Intellectual property evaluation and IP valuation services are an essential undertaking in certain situations. Over the last few decades, the business world has changed markedly. Now, a company’s value is decided not so much by its machines and facilities and other hard assets, but by its processes, ideas, and designs – that is, its intellectual property. And that’s why intellectual property valuing is such an important part of determining the overall value of a business.
The difficulty, however, lies in the fact that intellectual properties, which are intrinsically intangible and include patents, trademarks, designs, trade secrets, databases, and the like, are far more difficult to value properly than hard assets are. So it takes the specialized knowledge and experience of a professional provider of IP valuation services to get the job done right by utilizing the called-for approach, methodology, and specialized valuation techniques.
What Is IP Valuation?
Intellectual property valuations involve figuring out the worth of IP assets. Easy to define, but not so simple to do.
First, the valuation of IP requires gathering in-depth information concerning the economy, the industry, and the specific business and corresponding assets. This information is gathered from both internal and external sources, and the correct IP valuation methods must be identified and utilized. Approaches for valuing that species of intangible assets called IP assets are governed by the following regulatory bodies (as well as others):
- US Generally Accepted Accounting Principles (GAAP)
- Uniform Standards of Professional Appraisal Practice (USPAP)
- International Valuation Standards Committee (IVSC)
- International Financial Reporting Standards (IFRS)
- Financial Accounting Standards Board (FASB)
Businesses require valuation of IP for various reasons and under differing conditions, but some of the most common are:
- To establish the tax basis of the IP for spinouts (when a company moves an IP asset into a new entity) and other tax purposes
- To estimate the fair value of IP for financial reporting purposes including testing assets for impairment
- An IP valuation can be a great asset in attracting investor interest and securing investment capital.
- A valuation is needed in the event that a company needs to license an IP and so needs an estimate of potential royalties.
- A valuation is also helpful in determining whether an IP-based investment will yield a sufficient return.
- Other regulatory reasons involving enforcement or tax agencies.
- For buying or selling a company or a business unit within the company, an IP valuation can be valuable getting a better price with respect to the acquisition or sale.
IP Valuation Services
Some core services offered by reputable IP valuation firms often include:
- The valuation of patents (which includes individual patents, patent families, and group patents), as well the valuation of related intangible assets like trademarks.
- The valuation, led by the value of intellectual property, of a company’s internal business units or of the company as a whole.
- A process-wide close collaboration with patent, trademark, and copyright attorneys and other valuation experts.
- The production of a comprehensive report that does the following: 1) describes the purpose of the valuation and the nature of the company and its assets, 2) demonstrates how the owner or hypothetical owner would intend to use and monetize the IP, 3) contains pertinent financial data, and 4) describes the intellectual property valuation methods used, the standard of value, and the calculations involved in deriving the IP valuation.
IP Valuation Services for Startups and Investors
Sound intellectual property evaluation is absolutely critical for tech-heavy startups. For some early-stage companies, the ability to obtain financing may rely on IP valuations. Once the valuation of IP has been accurately determined, the value of the entire enterprise may be easily estimated for IP reliant tech companies.
But the wrong IP valuation methods or uncertain valuing can present a major obstacle to a startup’s ability to access financing. With huge variations across the spectrum of IP assets, the market for these assets is imperfect, and there often exists a gaping disparity between what owners of the assets think they’re worth and what they can actually be sold for. It is critical, then, for startups and investors to get an objective evaluation from one of the top -notch IP valuation firms – one with the experience and knowledge to take into account all the influencing factors, both legal and economic as well as technical.
Benefits of IP Valuation Partners for Startups/Entrepreneurs
Entrepreneurs, usually the founders of tech-centric startups, are most often visionaries and innovators or scientists and inventors and are usually not well versed in financial skills and IP valuation techniques. Thus, they frequently don’t know the exact value of their IP assets. So professional intellectual property evaluation and valuation can be a huge boon for them.
Objectivity – When we’re heavily invested in projects – creatively, financially, emotionally – it’s difficult to have the necessary objectivity that third-party IP valuation partners can provide. The objective, impartial credibility of professional intellectual property appraisers may be very important for potential financing.
Collateral – IP assets can be used as collateral in order to obtain financing, and those assets are far more likely to be accepted as collateral when a startup or entrepreneur can demonstrate the anticipated liquidity and whether the assets can be readily transferred between businesses. In addition, a good intellectual property valuation may turn up other extra-business licensing opportunities to increase cash flow and enhance liquidity.
