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Intellecual Property Valuation

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  • 1. IP Valuation September, 2011 CONSOR Intellectual Asset Management © CONSOR 20111
  • 2. Why IP Valuation? Beyond specialized IP law practices, business, commercial, tax and estate practitioners Increasingly involved in identifying, protecting, applying, and defending intangible assets owned by clients. Context Purpose • Value to whom? • Buy, sell or transfer • How much value? • Disputed ownership • How and when does value • Improve performance change? • Collateralization © CONSOR 20112
  • 3. What is IP? Intellectual Property vs. Intangible Assets Bundles of IP and IA Assets © CONSOR 20113
  • 4. Context: Property Types Intangible Assets Intellectual Properties Customer & Vendor Patents Trademarks Data Bases Relationships Trade Internet Proprietary Copyrights Secrets Assets Systems IA vs. IP: Commercialized Separate from Other Assets © CONSOR 20114
  • 5. IP Property Types Bundles of Intangible Assets (IA), each contains Intellectual Properties (IP) Marketing Relationship (Customer / Supplier) Marks, brands, names, domains Customer / Supplier relationships Trade-dress, packaging, logos Distribution networks Non-competes, key-person Order backlog Technology Contract Technologies, know-how, License / royalty, lease, systems, methods franchise Patents, software, recipes, Permits, use rights, broadcast content, databases rights © CONSOR 20115
  • 6. Valuation Methodologies Cost Income Market Economic principal of Present value of future Value based on price of substitution economic benefit similar assetsDescription Measures expense Requires projections Requires suitable required to replace and a risk assessment comparable assets Neglects future benefit Requires allocation of benefit specific to the asset Replication / DCF ComparableApplication replacement feasible transactions Relief from Royalty Benchmarking Benchmarking Valuation as Art and Science © CONSOR 20116
  • 7. Valuation Tools of the Trade The “Science” of Valuation Discounted Cash Flow Models Comparable Valuation Ratios Replacement Cost Relief from Royalty Allocation / Excess Earnings Option Models Proprietary Approaches © CONSOR 20117
  • 8. Changing Valuation Terminology Level of Value Value Definitions Fair Market Value Fair Value MVIC Strategic Value MVE = Assets + Liquidation Value Liabilities = Equity Ownership Minority Interests Who’s Setting Standards? AICPA, ASA, ISO, NACVA, IRS, Courts, FASB, LESI, and more Defining the Assignment to Avoid “Bad Art” © CONSOR 20118
  • 9. Case: Improper Use of a Character Background • Defendants used a character to promote products outside of the permitted terms of agreement with IP owner • Financial data from the defendants unavailable • Multiple methodologies applied • Income approach calculation yields different value than market and cost approaches © CONSOR 20119
  • 10. Case: Improper Use of a CharacterMethodology Approach Results ($millions)Defendants AnnualAdvertising Budget Cost 875 925Comparable Endorsements Market 50 90Comparable SponsorshipFees Market 25 85Reasonable Royalty Income 1,100 1,200 Case Take-away: Context is Key © CONSOR 201110
  • 11. A more complex case showing the importance of Context, and the importance of identifying IP © CONSOR 201111
  • 12. Case: Identifying IP• Client assists municipal agencies issue bonds for public interest projects (a Public Private Partnership)• Client has achieved substantial profits for several years• Key competitor is a state-run agency• State accuses client of gouging the parties it serves• Has Client developed IP that justifies the excess profits? © CONSOR 201112
  • 13. Case: Identifying IP Can see its there . . . Net Revenue 20,000,000 Comps Average Subject Earnings Margin 10% 25% Operating Income 2,000,000 5,000,000 Market Earnings Multiple Comp. pub lic 6.0x 6.0x financial companies Implied MVIC 12,000,000 30,000,000 Value of Tangible Assets Book value per (500,000) (500,000) Balance Sheet Value of Goodwill 11,500,000 29,500,000 Subjects Excess Earnings 3,000,000 Subjects Proprietary Intangible Assets 18,000,000 © CONSOR 201113
  • 14. Case: Identifying IP• We can see IP exists . . .• What are the key types of IP Assets? IA at the CLIENT Proprietary systems (some could be commercialized) Proprietary methods Relationships / key people (can’t be commercialized) History / Longevity / 1st to Market (can’t be commercialized) Case Take-away: Both IP and IA Contribute to Value © CONSOR 201114
  • 15. Value Constraints Brand / Trade Names Value of Business Intangible Intellectual Present Value of Assets Properties Expected Future = Benefit = = Intangible Assets Tangible Assets Tangible AssetsCould a company’s IP assets exceed the market value of the business? • Context: Fair Market Value (transaction did occur) • Context Implication: Value driven by expected future benefits © CONSOR 201115
  • 16. Case: Impact of ContextCould a company’s IP assets exceed the market value of the business?• Frequent Context for IP Valuation: Purchase Price Allocation (FAS 141/142)• Purchase Price Creates Goodwill• What Portion of the Acquired Goodwill should be allocated to IP?• What are the components of the IP Allocation? Sources of Funds Use of Funds Allocation Cash 50 Buy Equity 400 A/R 25 Stock 275 Repay Debt 100 Inventory 50 New Debt 200 Costs 25 PP&E 100 Goodwill 350 Total 525 Total 525 Total 525 © CONSOR 201116
