Transcript Valuation and Accounting of Intellectual Property (IP) Assets: Importance, Methods and Challenges Guriqbal Singh Jaiya Director SMEs Division ( www.wipo.int/sme/ ) World Intellectual Property Organization (WIPO)

Valuation and Accounting of
Intellectual Property (IP) Assets:
Importance, Methods and Challenges
Guriqbal Singh Jaiya
Director
SMEs Division ( www.wipo.int/sme/ )
World Intellectual Property Organization
(WIPO)
Value of Companies
1978: Book Value (95 % tangibles)
and Market Value (5 % IP and
Other Intangibles)
1998: Book Value (28 % tangibles)
and Market Value (72 % IP and
Other Intangibles)
Intangibles Assets as % of S & P
Market Capitalization
• 1982: TA=62%; IA= 38%
• 1992: TA=38%; IA= 62%
• 2002: TA=13%; IA= 87%
Tangible Assets (TA)
Intangible Assets (IA)
Source: Brookings Institute
IP and Business Plan
• Patents Vs. Trade secrets
• Ease or difficulty in detecting patent
infringement (>hidden processes, e.g.,
petroleum, pharma) (<Products with serial
numbers, e.g., automobiles, software)
• Intensity of rivalry within the industry
• Many patents or a few multi-claim patents
• Strength of patent; blocking patents
• Patent clusters: Horizontal or vertical
Financing Options
• Grant
• Loan (Portfolio of IP)
• Equity
• Bonds
• Securitization
Source of Financing
Prudent Investors look before they commit
•
•
•
•
Family, Friends, and Fool (Idea)
Government (Grants, soft loans)
Banks/Financial Institutions
Angel Investors (Pre-venture or ‘seed
type’)
• Venture Capitalists (Proven Idea)
Motivations For IP Valuation (1)
•
•
•
•
•
•
•
Traditional Bank Financing
Angel/Venture Capital Investing
Licensing
Sale, Merger, Acquisition
Gift
Bankruptcy/Liquidation
IP Investment Holding Company
Motivations For IP Valuation (2)
•
•
•
•
•
•
•
Taxation/Transfer Pricing
Insurance
Joint Ventures
Estate Duty
Capital Markets/Securitization
Enforcement/Litigation
Off-balance sheet financing
Who Cares?
•
•
•
•
Employees
Investors
Shareholders
Investment
Bankers
• IPO Specialists
• Wall Street
analysts
• Merger & Acquisition
Interests
• Licensees, Franchisees
• Internal asset
Managers
• International affiliates
• The Media
• Other Stakeholders
Standards of Value
•
•
•
•
•
•
•
•
Fair Market Value/Market Value
Insurable Value
Fair Value
Collateral Value
Ad Valorem Value
Acquisition Value
Use Value
Investment Value
Valuation
• Of a Company
• Of its IP Assets
• Due Diligence (Evaluate,
Valuation)
• Accounting of Intangibles
(Balance sheet)
Valuation Steps
A. Data Collection and
Analysis (Due Diligence)
B. Valuation Methods
C. Economic Life Analysis
D. Value Conclusion
E. Reporting
Due Diligence
• Expensive: To be
amortized over the life
o the loan as a higher
rate of interest
Grants
• Government Schemes
(e.g., Singapore, Canada)
• University
• Municipal/Local Bodies
• Foundations
Loans
Acceptable Collateral should be:
• Readily Identifiable
• Durable
• Marketable
• Value reasonable ascertainable
• Securable
Collateral: Priority in Interest
• ‘Perfecting’ a security Interest; due
diligence
• Recording requirement: IP register
• IP as ‘hostage’ for good behavior (‘Moral
Hazard’)
• Contingency Plan for repossessed
collateral (‘Market for Lemons’:
Information asymmetry)
IP Valuation Methods
• Market Approach
• Cost Approach
• Income Approach
• Judicial Approach
Market Approach
• Expected sale price at a specific
time, in a particular market,
based on comparable arm’s
length market transactions
