication networks, organizations of resources, structures and frameworks.
Consequently, PC is an asset that contributes in accomplishing market excellence via
customer loyalty, processing information and distribution of organizational standards.
The researcher accepted that RC, InC and PC must be used in VAIC to increase the
performance, so inclusion of RC, InC and PC adds value to the model and turns VAIC
into M-VAIC.

2.2 Components of M‑VAIC

Studies regarding the components of IC have been reviewed under this section.

2.2.1 Human capital (HC)

HC is the most essential aspect of IC as it becomes the root of all the institutional
changes and operational renovation. There seems to be no way that a company can
function without HC. Human capital is an organization’s members’ know-how and
skills. Employees build IC through professionalism, behavior, knowledge and experi-
ence, and cognitive intelligence (Brooking 1996).

2.2.2 Structural capital (SC)

SC comprises of organizational charts, systems and databases, techniques, schedules,

and anything that exceeds the material value of the firm. Also, total IC will not meet
its maximum value if the entity has weak structures or processes to control its activi-
ties. More powerful the SC held by an organization, the easier it will be for people to
understand new things (Bontis et al. 2000). Further SC is divided into relational capital,
innovation capital, and process capital.

2.2.3 Relational capital (RC)

RC is the only capital included in the company’s IC that establishes the link between
the company and the outside parties. Bontis (1999) describes RC as information
derived from the relations that company maintains with the externals like customers,
vendors, competitors, or government. Usually, RC is also referred to as customer capi-
tal. It is the amount that the company spends on advertising and marketing expenditure.

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 288 K. Gupta, T. V. Raman

2.2.4 Innovation capital (InC)

InC is the amount company is investing on research and development to gain a stra-
tegic edge in the market. It includes anything which enables the firms to think out of
the box over and above the talent of their employees (Bosworth and Rogers 2001).

2.2.5 Process capital (PC)

PC is the value that an organization gains from the processes, methods, and sys-
tems applying and optimizing the supply of goods or services. Firms spend on PC
to develop the infrastructure of business to achieve administrative and operational
objectives. PC should be dynamic to interact with the changes in the environment
(Anifowose et al. 2018).

2.2.6 Capital employed (CE)

Capital employed also known as physical or financial capital is the money, debt,
and other sources of finance that strengthen the value of the firm. More specifically,
capital employed signifies all the tangible assets of a business that are needed to pro-
duce the goods or services, as expressed in monetary value.

2.3 Intellectual capital and performance

Numerous studies have tested the association between IC and firms’ performance.
Studies have focused on the impact that IC has on productivity, financial, and market
performance of the firms in different countries. However, the results show mixed and
varied impact. Firer and Williams (2003) investigated the effect of IC on financial
and market performance of the 75 publicly-listed South African firms. The research
found that both CEE and SCE have a substantial impact on the market valuation of
the firms measured by Market-to-Book ratio (M/B). On the other hand, no signifi-
cant relationship was established between IC and firms’ financial performance.
Another study by Chen et  al. (2005) using VAIC™ methodology along with
Research and Development (R&D) and advertising expenses as additional compo-
nents, explored IC of 430 Taiwanese listed companies for a time period of 10 years
(1992–2002). The outcomes of the research displayed positive influence of IC on the
financial and market performance. Also, it provided evidence that R&D expenditure
should be considered as a sub-component of structural capital as it has a positive
and significant impact on firms’ performance. Yalama and Coskun (2007), using a
similar methodology, examined Istanbul’s banking sector for analyzing the effect of
IC on profits of the firms and found that as compared to CEE, the role played by IC
is highly significant.
In India, Kamath (2007) analyzed 98 banks for five years. The findings suggested
that presence of significant gaps in the performance of Indian banks in different mar-
kets. Also, found that there is evident imbalance against foreign banks’ performance