  • 17. Can Value of IP > MVIC? Allocation Goodwill AcquiredContext Drives the Science A/R 25 Brands 150• Value of IP cannot Inventory 50 Patents 65 exceed MVIC in a PP&E 100 Databases 115 purchase price Goodwill 350 Other IA 20 allocation Total 525 Total 350• Value of each IP = PV of future benefit each IP Tools / Science provides to Company’s • Forecast cash flows by product cash flow • Quantify the interaction of IP Assets and their contribution to earnings Case Take-away: Context is key / Context Can Be Forced on the Value Analyst © CONSOR 201117
  • 18. What if the Context Changes? What if we don’t have a completed transaction between a wiling buyer and a willing seller? Frequent Contexts • Infringement Damages • Licensing / Endorsement Damage Calculations: require application of traditional valuation methodologies to determine value of economic benefits lost, or not achieved (often when an arm’s length transaction would never have occurred) Licensing: requires both parties understand and estimate the present value of future economic commitments (without the benefit of an existing arms-length transaction) © CONSOR 201118
  • 19. What if the Context Changes? What if we don’t have a completed transaction between a wiling buyer and a willing seller? IP Valuation Methodologies All these approaches • Comparable Transactions construct a • Relief from Royalty hypothetical • Discount Future Benefit agreement between IP • Replacement Cost Owner and IP User Crafting the Hypothetical Agreement Requires Art and Science © CONSOR 201119
  • 20. Hypothetical AgreementsNo More Rules of Thumb Replacing Rules of Thumb• Uniloc USA v. Microsoft Corp: • Licensing agreement = applicable specifically to IP analysis contractual financial agreement• End of the 25% rule = “End of the unsupported conclusion” • Commitments can and do take many forms• Averages & Surveys as the lemming’s rule of thumb • Hypothetical agreements must reflect their real-• If it’s a universal norm, it can’t world counterparts meet the criteria for comparables This Shouldn’t be Shocking © CONSOR 201120
  • 21. Reflecting Real-world Complexity? A Typical Relief From Royalty Calculation Annual Sales of Brand X $ 100,000 Industry Average Royalty Rate 8.0% Estimated Annual Royalty Income 8,000 Term (years) 10 Annual Discount Rate 15.0% Total Value / Damages $ 40,150Did Consider . . . Assumed . . .• Forecast benefit (sales, term) • Constant sales• Industry dynamics (rate) • Industry average royalty rate• Risk assessment • No changes during term © CONSOR 201121
  • 22. Case: Alternative Royalty Rate Analyses• Value of trademark and related brand assets to a partner business?• Method Applied: PV of license-derived economic benefits• Subject IP did not resemble comparable IP transactions• Parties had a standing relationship Ranges observed in Comparable Transactions © CONSOR 201122
  • 23. Case: Alternative Royalty Rate AnalysesRoyalty Rate Build-up Method: BVEq BVEQ= CBV + (IVE1 + IVE2 + …. + IVEN) Brand Value Components Range (%) CBV Core Brand Value 1.0 2.0 IVE 1 Sub-brands 0.0 0.0 IVE 2 Global Brand Marketing 0.1 0.1 IVE 3 Incremental Sales for Licensee 0.1 0.1 IVE 4 New Product Development 0.2 0.3 IVE 5 Other Brand Assets 0.1 0.3 Total 1.5 2.8 Surveys and Comparable Transactions are not The Only Tools Available © CONSOR 201123
  • 24. Case: Reflecting Reality Period 0 1 2 3 4 5 Licensee Sales 1,024 1,229 1,290 1,322 1,356 Annual Royalty Rate 8.0% 5.0% 5.0% 3.0% 3.0% Licensee Benefits Up-front Payment (50) Additional Margin 52 179 205 210 215 Annual Fee (5) (5) (5) (5) (5) % of Sales Royalty (82) (61) (65) (40) (41) Total Benefits (50) (35) 112 135 165 169 Present Value @ 16% (50) (30) 83 86 91 81 Value of IP to Licensee 261 Licensor Benefits Up-front Payment 50 Promotions Commitment (10) (10) (5) Annual Fee 5 5 5 5 5 % of Sales Royalty 82 61 65 40 41 Total Benefits 50 77 56 65 45 46 Present Value @ 13% 50 68 44 45 27 25 Value of IP to Licensor 259 Take-away: “Hypothetical Negotiation” Drives Greater Analytical Burden © CONSOR 201124
  • 25. When Valuation Issues Arise? Question Answers Why is valuation needed? Transaction, Infringement, Financial Reporting, Tax/Transfer, etc. What level of value? MVIC, MVE, Minority Interest Who will use the value result? Accountants, IRS, Potential partners or investors, Management, other What information is available? Audited financials, business plans, industry studies, etc. What types of assets exist? Tangibles, know-how, brands, patents, designs, relationships, etc. © CONSOR 201125
  • 26. The Valuation Answer Reconcile results from multiple approaches Reconcile the calculations to the context Context + Time = Value There Are No Valuation Answers: Only Good Choices © CONSOR 201126
  • 27. Handouts Law 360 on Rules of Thumb Considerations for Hypothetical Negotiations 20 Licensing Structure Alternatives Criteria for Comparable Transactions © CONSOR 201127
  • 28. Discussion © CONSOR 201128
  • 29. CONSOR’s Services www.consor.com 858 454 9091 IP Valuation IP Litigation Support • Valuing patents, trademarks, copyrights, trade • Assisting attorneys with damage calculation secrets, celebrity rights, and technology parameters & case strategy • Helping businesses understand the value of • Proven success as expert witnesses their IP • Economic damages in litigation • Valuation for transactions, tax purposes, • Federal, state & international experience litigation, licensing deals, and more • Arbitration, and mediation Licensing Consulting IP Transactions • Assisting clients in maximizing the licensing • Maximize the value of bankrupt assets value of their IP assets • Identify valuable IP in bankruptcy • Develop licensing strategies, execute, negotiate • Market and sale of bankrupt IP assets license agreements • Value and dispose of intellectual property • Licensing experts in litigation • Evaluate financial and economic commitments of a potential transaction © CONSOR 201129