• Extensive knowledge of
comparable data required
Cost Approach
• Economic principle of
substitution
• Reproduction cost (Exact
replica)
• Replacement cost (Different
form or appearance)
Cost Approach
COMPONENTS
•
•
•
•
Materials
Labor
Overheads
Intangible Asset Developer’s
profit/reward
• Entrepreneurial Incentive
Cost Approach
OBSOLESCENCE:
• Physical
• Functional
• Technological
• Economic
Income Approach
Present Value of Future Income Stream
• Future Income Stream (Economic Income)
• Duration (Life: Legal, contractual,
judicial, physical, technological,
functional, analytical, economic)
• Risk (Uncertainty of receiving expected
income; interest rates and investment
climate)
Methods to Determine Income Stream
•
•
•
•
•
Residual Earnings Approach
Excess Earnings Approach
Loss of Income Approach
Relief From Royalty Approach
Stock Options (BlackScholes/Merton Approach)
Residual Earnings Approach
• Business Unit Scale
• Technology Scale
• Product Scale
• Trademark or Patent
Scale
Residual Earnings Approach Methods
•
•
•
•
•
Monte Carlo
Knowledge Capital Score Card
Tech Factor Method
Crystal Ball
Technology Risk and Reward Unit
Metrics
• Technology Review Patent Scorecard
• @Risk
Judicial Approach
• Hypothetical Negotiation
Between Willing Seller
and Buyer
• Georgia Pacific Factors
(15)
Georgia Pacific Factors (Patent)
1. Commercial success, current popularity, and
profitability of Patented Product (PP);
2. Advantages of PP over old products;
3. Nature of patented invention, character of
products embodying invention, benefits to those
using the invention;
4. Likely profit margin on PP;
5. Portion of profit credited to patented
invention;
Georgia Pacific Factors (Patent)
6. Benefit to non-patented items by sale of PP;
7. Duration and other terms and conditions of
patent license;
8. Extent to which infringer has made use of
the patented invention;
9. Prior and existing licenses under the patent;
10. Terms for licensing other technologies by
licensee;
Georgia Pacific Factors (Patent)
11. Patent owner’s licensing and marketing
policy;
12. Commercial relationship between the
licensor and licensee;
13. Nature and scope of license: territories, field
of use, exclusivity, etc;
14. Industry specific practices for comparable
patents (established royalty agreements);
and
15. Opinion of Experts
Trademark/Brand-related Bundle
•
•
•
•
•
•
Logo and Logotype
Sub-brands
Domain Names
Trade dress
related Copyrights
Secondary
trademarks
• Advertising Concepts
• Graphics
• Labeling and
Packaging design
• Product shapes
• Web-based assets
Attributes Affecting TM Value 1
•
•
•
•
•
•
•
•
Age
Use
Potential for Expansion
Potential for Exploitation
Associations
Connotations
Timeliness
Quality
Attributes Affecting TM Value 2
•
•
•
•
•
•
Profitability
Expenses of promoting
Means of promoting
Market share
Market potential
Name recognition
Accounting of IP
Copyright/Related Rights
Industrial Design
protects literary and artistic
protects
works; performers, phonograms, appearance of products,
broadcasters; software
packaging
Patents
protect
inventions (products,
processes)
Mark/
Geographical Indications
protects distinctive words, logo,
names, slogans, symbols
Trade Secrets
protect business plans,
know how,
client portfolio,
tacit knowledge,
processes
Protection against Unfair Competition
Only IP that
generates
direct cash flows
in a commercial
transaction
is considered
As an intangible asset, IP is...