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The nexus of intellectual capital and operational efficiency:… 289

as opposed to domestic banks. Maditinos et  al. (2011) comprehensively examined

the relationship between IC and firms’ performance for 96 Greek listed companies
for two years (2006–2008). The study concluded that there exists no significant
relationship between IC and the performance of the firm. Only human capital and
Return on Equity (one of the measures of financial performance) were found to have
a significant relation.
Cross-country analysis, using VAIC™ methodology, was conducted by Gigante
(2013). The researcher evaluated 64 banks of 10 European countries (namely, Czech,
Republic, Denmark, Finland, Germany, Italy, Norway, Poland, Spain, and Sweden).
The analysis of various banking markets shows that Italian banks are less efficient in
using IC than Spanish and Northern European banks. Using data from GCC coun-
tries, Al-Musali and Ismail (2016) investigated the performance of IC for commer-
cial banks. The outcomes suggested that the VAIC score is highly influenced by HC
than SC. Physical capital and structural capital are found to have a positive and sig-
nificant impact on financial performance. However, human capital has a negative but
significant coefficient. Ulum et al. (2017) assessed IC and its components on finan-
cial performance for 10 Indonesian companies with biggest market capitalisation.
The conclusions drawn from the study was that higher the IC, higher the financial
performance. In addition, the authors suggested that it is essential for companies to
maintain all the available resources that are targeted towards optimizing income for
shareholders and maintaining the company in the interest of shareholders by effec-
tive management of intangible assets.
Similarly, Sardo et al. (2018) investigated the relationship between IC and finan-
cial profitability of 934 Portuguese small and medium-sized hotels, and the find-
ings suggest that financial performance gets positively impacted by human capital,
structural capital, and relational capital. Another research work by Thiagarajan et al.
(2018) studied 42 India auto-component firms for 2008–2013. The results revealed
that even after economic recession in 2008, sample businesses continued to be oper-
ating effectively by using their IC. Likewise, Tiwari and Vidyarthi (2018) examined
IC and corporate performance for 39 banks for a period of 15 years (1995–2015).
Employing unbalanced panel data regression, the researchers inferred that IC has a
significant and positive influence on performance. HC, SC and RC play a major role
in creating profitability for the banks.
In one of the recent studies, Nawaz (2019) evaluated six Islamic banks and stud-
ied the impact of IC on profitability for five years (2013–2017). The results imply
that human capital and tangible capital have a positive and significant impact with
profitability while, structural capital influences profitability negatively. Another
study, Soetanto and Liem (2019) reviewed 127 Indonesian companies and tested
the effect of IC on Return on Asset (ROA) and M/B ratios. Using dynamic panel
regression analysis, the authors concluded that IC is positive and significant with
ROA. However, there was no significant relationship found between IC and M/B
ratio. Lately, Xu and Wang (2019) comparatively analyzed the IC performance of
China and South Korea for a time-period of five years (2012–2017). The analysis
concluded that overall the key value-added factors for Chinese firms are CEE, SCE
and RCE. On the other hand, CEE and HCE are significant contributor to South
Korean companies.

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 290 K. Gupta, T. V. Raman

From the literature reviewed above, it can be pointed out that the work on
IC is in the early stages in India. Chen et  al. (2005) recommended for farther
assessment of the effect of IC in different developing nations, wherein IC’s
value-addition potential may differ due to disparities in technological innova-
tions compared with developed nations. Associating IC with company’s policy
and disclosure practices can offer easier exposure to information and better
accountability for stakeholders, contributing to more knowledgeable decisions.
Researchers around the globe are making continuous efforts to establish a basis
for supporting IC reporting and disclosure. A substantial amount of work has
been conducted that explores the impact of IC on financial performance, market
performance, shareholders value, and productivity. The firms’ efficiency is of
immense significance because it saves a company’s time, efforts and money. It
is necessary to investigate the influence of IC on operational efficiency because
it will provide the company with comprehensive image and eventually improve
the profits. The present study is one of the Indian financial sector’s pioneer work
which investigates the effect of modified VAIC on the operational efficiency
measured using Stochastic Frontier Analysis. In addition, numerous studies have
analyzed IC in the developed economies, and there are few studies that have
studied IC in the developing economies (Kamath 2007). This has presented the
research gap that needs addressing as with the dynamic business environment
firms require innovations, knowledge, and creativity for gaining competitive
advantage, because of which IC has become important for companies to survive
and grow. Furthermore, this research aims to resolve the deficit in the litera-
ture by discussing the lack of evidence on the effectiveness of IC. The research
formulates the following hypothesis (refer Fig.  1) in an attempt to broaden the
scope. It investigates the impact of M-VAIC and its components on operational
efficiency in the light of Indian financial sector companies.

Source: Researcher’s Compilation

Fig.1  Research framework and hypothesis.

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The nexus of intellectual capital and operational efficiency:… 291

H1: M-VAIC bears no significant impact on Operational Efficiency.

