Alternative Valuation Methodologies An excerpt from Chapter 4 of The Intangible Assets Handbook By Weston Anson There are several other methodologies used in intangible asset valuation, which can be roughly divided into two types: Variations and specialized methodologies based on the four traditional approaches described in the previous section; and semi-proprietary methodologies in use by various practitioners. Some of these methodologies are specific to a type of intellectual property. For example, as discussed above, the Technology Factor Approach is typically used with early stage technology or patents, although the concepts essentially mirror the relative strength analysis discussed in the Relief from Royalty Approach above. Other methodologies are context driven. As another example, liquidation or orderly disposal valuation processes are used almost exclusively in a bankruptcy or reorganization environment. The analysis and valuation of intangible assets and intellectual property continues to evolve with time, and since the valuation process is a relatively new discipline it s basically only two decades old it has only recently been formalized as a professional practice area. As a consequence, there is constant change, modification, evolution, refinement, and improvement. As a result, also, are a number of variations to the more standard and accepted methodologies. Some of these variations are quite new while others are well established; some are well proven and garner great respect, while others remain controversial. In the next few pages, we will review more than fifteen of those other methodologies and will do so without rendering judgment on their viability or validity. (The reader will note that these alternative methodologies are arranged in alphabetical order without any hierarchy or ranking). As with any discipline, however, one would caution that the use of a proprietary or nonstandard methodology be viewed carefully. In any valuation environment, whether valuing tangible assets or intangible assets, it is in our view imperative that more than one valuation methodology be used whenever possible. It s a noteworthy caution to the reader that a valuation conclusion for intangible assets that is based on only one methodology, particularly if that methodology is one of the specialized or proprietary techniques described below, should be viewed with some uncertainty as to the validity of the value s conclusions. Wherever possible, two or more valuation techniques should be used, and at least one of those should come from the standard methodologies described above. Finally, the balance of this section on alternative valuation techniques and methodologies is provided as an overview. The following list is not intended to be exhaustive, as there are as many variations to the methodologies listed below to at least equal the number described here. Copyright 2010 CONSOR Intellectual Asset Management 1
The Brand Value Equation Method (BVE Q TM ) This is a proprietary technique developed by our company to recognize the principle that a brand is composed of multiple intangible assets and intellectual property elements, including trademark, logo, trade dress, etc. A core value for the trademark is calculated and then values for the additional individual intangible assets are calculated. The sum of that core brand value plus the incremental asset values becomes the total brand value. In equation form, it is expressed as follows: BVE Q = CBV + IVE 1 + IVE 2 + + IVE n The Competitive Advantage Technique Based on the supposition that Company A has an advantage over its competitors because of proprietary technology, patents, trademarks, or software or other intangible assets, this method values that advantage. The competitive advantage can sometimes be measured or quantified based on share of market, market growth, competitive pricing, etc. This is a very useful method where a company s portfolio of intellectual property is diverse, and obviously valuable. While individual pieces of intellectual property within that portfolio may be difficult to measure, this competitive advantage technique allows one to estimate the value of the entire portfolio as used in one (or all) product lines. The Concept of Relative Value This approach works on the premise that one intangible, like a logo, will represent some percentage of value of an associated trademark or brand. If the underlying trademark or brand has a market value of $40M, and given a specific level of use of the logo, one could allocate a relative value of 25% of the total or $10M for the logo. This allocation is typically based on estimates of relative influence and other qualitative data, which tends to give it less credibility than other methods. Cost Savings Method Of Value The amount of money (exemplified by asset usage such as time, materials, effort, or resources) that a company will save using specific intangibles instead of other alternatives is an expression of value. Company A may have a superior blending process that enables it to reduce the number of people and the amount of raw materials needed to modify product lines. These cost savings would be calculated on an annual basis, and then the stream of savings over a number of years would be expressed in present value terms. The Imputed Income Technique This approach is used most often in a domain name or sub-brand valuation. Value is established by looking at the activity generated by the domain name and website relative to overall brand marketing. Imputed income is applied to this percentage of Copyright 2010 CONSOR Intellectual Asset Management 2
total activity generated by the domain name or sub-brand. For example, a company s website might be receiving 5,000 Internet hits a day out of a total of 10,000 inquiries being generated from all sources. Assuming each enquiry has a market value to the company of X dollars, and based on projected annual activity levels, the present value calculation for the intangible assets can be performed by calculating: Hits x $ x Time = Value. The Income Differential Method of Value A variation of one of the three traditional methods, the income method, the phrase income differential simply means that a company manufacturing and selling a product will receive less income than a similar company producing the same product, but with the addition of a specific intangible asset such as a trademark. A quick example is the income differential between what Land O Lakes receives for a pound of its butter versus the income received by a second tier company such as Knudsen s for its butter (See Premium Pricing). Liquidation Value Liquidation value is the price that an asset in a distressed situation will command upon transfer in distressed or time critical contexts. Liquidation value scenarios arise most often in Chapter 7 bankruptcy. These values are affected by other assets that may be available in the marketplace. In its simplest form, liquidation value is that current value