Context sensitive
Transferable
Background of users &
context determine relevance
of IP to business
IP is transferable to a new
or similar business context
Perishable
Over time IP may
become outdated,
e.g. technology cycles
Risky
Successful IP creation requires
creativity and inventive
abilities; commercialization
Nature
of IP
NonRivalrous in
Consumption
IP can be used
simultaneously
by different people
without diminishing
in its worth
Useful for Excluding
IP guarantees right to exclude others
and ‘freedom to operate’ in the market
… which accountants finds difficult to grasp
Rationale behind Accounting
• Historically evolved to report
tangible assets/liabilities
• Quantitative stock of performance
• Documentation of past financial
position
• Factual, precise, objective,
comparable information
• Determines perception of a firm’s
management and other
market participants
Impact on Type of Language
developed for IP
• Silence about a lot of a
firm’s IP due to
inherent definitions
and assumptions in
accounting
• Internally and externally
generated IP is treated
differently
• Goodwill
Accountants recognize the challenge...
• FASB & SEC recommend Voluntary IP Reports
“Companies are encouraged to continue improving their
business reporting & to experiment with types of information
disclosed & the manner by which it is disclosed.”
• US GAAP allows to account IP explicitly in M&A
FAS 141 & 142 require to identify each single asset
& determine its fair value
The amortization of Goodwill is replaced by an annual impairment tests
• Basel Committee on Banking Supervision recognizes
the inadequacy of “fair value” for financial assets
“In the absence of active markets it will be difficult to obtain
or calculate a reliable fair value for certain
non-marketable financial instruments held at cost.”
Explicit IP Accounting Gains Momentum
— Comparison of different Accounting Standards —
German HGB
IAS/IFRS
US-GAAP
Recognition
of IP
• Forbidden: § 248/2
HGB
• Exception: acquired
IP
• Recognition of IP if
IAS criteria are met:
IAS 38
• Recognition of IP:
Novel approach under
FAS 141 &142
Acquired IP
• Recognition of
acquired IP:
§ 255/4 HGB
• Recognition of
acquired IP if IAS
criteria are met:
IAS 38
• Purchase Price
distributed across all
items: FAS 141
• Impairment Test of
Goodwill: FAS 142
• Immediately expensed
• Immediately expensed
• Immediately expensed
Internally
Generated
IP
Trend towards the explicit recognition of IP increases
Advantages of Reporting IP
M
A
N
A
G
E
R
S
• Communicates the value of IP to investors
• Shows what IP the company owns
• Puts a value to the IP
• Explains how the IP relates to business segments
• Get information on how IP drives growth
• Receive adequate inputs for earnings/sales forecasts
• Can better estimate risks/revenues of an investment
• Can better understand the nature of a business
• Increases predictability while decreasing volatility
I
N
V
E
S
T
O
R
S
The IP Reporting Process
Build IP
Business
Culture
•Align IP
portfolio
to overall
business
strategy
•Explain
to all in
the firm
why IP
matters
Create IP
ownership
Create
IP
Ownership
Understand
IP
Ownership
Report
IP
Generate
Superior
Results
•Ensure market •IP Audit
• Use
position
a reporting
through IP
•Set ownership system for
ownership
in correlation
demonstrating
to expected
the value of IP
•Establish an
results
in business
enabling IP
policy and
• Understand
environment
legal and
business scope
of IP assets
$$$
or
¥¥¥
or
£££
Elements of an IP Report
• Executive Summary
How does IP relate to the bottom line of your business?
How do you make money and what role does the IP play in it?
• Relate your income streams to IP
What were the returns from IP protected business segments?
Does the IP help you to gain market share and/or improve profitability?
• Relate IP to your position in the Market
How did IP give you an advantage over your competitors?
Do you have “freedom to operate” & exclusivity in the market place?
• Demonstrate your managerial skills
How determined are you to extract revenue from IP?
What experience do you have in managing IP?
• Understand the legal scope of the IP rights
What level of protection does your IP guarantee you?
What is the risk that you infringe the IP of others and/or that others (legally)
free-ride/steal your IP?
The Key Message
!
Till there is an
adequate accounting
standard for IP, SMEs
are best advised to
develop a voluntary IP
report to enhance their
position in the market,
facilitates access to
funding & improves its
overall management