H2: HCE bears no significant impact on Operational Efficiency.
H3: RCE bears no significant impact on Operational Efficiency.
H4: InCE bears no significant impact on Operational Efficiency.
H5: PCE bears no significant impact on Operational Efficiency.
H6: CEE bears no significant impact on Operational Efficiency.

3 Research methodology

In view to evaluate the efficacy of IC and its components, Indian financial sector
companies have been assessed for the purpose of analysis. This sector has grown
after the economic recession 1992 and at present, it contributes to more than 6%
in India’s GDP. The sector generates a large number of jobs and tax revenue. In
general, there are millions of jobs created every year by the banking and insurance
industry. The industry is driven by knowledge-based tools and is ideal for the analy-
sis of IC components. Further, this section will discuss the data source, sample size,
technique, and models used in the present study.

3.1 Data source and sample size

The data used for the present study was collected from S&P Global database and
annual reports of the companies. The time-period is 14  years (2004–2018). The
sample for the present study are all Indian financial sector companies (87) listed
on the National Stock Exchange (NSE)-500 in the year 2018. Owing to unavaila-
bility of the data, the final sample size for analysis is 64 companies for the dura-
tion of 14  years. Therefore, a balanced panel data of 896 observations have been
considered.

3.2 Variables

This part of the paper will explain the measures used in this research to calculate
dependent and independent variables.

3.2.1 Dependent variable

Operational Efficiency (OperEff) is a measurement about how effectively busi-

nesses convert their inputs into outputs based on the given technology and exter-
nal forces (Aigner et  al. 1977). The OperEff has been estimated using Stochas-
tic Frontier Analysis. SFA is generally preferred to Data Envelopment Analysis
(DEA), where measurement errors are expected to occur along with uncer-
tain economic circumstances (Fries and Taci 2005). The SFA method captures
measurement error as well as other statistical noise that affects the output fron-
tier shape and direction. Two approaches are commonly employed to examine
the financial sector companies, i.e., production and intermediation approach

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 292 K. Gupta, T. V. Raman

(Humphrey 1985). With regard to financial sector companies, Sealey and Lind-
ley (1977) established an intermediation approach where companies use various
inputs such as labor, physical capital, and financial capital and generate output as
loans, deposits, and investments. The stochastic frontier production function has
been propounded as follows:
Yit = 𝛼 + 𝛽Xit + vit − uit (1)
The output (­ Yit) for the above-mentioned frontier model is taken as the sum of
loans, deposits, and investments of sample companies. In order to produce this
output, expenditure has been incurred on three inputs ­(Xit), namely, employee
salaries, interest paid on financial capital, and operating expenses for fixed assets
(physical capital). The error components which are randomly distributed are prox-
ied by ­vit. The non-negative inefficiency scores are given by u­ it. In addition to it,
the time trend variable has been included in the model to check for the changes in
technology overproduction frontier. The efficiency score takes the value between
the range 0 to 1 means completely inefficient and 100% efficiency respectively.

3.2.2 Independent variables

The modified VAIC™ model has been employed to assess the IC performance
of the sample companies. It is a summation of HCE, RCE, InCE, PCE, and CEE.
Model computation has been summed up as follows:
VA = I + DP + D + T + MI + RE + W&S (2)

HCE = VA∕HC (3)

RCE = RC∕VA (4)

InCE = InC∕VA (5)

PCE = PC∕VA (6)

CEE = VA∕CE (7)

M − VAIC = HCE + RCE + InCE + PCE + CEE (8)

where VA is Value added; I is Interest paid; DP is Depreciation; D is Dividend; T is
Taxes; MI is Minority Interest; RE is Retained Earnings; W&S is Wages and Sala-
ries; HC is Human Capital, i.e., Employee benefit expenses; RC is Relational Capi-
tal, i.e., Marketing and advertising expenses; InC is Innovation Capital, i.e., Research
and Development expenses; PC is Process Capital, i.e., PC = SC  −  RC  −  InC
(SC = VA  −  HC); SC is Structural Capital; CE is Capital Employed, i.e., Total
Assets- Current Liabilities.

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The nexus of intellectual capital and operational efficiency:… 293

3.2.3 Control variables

On the basis of the review of literature Leverage (LEV) has been calculated as the
ratio of total debt by book value of total assets where book value of total assets is
total assets minus external liabilities and SIZE has been calculated as the natural
logarithm of total assets to control its effect of the firms’ efficiency (Gupta et  al.
2019; Kamath 2017).