Legal matters – Then there are the legal concerns surrounding IP assets that can impact investor interest. IP valuation services can help entrepreneurs strengthen and safeguard their position with respect to IP. Further, with all the legal issues taken into account, the business plan presented to investors will be that much stronger.
Benefits of IP Valuation Services for Investors
The benefits to potential startup investors are varied and numerous, for example:
Additional opportunities – As with the startups and entrepreneurs, a solid IP appraisal report may uncover formerly unnoticed and additional investment opportunities with regard to the IP assets.
First-in-line advantage – If an investment opportunity shows genuine promise for an excellent ROI, an investor generally wants to be first on line to get in on the opportunity. IP valuation firms have access to data sources that are not generally available and so can provide pertinent information that investors might otherwise not be aware of.
Life-cycle changes – Like it or not, the value of IP assets changes over time owing to altered perceptions and increases or decreases in risks and potential benefits. IP valuations at different stages in a startup’s life-cycle allow investors to make sounder decisions about when to invest.
Contingencies – Investors also need to know about certain contingencies and their resulting impact – for example, when a startup’s IP is suffering infringement and how much the value suffers.
Quantifiable contribution – Finally, and probably most important, intellectual property valuing is beneficial to investors because it quantifies in concrete figures how IP assets contribute to the company’s overall value. And this is essential knowledge for sound investment decisions.
IP Valuation Methods
The practice of intellectual property appraisal and IP evaluation is only a few decades old, and methodologies and techniques are still evolving. Nevertheless, IP and valuation professionals agree on and use a few standard IP valuation methods. The four considerations that go into the mix for deciding which method to use are: 1) the uniqueness of the IP asset, 2) the amount of verifiable available date, 3) the purpose of the valuation analysis, and 3) the experienced-based judgment of the particular analyst. The four standard approaches / methods of IP valuation are as follows:
Market Approach – This one of the standard IP valuation methods arrives at a valuation of IP by looking at the market – that is, by comparing the asset in question to similar assets with similar uses in publicly available transactions. If there is an active market with a recent arm’s-length transaction, such a comparison yields a reasonable value for the IP asset.
Cost Approach – This method makes use of historical cost to develop an asset as a measure of its value, but this often doesn’t reflect the ultimate value of the asset. So the cost approach is better adapted for the valuation analysis of IP assets used with products that haven’t yet reached the market and begun generating revenue. For it reflects the cost that could be avoided if the company purchased rather than duplicated a similar development.
Income Approach – By this method the IP valuation expert calculates what the present value would be of projected income streams flowing from the IP asset under consideration. The financial results thus forecast are based on factors that include the competitive milieu, industry trends, and historical financial results.
Relief from Royalty Method (blend of the Market Approach and Income Approach) – With this method, a hypothetical situation is used to arrive at an estimate of what it would cost a company if it had to license its own IP assets in an arm’s-length transaction. The avoided hypothetical royalty charges are used as the basis for the calculation of the IP asset’s current value.
And there are, in addition to the four standard IP valuation methods and approaches, there are many additional nuanced methods (always a subset of the market, income or cost approach) available to valuation analysts. Some of these are variations and adaptations of the traditional methods while others take a unique approach. Which method or combination of methods adopted and used depends in large part on the specific IP asset being measured and valued and its stage of development as well as on the kind and amount of data available. A few of these alternative methods are listed and explained below:
Brand contribution – This market-based methodology attempts to separate contributions made by the brand itself from profit contributions arising out of other business elements. This method of separation is multi-faceted and involves the following:
- It compares the IP asset against what a manufacturer/distributor would charge for an unbranded, equivalent IP asset (the “utility product”).
- Eliminating the value added by other assets, it seeks to determine the return on asset-related capital employed.
- It compares the company’s rate of return against the rate of return for a similar unbranded business.
- It determines how much the premium price of the brand exceeds the retail price of a comparable generic asset.
Technology factor – This method is growing in use owing to the explosion in the number of intangible digital assets among businesses. It measures a technological asset’s contribution to a company’s total revenue in order to determine that asset’s value. The IP asset’s risk-free net present value is calculated, and then it is multiplied with the “technology factor,” which is an associated risk factor. The aim is to take into account both the asset’s strengths and weaknesses with respect to risks – market, economic, and legal risks.
