Techniques for valuing intellectual property continue to develop, especially as access to information becomes easier and more efficient. The practice of valuing intellectual property has only been around for the past few decades, during which time the practice itself has grown and refined.
Valuation is necessary in a number of context-specific situations, including:
- In a sale, merger, joint venture or similar commercial transaction;
Valuation analysts and IP professionals agree there are three standard methodologies to value IP:
- Cost Approach: The historical cost to develop an asset is sometimes used to determine its value. However, the cost to develop an intellectual asset is rarely representative of its ultimate value. This approach is less useful for intellectual properties used with products that have reached the market and generated revenues. Generally, the cost approach is better suited to analysis of intellectual properties and products that have not yet been developed commercially, or that could be re-created quickly, as it reflects the cost a company could avoid by purchasing, rather than duplicating, a similar development effort.
- Income Approach: The income approach calculates the present value of future income streams specifically attributable to the intellectual property asset. This method utilizes forecasted financial results based on factors such as historical financial results, industry trends, and the competitive environment.
- Market Approach: The market approach values intellectual properties by comparing the subject asset to publicly available transactions involving similar assets with similar uses. This provides a reasonable indication of value if an active market exists that can provide examples of recent arm’s-length transactions, with adequate information regarding terms and conditions.
- Relief from Royalty Approach: In the relief from royalty approach, a hypothetical situation is created to estimate what a business would pay to license its own intellectual property assets in an arm’s-length transaction. The value is then calculated as the present value of the avoided hypothetical royalty charges.
The decision of which approach to use is generally based on four factors: (i) how unique is the asset; (ii) how much data is available and verifiable; (iii) what is the context, purpose or objective of the analysis; and (iv) the judgment of the analyst which (one would hope) is based on extensive earlier experience.