3.3 Research models

Owing to the main research variable, dynamic panel data regression has been
employed, as it enables the use of time series and cross-sectional data, keeping in
mind the heterogeneity among various types of companies. Two-step Generalized
Method of Moments (GMM) is therefore used, which was proposed by Arellano and
Bond (1991) in order to monitor the problem of endogeneity and to prevent any bias
in assessments (Wooldridge 2007). Two regression models have been constructed
to examine IC’s impact on the firms’ efficiency. Model 1 assesses the overall impact
of IC (M-VAIC) on the firms’ efficiency. Model 2 measures the individual impact of
components of IC on the efficiency of the firm.
( ) ( )
𝐌𝐨𝐝𝐞𝐥 𝟏∶ OperEffit = 𝛼 + 𝛽1 OperEffit−1 + 𝛽2 M − VAICit
( ) ( ) (9)
+𝛽3 SIZEit + 𝛽4 LEVit + 𝜀it

( ) ( )
𝐌𝐨𝐝𝐞𝐥 𝟐∶ OperEffit = 𝛼 + 𝛽1 OperEffit−1 + 𝛽2 HCEit
(10)
( ) ( ) ( )
+ 𝛽3 RCEit + 𝛽4 InCEt + 𝛽5 PCEit
( ) ( ) ( )
+ 𝛽6 CEEit + 𝛽7 SIZEit + 𝛽8 LEVit + 𝜀it

where ­OperEffit is Operational Efficiency in the current year, O

­ perEffit-1 is Opera-
tional Efficiency is the previous year, α is constant, β1…… β8 are coefficients cal-
culated for firm i (1, 2…64) for the time period t (2004, 2010…2018), ε is the error
term, and other variables are discussed above.

4 Results and discussion

4.1 Descriptive statistics

The descriptive statistics of all the dependent and independent variables is tabulated
in Table  1. The table presents the number of observations, i.e., firm-years, mean,
standard deviation, minimum, and maximum values of the variables. The average
value of all the variables is positive, which indicates that all the sample companies
are intellectually sound and are productively efficient. The average value of OperEff
is 0.433, indicating the potential of the companies to use their capital and effectively

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 294 K. Gupta, T. V. Raman

Table 1  Summary statistics Variable Obs Mean Std. Dev Min Max

OperEff 896 0.433 0.205 0.153 0.831

M-VAIC 896 30.571 60.580 2.857 558.286
HCE 896 24.346 57.420 0.45 525.230
RCE 896 0.009 0.024 0 0.368
PCE 896 0.784 0.123 0.213 3.225
InCE 896 0 0 0 0
CEE 896 2.67 0.546 0.35 2.789
SIZE 896 13.453 1.889 7.896 19.707
LEV 896 1.53 8.56 0 101.854

manage its liabilities. The standard deviation of M-VAIC (60.580) is depicting the
high variation between the sample companies. Also, the mean value of aggregate IC
is 30.571, which means that for each unit of money employed, the business gener-
ates an average IC of 30.571. The result is consistent with the previous study (Firer
and Williams, 2003), which suggests that additional firms’ value is generated from
IC.
Human Capital, as a component of IC has the highest value as it captures the
major proportion of M-VAIC. This could be because financial sector is considered
to be worker-oriented and depends primarily on the employees. The results of the
analysis show that the sample companies do not spend in R&D, and therefore the
descriptive figure of innovation capital is 0. Hence, InCE has been dropped from
further research.

4.2 Correlation matrix

The correlation between all the independent variables is shown in Table 2. Correlation
shows the association between two variables or degree of relationship that two variables
have with each other. The finding indicates that none of the independent variables are
found to be highly correlated with each other, implying that there will be no problem of

Table 2  Correlation matrix
Variables M-VAIC HCE RCE PCE CEE SIZE LEV

M-VAIC 1.000
HCE 0.965 1.000
RCE 0.358 0.245 1.000
PCE − 0.118 − 0.114 − 0.506 1.000
CEE 0.068 0.024 0.298 0.156 1.000
SIZE 0.045 0.064 − 0.187 0.264 0.438 1.000
LEV − 0.046 − 0.057 0.345 − 0.269 0.074 − 0.032 1.000

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The nexus of intellectual capital and operational efficiency:… 295

multicollinearity among variables while carrying out panel data regression analysis. As
pointed out by Gujarati and Porter (2009) that the degree of correlation exceeding 0.80
or 0.90 leads to the problem of multicollinearity. Multicollinearity is a problem as it
eliminates independent variables’ statistical significance. Research results show that the
highest correlation is between M-VAIC and HCE, i.e., 0.965; however, both of these
variables are studied in two different models. The relationship between other variables
except for these two is less than 0.80. Additionally, to check multicollinearity, Variance
Inflation Factor (VIF) has been computed and discussed in Table 3.

