Patent valuation and financial activation
In the last decades many theoretical methods have been developed for the evaluation of patents, like
Model of Hoffman/Barney
Portfolio model of Hofinger
Cost based Model
Income Approach or Discounted cash flow method
Incremental Cash Flow method
License Analogy Method
Real options method
Furthermore proprietary systems for the evaluation of patents have been developed, which combine different methods.
In this section only the cost-, market- and income approach will be discussed.
Regarding the cost-approach the patents’ value is equal to the costs for the patent-related R&D costs. This fundamental idea is the core element of all cost-approaches. There are several variations of cost-approaches like discounting the amount of costs by using e.g. the rate of inflation or taking a look at the replacement costs.
Disadvantages: A cost-approach is especially useful for operation management and controlling. It’s not as useful for financial transactions, because the costs are too high, so that the patents’ value is overestimated or the amount of cost is too low, so that the patents’ value is underestimated.
1. Replacement Costs
The Replacement Costs (Replacement Values) are the costs which were needed to replace an asset at the moment. This includes the development costs, but excludes the costs of failed prototypes.
2. Recreation Costs
The Recreation Costs are the amount of money which would be needed at the moment, to develop the patent in exactly the same way and the same final state as it currently exists. This includes costs of any prototypes.
3. Historical Costs
The Historical Costs are the real costs of development of the Intellectual Property, at the time it has been developed. For an accurate analysis there have to be included the inflation and the changes of technology.
In the economic society it is well known that a market-value is always the most reliable and robust value for every kind of asset. It shows what the buyer is willing to pay for the asset and what the seller wants to receive at the same time. So the general idea is to find a similar patent that has already been priced and traded. The actual value/price is differentiated out of historical transactions. But with this approach there are two major problems: First it is not that easy to gather data of patents which are already priced and traded. Second every Patent is unique and only a few are at least a little similar.
In order to solve the first problem IPB has gathered numerous data of patents that are already priced and traded e.g. from expired license-agreements, remunerations of employees’ inventions, patent sales (e.g. out of liquidations), etc. With this number of data the IPB-specialists located value-indicators hidden in nearly every patent-document. With the help of regression analysis significant correlations between indicators and values were identified. Today these parameters are fed into a multivariate-regression-model in which each parameter is supplemented with a ‘personal’ beta-indicator. The beta measures the impact of each parameter on the patent-value.
IPB’s valuation result is not a single-price-calculation. It is a value-distribution which shows the probability of realization on the y-axis and the respective value-interval on the x-axis.
One of the advantages of this valuation-method is that IPB is able to collect at least 95% of the relevant data out of public data-bases. So IPB is able to valuate any patent-portfolio without involving the owner. The advantage of objectivity is not only interesting in order to convince any investor or bank but also to collect information.
Another advantage is the value-distribution which shows the investor his whole chance-risk-profile and which puts banks in the position that they are able to calculate the value-at-risk which is essential for the credit-calculation.
A disadvantage is that most of the patents are not bought to its real value, therefore we don’t have an objective sales price.
Regarding the income-approach the patent’s value is equal to the amount of the future revenues the patent-holder is going to earn by using his patent. By discounting these patent-related revenues on the valuation date the present value can be calculated. The resulting present value is considered as the patent’s value.
The use of the income-approach has two challenges: First the need to have a large database for a reliable outlook on the future revenues for the patent’s lifetime. The second major problem is that there is a need to know exactly which part of the product’s revenue is related to the monopoly right of a specific patent. In some industries like the pharmaceutical sector this might be easy: There is one active ingredient of a product having one certain market protected by one patent. But when it comes to automotive industries things look pretty different: To find a “one-to-one”-relationship between a patent, a product and a certain value in most cases is impossible.
The need for reliable data makes an income-approach-patent-valuation in most cases quite expensive and -depending on the data’s source- subjective. Therefore the income-approach is not that useful for financial transactions especially the valuation of collaterals. But e.g. for equity investors who are interested in their (future) return on investment (ROI) an income-approach might deliver the information needed and therefore the “right” value.
Activation of IPR in the balance sheet
Intangible asset in the context of accounting is defined as: an identifiable nonmonetary asset without physical substance (IAS 38.8), computer software, patents, copyrights, customer lists, licenses, trademarks and goodwill are all considered as intangible assets. Intangible assets meeting the relevant recognition criteria are initially measured at cost, subsequently measured at cost or using the revaluation model, and amortized on a systematic basis over their lifespan (unless the asset has an infinite lifespan, in which case it is not amortized).
Based on the IFRS Standard (International Financial Reporting Standards) the immaterial assets can only be activated if a direct value can be determined. IAS 38 describes clearly that research expenses cannot be activated in opposite to the development costs. The cost approach for intellectual property rights can be used for the activation.
From the tax perspective the balanced assets are neutral to the company but regarding the balance sheet they are listed under immaterial assets and may help SMEs to get a loan under better conditions and/or help to increase the value of the company in a merger and acquisition deal.