Using the Relief from Royalty Method to Value Trade Names

Presenters:
W. James Lloyd
Brian Burns
Using the Relief from Royalty
Method to Value Trade Names

Copyright © 2016 American Institute of CPAs (AICPA)
W. James Lloyd
Education & Credentials
• University of Tennessee
Bachelor of Science in Business
Administration
• Certified Public Accountant (CPA)
Licensed in Tennessee
• Accredited in Business Valuation (ABV)
• Accredited Senior Appraiser (ASA)
• Certified Fraud Examiner (CFE)
Experience
W. James (Jim) Lloyd is a Shareholder with PYA (Pershing Yoakley & Associates), a management consulting and accounting firm
specializing in the healthcare industry. Jim’s primary areas of expertise include valuation (entities, joint ventures, complex business
arrangements, and physician services agreements), transaction advisory, hospital-physician alignment, affiliations and alliances, and
litigation/expert testimony services.
Jim regularly assists clients with structuring business transactions and arrangements and has lead multiple projects involving trade
names and/or the “brand” value of organizations. He has broad healthcare industry experience that spans a wide range of provider
organizations such as ambulatory surgery centers, cancer centers, dialysis facilities, imaging centers, hospitals, long-term care
facilities, and physician practices. Other relevant industry experience includes managed care organizations, pharmaceutical
manufacturers, pharmacies, manufacturing, real estate, and wholesale distribution, among others. Additionally, he has substantial
litigation/expert testimony experience related to a broad range of disputes involving antitrust, diminution of value, fraud, intellectual
property, lost profits, marital dissolution, post and failed acquisition transactions, and shareholder oppression matters.
Jim has published multiple articles on valuation-related topics and is a frequent speaker at conferences and other venues across the
U.S.
Professional & Civic Organizations
• American Institute of CPAs - Past Chair, ABV Credential Committee
• American Society of Appraisers - Past Member, Board of Examiners
• Tennessee Society of CPAs – Past Member, Valuation and Litigation Services Committee
• American Health Lawyers Association – Past Member, Fair Market Value Affinity Group
• Helen Ross McNabb Foundation – Board of Directors
Shareholder, PYA (Pershing Yoakley & Associates)
865-673-0844 jlloyd@pyapc.com 2220 Sutherland Avenue | Knoxville, TN 37919

Brian Burns, CPA/ABV/CFF, ASA, MAFF
Licenses & Certifications
• Certified Public Accountant, VA (CPA)
• Accredited in Business
Valuation (ABV)
• Certified in Financial Forensics (CFF)
• Accredited Senior Appraiser in Business
Valuation (ASA)
• Master Analyst in Financial Forensics
(MAFF)
Industry/Service Focus
• Valuation Services
• Commercial Matters
• Economic damages
• Business interruption
• Family Law
• Asset/income valuation and
classification
• Fraud and Forensics Accounting
Experience
Brian leads the DHG Forensics and Valuation practices in Virginia and serves clients across the Mid‐Atlantic region. He practices in
the areas of valuation and forensic accounting, including financial investigations and litigation support and consulting services. He
has been designated as an expert witness and qualified to testify by report, deposition, and/or trial testimony in various venues in
commercial and domestic matters. Brian frequently presents to professional and trade organizations and has presented at venues
such as the AICPA's National Forensic and Valuation Services conference, state CPA society conferences, and a national webinar.
Brian has also authored articles on forensics and valuation presented in various professional publications.
Brian assists businesses and individuals with valuation services in the areas of family law, financial reporting, stock‐based
compensation, litigation and shareholder disputes, transaction consulting, tax matters, and employee stock ownership plans. The
focus areas of his forensic accounting services include consulting services in commercial and family law matters such as
shareholder disputes, breach of contract, breach of warranties, misappropriation of trade secrets, post‐acquisition disputes, tortious
interference, statutory conspiracy, business interruption claims, employee embezzlement, investment scams, and fraud.
Brian has served both public and private businesses in industries including, but not limited to: real estate, construction, healthcare,
technology, food service, auto dealerships, manufacturing, distribution, government contracting, retail, insurance, and banking.
Professional & Civic Organizations
• AICPA, Business Valuation Committee and Former Task Force Member
• American Society of Appraisers, Former Richmond Chapter President
• VSCPA, Top 5 Under 35 Award, Past Recipient
• VSCPA, Annual BVFLS Former Conference Task Force Member
• Junior Achievement Worldwide, Past volunteer and presenter
Director, Forensics & Valuation
Dixon Hughes Goodman, LLP
804.474.1240 Brian.Burns@dhgllp.com 901 E. Cary Street, Suite 1000 | Richmond, VA 23219
Education
Virginia Tech
• Bachelor of Science, Finance, Magna
Cum Laude
Virginia Commonwealth University
• Post Baccalaureate Certificate in
Accounting

