Presentation on theme: "Valuation of Intellectual Property Assets"— Presentation transcript:
1 Valuation of Intellectual Property Assets Professor Derek BosworthIntellectual Property Research Institute of AustraliaMelbourne University
2 Coverage of the presentation IP as a component of ICNature of the management problemThe Diageo problemNature of the accounting problemAccounting issues surrounding intangiblesAccounting methods for intangible assetsOptions pricing and optimal stopping[Other strategic issues]
3 Not covered in the presentation Economic approaches to valuationProduction function and market valuation – dealt with in a previous presentationPatent valuation analysis – using renewal dataMethods of valuing product characteristicsConjoint analysis (marketing)Hedonic analysis (economics)
5 Human Capital Relational Capital Organisational Capital Intellectual CapitalHuman CapitalRelational CapitalOrganisational CapitalIntellectual Property“Sociological” Skills and Capital“Technological” Skills and CompetenciesInfrastructure Capital
8 Why Value Intellectual Capital Measurement of IC - enables a more efficient management of the company - i.e. to:understand where value lies in the companyhave a metric for assessing success and growthprovide a basis for raising finance or loansIf borrowing can only be secured against tangible assets, then knowledge-based companies will be disadvantaged in investment and growth.
10 Diageo: the companyGrand Metropolitan - formed as a hotel company in 1962by mid-1980s strengths in variety of branded productsbecame known as Diageo in 1997, on merger with Guiness
11 Previous accounting practice GrandMet – often bought and sold brandsAcquired Heublein from Nabisco in 1987Paid £800 million, of which over £500 million was for the Heublein brands (i.e. intangibles)Given the accounting procedures at the time,GrandMet published its next set of accounts in January 1988the Heublin brands were not valued£565 million of the £800 million paid for the company was written off as goodwill against reservesas a result, the balance sheet net assets fell, giving the impression than £565 million had been wasted
12 Changed accounting practices Subsequently GrandMet introduced brand capitalisationafter acquiring Pilsbury in 1989, the balance sheet showed the importance of brandsbrands £2.7 billionother assets £6.9 billionliabilities (mainly debt) (£6.7 billion)net assets £2.9 billionWithout brand capitalisation the balance sheet would have shown net assets of only £0.2 billionCorbett (1997) argues that this would have been an absurd situation
13 Further example of brand aquisition GrandMet acquired Pet in 1995 at a cost of £1.8 billionAgain, the acquisition affected GrandMet's balance sheetbrands £3.8 billionother assets £7.3 billionliabilities (7.7 billion)net assets £3.4 billion
15 Accounting concerns Is the intangible asset clearly identifiable Does the company hold an unambiguous title to the assetCould the intangible asset be sold separately from the businessDoes the intangible give rise to a “premium” not earned by other companies?
16 Tangibility and uncertainty Replicated plant and equipmentProduct modificationInnovationNew factoryStaff trainingResearch and developmentMost certainMost uncertainSource: Webster
17 Tangibility and Separability: the Spectrum of Assets SeparableNot separableWholly tangible (i.e. machine tool)Highly intangible (i.e. goodwill)Source: Wild and Secluna
19 Accounting approaches to valuation Cost based valuationhistorical creation cost - how much did it cost to create?current recreation cost - how much would it cost to recreate an identical intangible?Market based valuation - evidence from sale or purchase of similar assets (i.e. individual brands, branded divisions or whole companies)Income based valuation looks at the stream of income attributable to the intangible asset, based on:historical earnings (i.e. multiple of earnings)expected future earnings (i.e. discounted cash flow)
20 External influences on IC measurement and disclosure Writing off expenditures on intangibles against profits or reserves seems wrongThus, there is considerable pressure on accounting bodies devise new accounting codes of practice (SSAPs/GAAPs)Examples:SSAP 13, covers the treatment of R&D expenditureDraft SSAP 22, “Accounting for Goodwill”SSAP – statements of standard accounting codes of practiceGAAP – generally accepted accounting principles
22 Towards an IC auditVarious authors suggest an IP audit – see e.g. Brooking 1997Each company produces a taxonomy and set of checklists similar to Slide 3 aboveWeights are applied to each item on the checklist – reflecting importance in achieving company goalsLarge “dots” reflect very important and small less importantPosition within the target reflects the perceived strengths (close to “bull”) and weaknesses (far from “bull”) of each asset.
24 Conclusions on IC audits Majority of the 8 large dots (more) and 22 small dots (less important), in IP quadrantBrooking arguestarget is consistent with an IP dominant company (40% of listed assets are IP assets)if the company is not intended to be IP dominant, then “severe changes are required”66% of the IP assets are below average in value, including the significant onesTracking likely changes over time, she argues“The IC of this company looks like its in pretty bad shape and likely to get worse.”
25 Options valuation and optimal stopping techniques
26 Options values Options pricing methods are potentially the way forward Only method that really deals with riskApplicable to every stage of creative process:investment in R&Ddecision to patent, etc.decision to commercialise the inventionBut:Need information about wide range variablesInventive process is a multi-stage decision – which makes the calculation very complex
27 Underlying principle Black-Scholes→Merton→Dixit & Pindyck equations that allow for changes in the degree of risk over timein the D&P modelthe benefits of waiting one more periodminus costs of waiting= value of the optionoften called optimal waiting models
28 Value of a real option The value of real option is determined by: present value of project cash flows (+)investment cost of project (-)time remaining to invest in the project (+)standard deviation of the project value (+)risk free interest rate (+)Pitkethly (2002)
29 Optimal stopping rules Use the distribution of possible returns to decide:how much to dohow long to go on doing itUses the distribution to calculate a “reservation return” R* which indicates:whether to do any R&Dwhether to accept a given result, R, and exploit, R>R*or carry on doing research
31 Measurement versus Disclosure Measurement of IC is imperativeas organisations become more “knowledge-based”increasingly managing intangible items embedded in production activities, products and servicesHowever, the knowledge-base of the companydefines its core competenciesmeasures of IC provide information of value to competitors (i.e. about strengths and weakness)Advantages because disclosure enables the capital market todetermine the true asset base of the companydetermine a correct market valuationloan funds secured against intangibles
32 What form of reportingThe unresolved debate amongst accountants reflects the uncertainty about the way forward, i.e.“… a complete revamping of financial statements, so that they reflect the growing knowledge base of companies.” [Brennan, 1992]or a new financial statement, to“… contain expenditures that have not yet been classified as an asset or expense at the company’s financial statement date. In a sense this statement represents a place where expenditures can sit in a holding pattern until their status as a potential asset or potential expense is resolved.” [Rennie, 1999]