4.3 Diagnostic tests

Before performing panel data regression analysis, it is important that all the diagnostic
tests (refer Table 3) are conducted to select a suitable technique that will give the appro-
priate results. Levin-Lin-Chu unit root test is applied in order to check the stationarity
of all the variables (Levin et al. 2002). This test is applied and used for balanced panel
data. The findings of this test (p value > 0.005) for all variables reject the null hypoth-
esis showing that the data set is stationary, and no unit root exists.
Breusch-Pagan test has been applied for testing the heteroscedasticity. Heterosce-
dasticity, if present in the data set, means that error term varies over the values of inde-
pendent variables. For Model 1, results confirm the presence of heteroscedasticity as
the null hypothesis is rejected (p value > 0.005). On the other hand, model 2 fails to
reject the null hypothesis (p value < 0.005), which means the absence of heteroscedas-
ticity. Further, autocorrelation has been tested using the Wooldridge test for serial cor-
relation. The results depicted the presence of the first-order autocorrelation for both
the models (Wooldridge 2007). Additionally, multicollinearity has been checked using
VIF, and mean VIF score is 1.43 for model 1 and 2.02 for model 2. The findings of
this test imply that the problem of multicollinearity does not exist in the models as it is
below the limit 10 (Field 2013).
To test the endogeneity, Durbin-Wu-Hausman (DWH) test has been conducted.
This is an augmented regression analysis that is performed on the residual value of
each variable (Yokoyama and Alemu 2009). The null hypothesis of DWH test states
that variables are not correlated with the error term. Therefore, the use of Ordinary
Least Square (OLS), panel fixed, or panel random regression is appropriate. As per the
results obtained M-VAIC (mvaic_resid = 0, F-value = 24.97*) and HCE (hce_resid = 0,
F-value = 5.77*) are found to be endogenous variables as for these two variables, the
study rejects the null hypothesis for purely exogenous variables. Endogeneity can result
from both the measurement and omitted variable bias. The problem of endogeneity can
be solved by using the lagged values of endogenous variables as instrumental varia-
bles in the model (Baltagi 2008). The first lagged values of these variables are used as
instruments.

4.4 Dynamic panel regression

As argued by Baltagi (2008), the existence of heteroscedasticity and autocorrelation

restricts to apply Ordinary Least Square (OLS) or fixed effect. Also, if the model is

13
 296

13
Table 3  Diagnostic tests
Tests Model 1 Model 2
Value Results Value Results

Breusch–Pagan test Prob > χ2 = 0.000 Presence of heteroscedasticity Prob > χ2 = 0.435 Absence of heteroscedasticity

Wooldridge test Prob > F = 0.0000 Presence of autocorrelation Prob > F = 0.0000 Presence of autocorrelation
Variance inflation factor 1.43 Absence of multicollinearity 2.02 Absence of multicollinearity
Durbin–Wu–Hausman test Prob > F = 0.0023 Presence of endogeneity Prob > F = 0.0089 Presence of endogeneity
K. Gupta, T. V. Raman
The nexus of intellectual capital and operational efficiency:… 297