Agenda
 Overview of Trade Names/Brands
 Relief from Royalty Method
 Case Study
 Collaborative Approaches

Trade Name
 Defined:
 Simple Definition: “The name of a business.”
 Legal Definition: “A name or mark that is used by a person (as an
individual proprietor or a corporation) to identify that person's
business or vocation and that may also be used as a trademark
or service mark.”
 Like a trademark or service mark, a trade name is
protected by law against infringement.
Source: http://www.merriam-webster.com/dictionary/trade%20name

“Your brand is what people say about you
when you are not in the room.”
Jeff Bezos
CEO, Amazon

Most Valuable Global Brands
Source: Interbrand™ Best Global Brands 2016

Characteristics of Valuable Trade Names
 Customer loyalty
 Revenue growth > competitors
 Profit margins > competitors
 Substantial on-going investments
 Efforts to protect

Trade Names and Consumer Perceptions
Innovation

Prestige

Family Fun

Convenience

Quality

Why Value Trade Names?
 Financial reporting
 ASC 805 and ASC 958 (purchase price allocation)
 Regulatory compliance
 e.g., Stark Law and/or Anti-Kickback Statute for applicable
transactions within healthcare industry
 Tax planning and/or compliance

Why Value Trade Names?
 Evaluate effectiveness of advertising spend
 Marketing/branding plan effective?
 Brand value increasing?
 Financial terms of license/royalty agreements
 e.g., co-branding/affiliation arrangements, etc.
 Evaluate competitive position

Relief from Royalty (RFR) Method

Valuation Approaches
Brand
Value
Income Approach
Based on the
economic benefits
anticipated to be
derived from the asset
Market Approach
Based on transaction
data involving
similar assets or
services
Cost Approach
Based on the
anticipated cost to
recreate, replace, or
replicate the asset

Valuing Brands/Trade Names
Brand
Value
Income Approach
Based on the
economic benefits
anticipated to be
Market Approach
data involving
similar assets or
services
Cost Approach
Based on the
anticipated cost to
replicate the asset
Difficult to apply -
Trade names
typically evolve over
long periods of time

Valuing Brands/Trade Names – Relief From
Royalty (RFR) Method
Brand
Value
Income Approach
Based on the
economic benefits
anticipated to be
Market Approach
data involving
similar assets or
services
Cost Approach
Based on the
anticipated cost to
replicate the asset
RFR Method
adopts a combination
of market and income
approaches

Relief from Royalty Method
 Commonly used to value intellectual property assets –
such as trade names
 Value is determined based on the theory of avoided cost
(i.e., not having to pay a license fee to use the asset)
 Key considerations:
 Appropriate royalty rate
 Revenue projections
 Discount rate

Royalty Rate
 Typically developed from market data such as license
agreements for similar assets/services
 Benchmark rates may need to be adjusted (up or down)
to fit the particular facts and circumstances
 Common royalty rate data sources include:
 RoyaltySource®
 RoyaltyStat ®
 ktMINE
 Internet/Public domain

Royalty Research – Sample Output

Royalty Rate – Examples
Institution Royalty Rate*
University of the Pacific 7.5%
University of Tennessee 10.0%
Vanderbilt University 12.0%
Louisiana State University 13.0%
Brigham Young University 14.0%
Duke University 15.0%
University of Utah 16.0%
Source: The Collegiate Licensing Company - http://www.clc.com/
* The royalty rates listed above are current standard royalty rates set by
the respective institutions for certain products, trademarks, and
programs.

Royalty Rate Selection
 Evaluate comparability
 Industry/subject business, etc.
 Nature of products/services
 Geography
 Exclusivity – exclusive arrangements may command higher rates
 Evaluate profitability
 Companies with strong trade names commonly have higher sales and
profitability as compared to competitors with less well-known brands
 Stronger and more profitable brand names commonly will command
higher royalty rates

Qualitative Analysis
 Qualitative factors to adjust benchmark royalty rates to
an appropriate level for the subject asset
 Georgia-Pacific Factors1
 Fifteen qualitative factors
 Commonly used to help develop reasonable royalty rates
 Evaluating brand/trade name strength
 Comparison to competitors
 Rankings, recognitions, awards, etc.
 Net Promotor Score to assess customer loyalty2
1. Georgia-Pacific Corp. V. United States Plywood Corp.,318 F. Supp. 1116, 1119-20 (S.D.N.Y. 1970).
2. http://www.medallia.com/net-promoter-score/.

Other Key Considerations
 Revenue projections
 Anticipated future revenue to be generated from utilizing the
subject trade name/brand
 Tax rate
 Cash flows should be adjusted to an after-tax basis
 Discount rate
 Weighted average cost of capital (WACC)
 Additional risk premium for intangible assets
 Weighted average return on assets (WARA)

Case Study - Background
 Local Hospital (LH) is being acquired by Regional Health
System (RHS) as part of its expansion plan.
 LH and RHS are both not-for-profit entities.
 Assume that we have been engaged by RHS to assist
management with its purchase price allocation in
accordance with ASC 958 (Not-for-Profits Entities) and
ASC 820 (Fair Value Measurement).