below which we can, with some certainty, guarantee the price will not fall; although it is important to note that, with each passing month in a liquidation scenario, the value of the intellectual property can decrease by five to ten percent or more. Orderly Disposal Value Orderly disposal value is based on the facts that a company has been acquired or has chosen to wind down its operations over a period of time, and will have time to identify suitable acquisitions for its intellectual property and other intangibles. It can be used in a Chapter 7, an estate process, or a merger and acquisition situation. The decision to shut down a company usually leads to a sharp decline in value in the short-term, but allows the company the opportunity to actively market the assets to a broader group of investors, which ultimately leads to higher intellectual property values than those realized in a last ditch fire-sale or liquidation scenario. Premium Pricing Technique This is a relatively straightforward variation of the income approach. Value for an asset (typically a trademark) is established by looking at the difference between the prices paid for an average product with a trademark compared to an average product without the trademark. The difference between those two prices, the price premium, is then projected on an annual income basis. The net present value of the projected price premium is an indication of the value of the asset. It is important to note that this method may understate the value of a particular asset if, say, the comparable product also features a trademark, albeit one of lower quality. Copyright 2010 CONSOR Intellectual Asset Management 3
Profit Split Method of Value The profit split method attributes a share or portion of a company s profitability to an intangible asset. Using this method requires the ability to isolate or expressly separate the intangible asset from other business assets and to allocate some portion of gross revenues, operating income, or net income to the specific intangible asset. Analyzing that share of net income over a number of years is then expressed in current dollars via a present value calculation. This process is often used in valuation environments driven by tax implications. Return On Assets Employed Economists and accountants sometimes use this method to back into the value of the intangible assets. The method at first appears complex. Similar to an accounting calculation for a purchase price allocation, the value of the intangibles assets is determined by first calculating the market return on all of the various tangible asset classes. Any remainder of overall market return after all other assets have been accounted for is then assigned to the intangibles. Every company has three or more classes of assets. These can include tangible assets such as real estate, equipment, factories, etc, as well as intangible assets. Real estate might expect an annual return of 7% on its value. That amount of income would be calculated as attributable to the real estate and isolated from the remainder of the company s total income. This process would then be repeated for each of the other tangible asset groups (factories, plant and equipment, working capital). The balance left after these allocations to the tangible asset groups represents the return to be allocated to the intangible assets as a whole. This amount can then be capitalized and expressed in today s dollars. While technically inspired, it is best used when a company or entity has only a single key piece of intellectual property or a single type of intangible assets best used, for example, in an Oracle, Microsoft or Coca-Cola corporate environment (see ValCALC ). Rules of Thumb The first and most important rule of thumb is that all rules of thumb are faulty. With that in mind, one should be aware that there are rules of thumb used by some practitioners in intellectual property and intangible asset valuation. These include the so-called 25% rule of thumb that allocates one-quarter of a company s operating profit as an imputed royalty for use of the company s intangible assets, and the 5% of sales rule of thumb is used as imputed royalty. The results from applying these so-called rules is a royalty rate and/or attributable cash flow which is then utilized in a traditional Relief from Royalty or Income Approach calculation. Snapshots of Value Method Similar in nature to the subtraction value method outlined below, the snapshots of value method is based on establishing two different values for a company s intangibles: The assumption for the first snapshot is that the company has full access to the ownership of the intellectual property or intangible asset, and the second snapshot of value for the company without that intangible asset. Measuring the difference between the two snapshots establishes the value of the intangible asset. Copyright 2010 CONSOR Intellectual Asset Management 4
Subtraction Method of Value Establishing the value of a given intangible asset by valuing a company against another company without the asset the so-called benchmark value defines a difference in value. One might value the cash flows associated with a producer of generic or house brand detergent, for example, against those of a branded manufacturer. In this instance, if the value of the company without a branded product is $20M and the value of the company with an established brand or trademark is $30M on a comparable level of sales, then the subtraction theory says that the value of the trademark is the difference between the two, or $10M. The ValCALC Method A variation of the return on assets employed approach, ValCALC establishes the rate of return or income that each intangible asset class should be earning. Calculations of adequate return are applied to all classes of tangible assets within a company, and then the return for each intangible asset is calculated as a result. VALMATRIX Analysis Technique This proprietary system employs a matrix of the 20 most important predictors and contributors to value for a trademark or a patent. These predictors are then used to score the asset against its peers on dual numerical scales value is therefore established relative to similar brands or trademarks. For example, one would not compare the Levi s trademark to the Toyota trademark or the Target trademark to the Apple trademark. Instead, the Apple trademark would be compared and assessed relative to the Microsoft, Dell, or Gateway trademarks. The numerical score generated by assessing it and weighting the 20 factors in the VALMATRIX analysis is then used to establish a percentile ranking relative to other brands. This ranking or relative value is applied to the appropriate range of market comparables or streams of income. The VALMATRIX technique is especially useful in ascertaining which point in the spectrum of comparable royalty rates is most applicable to a specific patent or trademark. Copyright 2010 CONSOR Intellectual Asset Management 5