Transcript Valuation of Intellectual Property Assets Professor Derek Bosworth Intellectual Property Research Institute of Australia Melbourne University.

Valuation of Intellectual
Property Assets
Professor Derek Bosworth
Intellectual Property Research Institute
of Australia
Melbourne University
Coverage of the presentation
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IP as a component of IC
Nature of the management problem
The Diageo problem
Nature of the accounting problem
Accounting issues surrounding intangibles
Accounting methods for intangible assets
Options pricing and optimal stopping
[Other strategic issues]
Not covered in the presentation
• Economic approaches to valuation
Production function and market valuation –
dealt with in a previous presentation
Patent valuation analysis – using renewal
data
• Methods of valuing product characteristics
Conjoint analysis (marketing)
Hedonic analysis (economics)
IP as a component of IC
Intellectual
Capital
Human
Capital
“Technological”
Skills and
Competencies
Relational
Capital
“Sociological”
Skills and
Capital
Organisational
Capital
Intellectual
Property
Infrastructure
Capital
Organisational (structural) capital:
examples of IP/IPRs
• patents
• copyrights
• design rights
• trade secrets
• trade marks
• service marks
• trade dress
• utility models
• plant & seed varieties
Nature of the management problem
Why Value Intellectual Capital
• Measurement of IC - enables a more efficient
management of the company - i.e. to:
understand where value lies in the company
have a metric for assessing success and growth
provide a basis for raising finance or loans
• If borrowing can only be secured against
tangible assets, then knowledge-based
companies will be disadvantaged in
investment and growth.
The Diageo problem
Diageo: the company
• Grand Metropolitan - formed as a hotel
company in 1962
• by mid-1980s strengths in variety of
branded products
• became known as Diageo in 1997, on
merger with Guiness
Previous accounting practice
• GrandMet – often bought and sold brands
• Acquired Heublein from Nabisco in 1987
• Paid £800 million, of which over £500 million
was for the Heublein brands (i.e. intangibles)
• Given the accounting procedures at the time,
GrandMet published its next set of accounts in
January 1988
the Heublin brands were not valued
£565 million of the £800 million paid for the company
was written off as goodwill against reserves
as a result, the balance sheet net assets fell, giving
the impression than £565 million had been wasted
Changed accounting practices
• Subsequently GrandMet introduced brand
capitalisation
• after acquiring Pilsbury in 1989, the balance
sheet showed the importance of brands
brands
other assets
liabilities (mainly debt)
net assets
£2.7 billion
£6.9 billion
(£6.7 billion)
£2.9 billion
• Without brand capitalisation the balance sheet
would have shown net assets of only £0.2 billion
• Corbett (1997) argues that this would have been
an absurd situation
Further example of brand aquisition
• GrandMet acquired Pet in 1995 at a cost
of £1.8 billion
• Again, the acquisition affected GrandMet's
balance sheet
brands
other assets
liabilities
net assets
£3.8 billion
£7.3 billion
( 7.7 billion)
£3.4 billion
Accounting issues surrounding
intangibles
Accounting concerns
• Is the intangible asset clearly identifiable
• Does the company hold an unambiguous
title to the asset
• Could the intangible asset be sold
separately from the business
• Does the intangible give rise to a “premium”
not earned by other companies?
Tangibility and uncertainty
Replicated
plant and
equipment
Product
modification
New
factory
Most certain
Innovation
Staff
training
Research and
development
Most uncertain
Source: Webster
Tangibility and Separability:
the Spectrum of Assets
Separable
Wholly tangible (i.e.
machine tool)
Not separable
Highly intangible
(i.e. goodwill)
Source: Wild and Secluna
Accounting methods for intangible
assets
Accounting approaches to valuation
• Cost based valuation
historical creation cost - how much did it cost to create?
current recreation cost - how much would it cost to
recreate an identical intangible?
• Market based valuation - evidence from sale or
purchase of similar assets (i.e. individual brands,
branded divisions or whole companies)
• Income based valuation looks at the stream of
income attributable to the intangible asset, based
on:
historical earnings (i.e. multiple of earnings)
expected future earnings (i.e. discounted cash flow)
External influences on IC
measurement and disclosure
• Writing off expenditures on intangibles
against profits or reserves seems wrong
• Thus, there is considerable pressure on
accounting bodies devise new accounting
codes of practice (SSAPs/GAAPs)
• Examples:
SSAP 13, 1989 - covers the treatment of R&D
expenditure
Draft SSAP 22, “Accounting for Goodwill”
IC audits
Towards an IC audit
• Various authors suggest an IP audit – see
e.g. Brooking 1997
• Each company produces a taxonomy and
set of checklists similar to Slide 3 above
• Weights are applied to each item on the
checklist – reflecting importance in
achieving company goals
• Large “dots” reflect very important and
small less important
• Position within the target reflects the
perceived strengths (close to “bull”) and
weaknesses (far from “bull”) of each asset.
Brooking’s “target”
Conclusions on IC audits
• Majority of the 8 large dots (more) and 22 small
dots (less important), in IP quadrant
• Brooking argues
target is consistent with an IP dominant company
(40% of listed assets are IP assets)
if the company is not intended to be IP dominant, then
“severe changes are required”
66% of the IP assets are below average in value,
including the significant ones
• Tracking likely changes over time, she argues
“The IC of this company looks like its in pretty bad
shape and likely to get worse.”
Options valuation and optimal
stopping techniques
Options values
• Options pricing methods are potentially the
way forward
• Only method that really deals with risk
• Applicable to every stage of creative process:
investment in R&D
decision to patent, etc.
decision to commercialise the invention
• But:
Need information about wide range variables
Inventive process is a multi-stage decision – which
makes the calculation very complex
Underlying principle
• Black-Scholes→Merton→Dixit & Pindyck
• equations that allow for changes in the
degree of risk over time
• in the D&P model
the benefits of waiting one more period
minus costs of waiting
= value of the option
• often called optimal waiting models
Value of a real option
The value of real option is determined by:
• present value of project cash flows (+)
• investment cost of project (-)
• time remaining to invest in the project (+)
• standard deviation of the project value (+)
• risk free interest rate (+)
Pitkethly (2002)
Optimal stopping rules
• Use the distribution of possible returns to
decide:
how much to do
how long to go on doing it
• Uses the distribution to calculate a
“reservation return” R* which indicates:
whether to do any R&D
whether to accept a given result, R, and
exploit, R>R*
or carry on doing research