Case Study - Background
 LH has been operating under the same trade name for
20+ years and is one of only two hospitals in the area.
 LH has a strong reputation and loyal customer base
within its primary and secondary markets.
 LH’s trade name will be used by RHS post-transaction
(i.e., LH will be referred to as a subsidiary of RHS for an
indefinite period).
 LH’s trade name is considered to be a separately
identifiable intangible asset.

Case Study – Key Considerations/Steps
 Develop DCF model that approximates the purchase
price and determine internal rate of return (IRR) relevant
to the overall transaction.
 Revenue projections from the purchase price DCF
model also will be utilized in the RFR model.
 Determine economic life of trade name. This will
determine length of cash flow utilized in the RFR
analysis.

 Research market data and develop range of
benchmark royalty rates for similar trade names.
 Use qualitative analysis to adjust benchmark rates to an
appropriate level for LH’s trade name.
 Select appropriate discount rate for LH’s trade name
(risk profile, WARA, etc.).
 IRR based on purchase price and forecasted cash flows =
14%. Intangible asset risk premium of 2.0% based on
weighted average return on assets analysis (WARA).

 Apply selected royalty rate to the projected revenues.
 Adjust the projected royalty savings to an after-tax basis
using effective tax rate from DCF model.
 Compute present value of projected after-tax royalty
savings.
 Compute Tax Amortization Benefit (TAB) adjustment.

 Prepare sensitivity analysis.
 Based on range of royalty rates and discount rates.
 Utilize collaborative approaches to test reasonableness
of conclusion.

Case Study - Example using RFR Method
FYE Terminal
12/31/2015 2016 2017 2018 2019 2020 2021 2022 2023 2024 2025 Period
Total patient revenues $100,000 $102,000 $104,040 $106,121 $108,243 $110,408 $112,616 $114,869 $117,166 $119,509 $121,899 $124,337
Growth assumption 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0% 2.0%
Royalty fees, based on royalty rate of 0.50% $510 $520 $531 $541 $552 $563 $574 $586 $598 $609 $622
Less: effective income tax expense 40.00% (204) (208) (212) (216) (221) (225) (230) (234) (239) (244) (249)
After-tax royalty fees $306 $312 $318 $325 $331 $338 $345 $351 $359 $366 $373
Terminal year value $2,664
Discount period (mid-year convention) 0.50 1.50 2.50 3.50 4.50 5.50 6.50 7.50 8.50 9.50 9.50
Present value factors at discount rate of 16.00% 0.929 0.800 0.690 0.595 0.513 0.442 0.381 0.329 0.283 0.244 0.244
Present value cash flows $284 $250 $220 $193 $170 $149 $131 $115 $102 $89 $650
Sum of Present Values:
Years 1 - 10 $1,704
Terminal Period 650
Total $2,354
Tax amortization benefit ("TAB") 469$
Total value including TAB $2,823 $2,823 15.00% 16.00% 17.00%
Rounded Value $2,823 0.25% 1,534$ 1,412$ 1,308$
0.50% 3,068$ 2,823$ 2,616$
Long-term growth rate of 2.00% 0.75% 4,603$ 4,235$ 3,924$
Royalty
rate
Year Ending December 31
Sensitivity Analysis - Value Indications
Discount Rate

 Benchmark royalty rates can be like
finding a needle in a haystack.
 Limitations on ability to appropriately
compare entities.
 Small variations in selected royalty rate
can impact value significantly.
 Qualitative factors can be difficult to
assess/estimate impact.
 Corroborative methods and appraiser
judgment is key.
Additional Considerations

Valuing trade names is a bit of an art
and a science!
Total deal: $16 billion
Tradename: $448 million, or 2.8%
$160 billion deal in 2000.
Approximately $10 billion allocated to brand.
Impaired in 2003

 Enterprise value less sum of (tangible assets + other
separately identified intangible assets) – is the balance
attributable/available for the trade name and goodwill
reasonable?
 Percentage of purchase price based on SEC filings, etc.
 25% Rule of Thumb
 Assumes that a licensee would pay approximately 25% of its expected
profits generated from using the subject asset
 Widely used for over fifty years
 Determined to be fundamentally flawed by the Federal Circuit in: Uniloc
USA Inc. vs. Microsoft Corp., 632 F.3d 1292, 1315 (Fed. Cir. 2011)
Corroborative Approaches

PERSHING YOAKLEY & ASSOCIATES, P.C.
800.270.9629 | www.pyapc.com

Using the Relief from Royalty Method to Value Trade Names

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