The concept of valuation in the intellectual property and other intangible assets of a company is new as compared to other concept of intellectual property law. The value of an IP is monetary compensation that is expected to be received from licensing of an IP or form sale or exchange of other intangible asset. The intangible asset of a company includes goodwill, trademark, technology, know how, trade secret etc.
How can we say that IP has value?
There are various circumstantial evidences to prove the same.
- money and time is spent on registering an IP
- IP protection involves legal and other costs.
- A lot of amount spent on advertising brands, IP contributes yo national economic accounts.
What are the areas that require IP Valuation?
- purchase and sale of assets
- corporates finance
- transfer pricing
- financial reporting
How IP can be valued?
There are mainly three methods of IP valuation
- cost based method
- market based method
- economic based method
- Cost Based Method: It can either be based on historic cost or on replacement cost. A historic cost is actual cost of creating an IP. This method is not recommended as there is no correlation between expenditure and subsequent value of asset. Replacement cost is the cost to replace the asset. It is determined as to what will be the cost of creating a new trademark or a patent. This method, whether based on historical or future cost, focus on substitution. This means that the worth or value of an IP asset is no greater than the cost to obtain or reproduce the asset. The cost can be measured by purchasing the asset today, by replacing the asset with a substitute reproduction of the asset. IP cost measurement include, direct cost, such as for material,designs, marketing, legal, personnel, and engineering, soft and indirect costs such as development time, overhead costs, and a profit percentage for the developer of the asset.
- Market Based Valuation: This method can be based on market price comparability on comparable royal rates. Market price comparability, the value of an IP determined on the basis of price of comparable IP product. Comparable royal rate, this requires construction of an business plan around an IP. It is applicable when truly active marketplace exists and actual comparable transaction can be found. But until this decade most IP assets were not being bought, sold or licensed frequently enough to establish a value based solely on direct market based comparable. Therefore, it is often necessary for an experienced IP valuation expert to adjust and analyse existing comparable to arrive at an accurate value. Further, in selecting a suitable comparable transaction, one must focus on the context in which it took place; was the transaction a bankruptcy filing, a divorce, an estate settlement, litigation or perhaps a forced transaction or divestiture? Any one of these may render a specific comparable transaction unsuitable for analysis unless one makes a compensating adjustment to the transaction. But when reliable data is available, the market approach is considered the most direct and systematic method for accurately valuing intangible assets such as IP.
- Economic based market: This is the most preferred method of valuation. This method requires identification, separation, and quantification of cash flow or royalty fees to IP and the capitalization of future cash flow. Quantifying the future revenue stream can be done in a view of exploited or unexploited IP. In case of capitalization longer the period of money receipt higher will be the risk. Risk is described in terms of discount rate which in turn be based on inflation rate, cost of capital and premium. This is perhaps the most widely used IP valuation approach. It is based on the assumption that the value of a piece of IP today results from financial benefits that can be generated and estimated into future of whatever remaining expected useful life the IP may contain. The income approach requires substantial knowledge and judgement on the part of valuation analyst to decide a key issue : how to measure the income attributable from the asset. Is income going to be measured by some theoretical royalty or rent to be received? Will the income be measured as the premium price commanded by the products using the IP? Or will it be measured as some portion of the operating income of a company’s overall operations or for a specific technology or brand?Whatever the method of valuation chosen, IP can have multiple values at the same time and all those values can be correct simultaneously. That’s because, unlike real estate, IP can have vastly different values depending on who owns it and how they intend to use it.
Limitation of IP valuation is based on the estimates, assumption and judgement than on facts. Thus it lacks accuracy. Since IP valuation is a new concept and still at the stage of the development, more experience in this field will help making accurate estimates. It adds to the value of the company and helps the company make sound economic strategies. Thus IP valuation is an important concept that helps a company to get the price of which it is worth.