Intellectual Property (IP) Valuation: An Overview

Ascribing a value to IP makes a business more attractive to potential investors and buyers. A business will benefit by, inter alia, determining a better idea of the overall value of the business itself, providing a tool to measure and manage the assets, provide security and backing for lenders, provide taxation benefits and at the same time reduces proportion of business’ net worth attributed to goodwill.

Value assessment is not an accounting operation but rather an attempt to reconcile information pertaining to a given IP. Such as costs incurred, expectation of income, comparative advantages and market data, for the purpose of making better strategic decisions. The valuation process can take into consideration the impact of IP not only on projects and products but also on the company’s operation and on its competitive position as a whole.

Factors influencing value of IP:

a) Ownership: this relates to the extent to which a company would be able to protect its IP. It therefore follows that the position of registered owner is more superior than that of a licensee or an unregistered user.

b) Income: the capacity of an IP to generate income. Though past income is relevant, the intrinsic value of an IP is based on its ability to generate future income.

c) Remaining validity period: the period into the future in which the IP is valid is important. For instance, the duration of registration, whether the IP registration can be renewed.

d) Business environment: if the economic environment is recognitive of IP value, then the value will be higher. If the legal and protection of IP regime is conducive, it will translate to high IP, and vice versa.

e) Concomitant IP: whether or not there is another class of IP related to the IP in question has relevance to the value. For example, a trade mark would have more value where the proprietor also owns the patent for the manufacturer of the goods sold under the trade mark.

Approaches to IP Valuation:

There are a number of different ways in which IP assets can be valued, including:

– Relief from royalty.
– Excess profits or notional maximum royalty payable
– Capitalisation of earnings
– Net present value of increment cash flows
– Gross profit differential
– Premium sales price
– Comparable market transactions
– Cost-based
– Brand strength
– Real options

Behind the varied ways of IP valuation techniques listed above, lies three main approaches:

1) the cost approach: this is the cost to create or recreate the asset. This looks at what was spent on developing the IP and what another company might spend if they were to invent it from scratch.

2) the market approach: this is the sales of comparable IP where a “somewhat” similar deal could be used for the purposes of comparison.

3) the income approach: this is based on the future economic benefits produced by the IP. This looks at the projected incremental profits or cost-savings from using the IP.

While any one of the three valuation approaches can be used to provide a reliable value estimate, it is generally advisable to compare the result obtained by two methods for the purpose of challenging the results.

A diligent valuer should base his/her opinion on the value provided by what appears as the more reliable methodology, to the extent of discounting the value by a factor reflecting the qualitative and quantitative contribution of the second best value.

Valuation is not a science, but an external judgment based on heterogeneous information pertaining to the IP, product and business project. The exercise can benefit dramatically, however, by the input of sound data and the scientific methodologies.

There is currently no Kenyan Accounting Standard that comprehensively addresses the accounting treatment of IP in Kenya.

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