dynamic or static, one way to investigate is to test whether the lagged dependent var-
iable is an explanatory variable. If the result shows that the lagged dependent vari-
able is one of the explanatory variables, then it signifies that the model is dynamic in
nature, and dynamic panel models should be applied to solve the above-mentioned
problems and, therefore, achieve appropriate results. The two-step GMM model has
been implemented to gain an extensive overview of the impact of IC on firms’ effi-
ciency. GMM takes into account the dynamic nature of the variables and treats the
problem of endogeneity.
Table 4 presents the results of model 1, i.e., the impact of aggregate IC (M-VAIC)
on the Operational Efficiency of the firms. The findings revealed that previous
years, OperEff affects positively and significantly on the current years OperEff; this
leads to an increase in the OperEff pattern. Overall, IC, as represented by M-VAIC
(β = 0.068*), has a positive and significant impact on firms’ efficiency. Also, it can
be seen that lag value of IC [M-VAIC (− 1)] has a positive and significant impact on
the predicted variable. Therefore, the study rejects H ­ 1 and suggests that overall IC
contributes in determining the efficiency of the sample companies. This indicates
that higher the IC performance results better the efficiency of the firms.
Given that each component of M-VAIC affects the company’s efficiency differ-
ently (Chen et al. 2005), it becomes vital that impact of each component is studied
individually. The outcome of model 2 has been presented in Table 5. According to
the results obtained, OperEff (− 1), HCE, HCE (− 1), RCE, PCE, and CEE are found
to have a positive and significant impact on operational efficiency of the firm. As it
has been seen that financial sector companies do not invest in R&D; hence, innova-
tion capital (InC) was dropped as a variable while performing panel data regression
analysis. The findings suggest that sample companies’ efficiency is highly affected
by human capital (β = 0.266*) and its lag value (β = 0.103*), indicating that the
companies should focus majorly on training and development, fringe benefits, insur-
ances, paid leaves, retirement plans and other benefits for their employees because it
is not possible for the companies to work efficiently without employees. The sector
should also pay attention in maintaining relationship with all the interested external

Table 4  Regression results—Model 1: OperEff and M-VAIC

Independent variables Coefficient (β) t-value Standard error

Constant 3.710* 26.66 0.139

OperEff (-1) 0.138* 16.93 0.008
M-VAIC 0.068* 43.13 0.002
M-VAIC (-1) 0.111* 48.10 0.002
SIZE 0.089* 35.76 0.002
LEV − 0.262 − 18.77 0.014
Wald Chi-Square Value 6871.431, Prob > F = 0.000
AR (2) 0.478
Sargan-Hansen Test 0.678

Dependent Variable- OperEff

*Statistically significant at 0.05 significance level

13
 298 K. Gupta, T. V. Raman

Table 5  Regression results— Independent variables Coefficient t-value Standard error

Model 2: OperEff and
Components of M-VAIC Constant − 3.570* − 19.10 0.187
OperEff (− 1) 0.108* 11.09 0.010
HCE 0.266* 20.01 0.013
HCE (− 1) 0.103* 21.15 0.005
RCE 0.167* 2.55 0.007
PCE 0.071* − 18.26 0.004
CEE 0.291* 21.15 0.014
SIZE 0.053* 17.25 0.003
LEV − 0.012* − 10.70 0.001
Wald Chi-Square value 17,533.314, Prob > F = 0.000
AR (1) 0.000
AR (2) 0.412
Sargan–Hansen Test 0.489

Dependent variable—OperEff
*Statistically significant at 0.05 significance level

parties as relational capital (β = 0.167*) is also found to have a positive and sig-
nificant coefficient. The findings are in line with Ting and Lean (2009), Nimtrakoon
(2015), Kamath (2017), and Anifowose et al. (2018) and in contrary to Hartati and
Hadiwidjaja (2017) and Chowdhury et al. (2018).
In addition, companies can gain better efficiency by properly organizing their
organizational structures, techniques, procedures, and programs as process capital
(β = 0.071*) has established a positively significant impact. At last, tangible capi-
tal or financial capital (β = 0.291*) has shown the highest positive and significant
coefficient, which discloses that financial capital is irreplaceable, and companies to
increase their efficiency should invest in tangible assets as well as intangible assets
or IC. Therefore, the results reject ­H2, ­H3, ­H5, and H
­ 6. Furthermore, post-estimation
tests have also been conducted, which include AR (2) by Arellano–Bond for second-
order autocorrelation and Sargan–Hansen test for testing over-identifying restric-
tions in the model. According to the results, AR (2) and Sargan–Hansen tests fail to
reject the null hypothesis as the p-value is more than 0.05 depicting that there is no
second-order autocorrelation and the instruments are valid instruments (Hansen and
Singleton 1982).
The findings of the analysis offer useful information about IC’s relation to the
present and potential efficiency of businesses. Therefore, a competitive edge would
be how good businesses perform in gaining and implementing this capital. The
investment into these capital is subject to the size and extent of the company. The
financial institutions of India are benefiting from IC and its components. In light
of the growing pattern in IC disclosure, there are few components like innovation
capital, number of patents or trademarks applied and major consumer that are still
not disclosed by the Indian companies in their annual reports. However, it can be
concluded that companies do continue to concentrate on physical assets and yields
efficiency for the organization. However, on the other hand, knowledge pertaining

13
The nexus of intellectual capital and operational efficiency:… 299

to employees, marketing, advertising and processes also adds to the operational effi-
ciency. Financial Institutions need to properly manage and organize these IC appro-
priately so as to gain right perspectives. Additionally, it is noted that the details pro-
vided by the firms in the annual reports are lengthy and unstandardized.

