Intangible Assets – Valuation of intangibles
By Sergio Queipo.
1. How much are my ideas worth? What is the valuation of intangibles?
Projects are born from ideas, hence, there is always an intangible in its essence. This initial asset multiplies itself, creating many others, like trademarks, patents, industrial models, among others. These assets are usually the biggest part of a company’s value, although sometimes the owners are not aware of their dimension.
There are measurements to know the value of these intangibles. According to the consultant “Interbrand”, the main trademarks of 2022 were the following:
How can we determine these valuations? What is the use of valuating an intangible good? Are these values part of the financial statements? Do trademarks have its own financial value apart from the business that originated it?
If trademarks are an asset, how can we be sure that its current value will be consistent with its recoverable value or its economic use value?
We know there is a bonus, a value added in a product or a service identified as high quality or with certain desired characteristics of a target segment. The process of valuation of these intangibles tries to determine the margin differential referral, meaning: the highest value that the intangible gives the product or service in question. Knowing and measuring the intangible allows a more efficient management, assigning only the necessary resources for the specific aspects that upgrade/maximize its value, saving unnecessary efforts.
The process of valuation implies an analysis of the essential factors that affect the intangible, as well as the nature of the current and future incomes, the level of current and potential exploitation, the economical macro environment that wraps the project, as well as the risk of the investment in the capital of the intangible. This work is done through an analysis of the accounting information, projections, market studies, test of the grade of protection of these assets and other studies.
2. How are these intangible assets valued through time in a company?
Nowadays there are different methodologies to do it and its choice varies depending on different factors, like the available information, the nature and properties of the asset in question, the future use of it, the aim of the valuation, among others.
Without trying to cover every method, we will mention those that we believe are most used when valuating an intangible asset. In general terms, the methodologies to estimate the value of these are generally grouped as follows:
a. Methodologies based on incomes:
It consists in the projections of the movements of future funds generated by the intangible during its useful life, discounted at a rate established according to its risk and costs of opportunity. Among the main methodologies used to value the intangibles classified in this category, we can mention the following:
- “ Royalty Relief ” (Incomes from Royalties):
This method consists in the estimation of the costs that the company would face if it didn’t own the property of the intangible, and would sing on a license for use to a third party. The “Royalty” represents the amount that the user of the asset would pay to the (hypothetical) owner, supposing the existence of the contract of license for use and, in general terms, this is calculated as a percentage of the income that could made through the use of the asset during the period of exploitation. Financially, the value of the asset is established based on the current value of the cash flows generated by saving costs that the company has for being the owner of the intangible, instead of taking on a license for use by a third person.
- It is one of the most used methods for the estimation of value of trademarks, patents and models.
- It implies the estimation of the royalty that should be paid to a third company (owner) for the use of the trademark.
- The estimated rate of the royalty is then applied in future’s sales expected by the companies that would make use of the trademark.
- Unfortunately, there isn’t always the precise information for the determination of the royalty because -normally- this is not information on public access.
- The determination of the discount rate depends on the macroeconomic context and it is affected by the risk of the region in which is exploited (we may consider aspects as the Country Risk Study and the interest rate).
- “Premium Pricing” (Differential prices):
This methodology is itself from the valuation of trademarks. It determines the current value of future contributions that the trademark would generate, in relation of the future contributions that the commercialization of a product or service with a similar quality and design would create, but of a “white-label” brand or generic. This wide margin is based in the fact that the existence of the intangible allows to obtain a higher price and/or volume in the commercialization of the products and/or services from the owner company.
It consists on the use of market ratios as an element of assessment. It is also used as a complement of cash flows discounted as factors of exploitation of value.
b. Methodologies based on the market values:
This approach, in contrast with the previous mentioned, is based on the values of sale of the intangible assets commensurable that had alienated in the market within a range of reasonable time. Ad hoc, information must be collected from the market of intangible assets recently sold; then, the characteristics of these are compared with the ones of the asset under evaluation to determine a value for comparison, adapting the values of the market with the specific qualities of the asset in question.
This method is of little use given the fact that trademarks are unique in characteristics and use. Furthermore, it is of great difficulty to obtain the specific terms of similar assets sales.
c. Methodologies based on the determination of costs:
It consists on the determination of the value based on the costs of creating, positioning and holding the intangible. It includes all the necessary costs for the development and positioning of the trademark (for example, costs of registration, design, advertising, I+D, among others).
This approach is frequently applied, for example, to value recently created trademarks, since after a period of exploitation the value of economic use tends to be a more accurate benchmark of the economic market value. In these cases, the methods described in “a” and “b” are applicable.
3. Once I know the value of my intangibles, how do I make it grow?
Intangible assets (trademarks, patents, models, software, etc.) constitute a strategic and differentiating value for those who own them. Managing them properly will be a multiplying factor that revalues the Company itself.
The value of a brand, for example, is not a constant, but is dynamic and corresponds to very different factors, ranging from the company’s own marketing actions to macro-environmental factors (consumption, GDP, inflation, etc.). This speaks of a highly volatile asset.
As can be seen from the methods mentioned in the previous point (in a very simplified form), it is necessary to consider both objective and subjective elements in their valuation. This task becomes much more complex in environments whose markets are not efficient in financial terms.
The value of intangibles is influenced by the risk where they will have their economic exploitation, since it influences their market value and the discount rate of their cash flows. For example, in the measurement of the value of brands, the influence of the so-called “country brand” goes beyond the scope of the company itself.
4. Final ideas
To develop the value of our intangibles is also to grow the value of our dreams, making them visible in actions and successful steps. This challenge is essential when our products and services are recognized by their names, icons of the value they represent.
Knowing our intangible assets in depth and understanding the factors that increase their value will allow us to make them grow in an effective, efficient and sustainable way.