Changing accounting standards are driving the change, says Robert Sharp
VALUING intellectual property (IP) and intangible assets is typically less common than valuing companies and tangible property. Nonetheless, we are seeing an increasing awareness of the importance of IP valuation, with more than 80 per cent of a company’s value now typically made up of IP and intangibles.
This increase in awareness has partly been driven by developments in accounting standards. The UK now follows international and US accounting standards, requiring the valuation of intangible assets following a business acquisition or combination. Five categories of intangible assets must be identified and valued during a transaction, including technology/patents, brands, domain names and trade marks, and copyrights and design rights. Other intangible assets such as customer databases and contracts also require valuation.
Another driver is the restructuring of IP portfolios – transferring the ownership of IP rights to IP holding companies for licensing, to franchisees or to group companies. This has tax consequences and gives rise to transfer pricing issues. Professionals need to establish both the appropriate transfer price (or licensing royalty) and the value of the IP being transferred.
Arguably, businesses should be valuing IP before an acquisition and not just afterwards. We will probably see this change, however, as fairness opinions – which assess the financial terms or consideration for a proposed transaction, and which have IP valuations as a key part – become more common. IP valuations will be crucial to management when justifying the price paid and the terms agreed in any transaction, making them an integral part of the due diligence process.
IP valuation is a data-driven process requiring specialist knowledge and expertise. Deep knowledge of the IP portfolio and its status is required, together with detailed analysis of the financial consequences of IP ownership: establishing what revenues are derived from IP ownership, both now and in future, what costs are saved, and what role the IP plays. Also key to IP valuation is identification of the net cashflow derived from IP ownership, which usually means establishing royalty rates applied to the licencing of IP, even if only theoretical. Access to databases of comparable royalties agreed in transactions undertaken by similar companies is essential.
The arrival of quality patent analytics and software solutions have helped improve IP due diligence and increase data available to its valuers. More data is being provided by companies like Markables, which extract information from public account filings. This provides a growing bank of information on what purchasers are paying for and how prices are allocated across intangible asset categories. As data availability increases, valuers will be able to compare their client valuations with brands with similar businesses.
Focusing on brand valuation, Markables has carried out similar comparison exercises between its data and information published in brand ranking tables by leading commercial brand consultants – and concluded that the brand valuations do not match up.
Perhaps this is not surprising, considering such accounting valuations are carried out with full access to a company’s data and financial information, and are subject to audit, while ranking tables are not.
• Robert Sharp is managing partner of Valuation Consulting LLP