5 Conclusion and implications

IC is gradually recognized as a value generator for the performance of the company,

thereby building a competitive edge and market stability. Estimating IC is impor-
tant in order to compare different companies and industries. The core focus of this
study is to present evidence that knowledge creation and management can became a
strategic consideration resulting in more efficient operations of the firm. Organiza-
tions, particularly those in knowledge extreme businesses, ought to acknowledge the
significance and value of IC, and that knowledge is turning into a basic factor influ-
encing organization’s capacity to remain successful in the modern globalized econ-
omy. Various classification and methods have been proposed for estimating IC. The
method used for this paper is a modified version of Pulic’s method (i.e., M-VAIC),
which was proposed by Nazari and Herremans (2007). This method is extensively
used and accepted for the calculation of IC. The current study is a significant effort
to investigate the impact of M-VAIC and components of M-VAIC on firms’ Opera-
tional Efficiency calculated using SFA for Indian financial sector companies.
The study has used GMM panel regression to evaluate the link between the
dependent and independent variables. This method has been adopted in order to
overcome the problems of heteroscedasticity, autocorrelation, and endogeneity in
the data. The paper proposes two regression models. Model 1 examines the over-
all impact of IC on the efficiency of the financial sector companies, and model 2
examines the impact of independent component of IC on the firms’ efficiency. The
study considers 64 financial sector companies for 14 years (2004–2018), making it
a total of 896 firm-years. The results of model 1 showed positive and significant
impact of aggregate IC and its lag on firms’ efficiency, which means that in order
to increase the efficiency of the firm, the organization must invest and manage its
IC properly. Also, previous years IC is significant to present years efficiency. The
results of model 2 depicted that no financial institutions are investing in the research
and development, and hence, the companies are found to have no innovation capital.
Human capital and its lag, relational capital, and process capital are found to have a
positive and significant effect on firms’ efficiency. CEE (physical capital) remains to
be an essential element for organizations to operate effectively and efficiently.
This paper will bring aspects to the IC literature as this is one of the pioneering
works where the impact of modified VAIC has been examined on the operational
efficiency using SFA. It can be stated, by and large, that intellectual capital is rel-
evant for generating value for the firms. Therefore, businesses benefit from invest-
ing and efficiently utilizing intangible assets or IC. Human capital has been seen
contributing the most as the component of IC in firms’ efficiency, indicating that
employees of the companies create the base for organizations to function. Followed
by relational capital and process capital, considering the significance of marketing

13
 300 K. Gupta, T. V. Raman

and advertising expenses and costs of setting up latest processes in the company,
must not be treated as an expenses rather should be considered as an investment that
give rise to efficient operations within the organization which ultimately increase the
profitability and productivity.
The research paper’s results have recommendations for researchers, managers,
and regulators to enable effective use of IC and its components in decision-making.
For managers, to improve the company’s performance and competitive value need to
spend in the skill development program for employees within the organization. This
will help in the improvement of skilled employees, which will, in effect, improve the
brand and process innovations. For regulators, they should provide incentive and tax
benefits to promote growth in technology, R&D, and enhance the efficiency of the
firm. For researchers, new perspectives into the research area of IC and its relation-
ship with firms’ efficiency in different sectors can be examined, tackling the endog-
enous variables.

6 Limitations and future scope of research

The present study has been carried out keeping in mind all the listed Indian finan-
cial institutes. However, the study suffers from some limitations. The analysis is
restricted to Indian financial institutions and opens the path for future research. This
research can be generalized, for example, to comparative studies between IC of man-
ufacturing and service sectors. Also, the study has examined the impact of IC on
Operational Efficiency other performance prospective like productivity, profitability,
liquidity and corporate governance can also be studied. Lastly, this study has used
M-VAIC as a proxy to measure IC, other approaches can also be implemented, so it
will be informative to learn how specific findings are obtained.

Funding  Not Applicable.

Availability of data and material  The data used for the study is secondary and hence, available on public
domains.

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