Reproduction cost – The reproduction-cost method calculates he total costs involved in developing an exact reproduction or duplicate of the IP asset being measured and valued. For an accurate measurement and valuation, it also has to be for a duplicate IP in the exact same stage of development. Further, accuracy demands that the calculation be adjusted for inflation so that it reflects costs rendered in terms of today’s dollars.
Venture capital – This is an IP valuation method that looks at future cash flows spread out over an IP asset’s entire lifespan, using a fixed, non-market-based discount (usually between 40% and 60%) and with no adjustment to allow for probability of success. This method’s weakness, however, consists in the fact that it doesn’t thoroughly consider specific patent-associated risk factors such as challenges and infringement suits.
Relative incremental value – When a business needs to determine a certain value of an individual IP asset associated with a patent portfolio or a larger trademark, this method can prove valuable. It can be used to determine the percentage value the asset contributes to the worth of a foundational trademark or brand.
In addition to the alternative valuation methods delineated just above, there are other specialized and proprietary methods. Let’s look at just a couple of them.
Auction – Another market-based method for valuing IP assets, the auction method also compares comparable and similar IP transactions. It first posits a hypothetically perfect auction market with all information about the IP available to potential buyers who then bid on it. Examining this auction and bidding process then gives a market-based value for the particular IP asset.
Brand value equation – This method entails calculating a core value for the trademark, which then allows calculating the values for the IP assets that attach the core asset. For the sum of the core brand/trademark value and the incremental IP assets is the total value of the brand/trademark.
Understanding the Purpose of Your Valuation of IP
Experts in the intellectual property valuations arena agree on four foundational building blocks for constructing a sound valuation. And these are:
- Purpose – the basic reason for the valuation
- Premise – how the IP asset will be used
- Description – what the asset is exactly
- Standard – potential buyer(s) of the asset
Of these four building blocks, Purpose is the most important and most valuation-critical. Clearly defining the primary reason for and use of the IP valuation analysis is the statement of the valuation purpose. The reasons for conducting IP asset valuations are many and varied – ranging from the regulatory to the court jurisdictional – but there are six basic ones, as below:
Financial – Valuing IP assets (as well as other intangible assets) is now a necessary part of preparing public financial statements in certain instances, as mandated by the Financial Accounting Standards Board (FASB). Since 2001, the FASB has required the valuation, amortization, and reporting of intangible assets.
Transaction – An IP asset should be valued in the case of selling, buying, or transferring under licensing agreement of that asset.
Tax – Under US tax code, in certain situations intangible assets must be valued for tax compliance. Such IP asset tax reporting and compliance situations necessitating valuation include licensing of intellectual property across tax jurisdictions, donations of IP, built-in gains, and goodwill allocations.
Bankruptcy – Some of the most valuable remaining assets in the event of corporate bankruptcy/reorganization are often intellectual property related. As a result, the bankruptcy court will require a proper disposition and the corresponding valuation of such assets.
Litigation – In the case of IP-related litigation like an infringement lawsuit, the intellectual property assets will have to be valued for the sake of computing damages and awards. In fact, owing to the lengthy process for setting intellectual valuation in infringement cases, a separate court system has been dedicated for the resolution of such disputes.
Financing and Securitization – A growing area of intellectual property valuation is that of financing and securitization of these assets. The valuation is needed here for, say, borrowing against the future licensing income stream from the IP.
IP Valuation Firms – Choosing the Right One
Both intellectual property valuations and IP valuation methods are based on a multiplicity of determining and contributing factors, and, as a result, they vary widely from company to company and from industry to industry. Correct valuations, then, depend on wide industry experience, a thoroughgoing understanding of the valuation purpose, and novel applications of traditional approaches.
Redwood Valuation, your IP valuation partners, can provide in-depth analyses that include both robust quantitative and qualitative considerations. Our team has significant intellectual property valuation experience in numerous industries, having valued intellectual properties ranging from trademarks to patents to trade secrets and more. Clients call on our IP valuation services for a host of purposes – tax compliance, business planning, mergers and acquisitions, litigation support, and more.
Our teamwork is the essential ingredient that has gained us a respected status in this industry. For over a decade, our partners, directors, and team of experienced valuation associates have met the needs of both established companies and startups. Our professionals have expert knowledge in the areas of finance, tax, venture capital, and the audit process. Our experience also allows us to understand the unique challenges and pressures confronting startups.
Value is our passion. So contact us today to discover more.