RICS draft guidance note - Valuation of Intellectual Property Rights, Guidance Note, 2nd ed

RICS draft guidance note - Valuation of IP Rights, 2nd edition

Selecting an appropriate valuation approach

Valuers should consider the nature and attributes of the subject IP and the nature and characteristics of the market for that asset in order to determine the most appropriate valuation approach. Paragraph 50.4 of IVS 210 notes that the heterogeneous nature of many intangible assets means that there is often a greater need to consider the use of multiple methods and approaches than for other asset classes. This is particularly true of IP, which by definition is unique. There will be instances where information gaps or other difficulties will compromise the use of all valuation approaches. In these situations, the valuer should use more than one method to support key assumptions and the valuation opinion. See paragraph 10.4 of IVS 105.

In the case of IP, the use of sensitivity analysis to perform cross-checks and reasonableness checks on an asset valuation can be of great benefit to both the valuer and the user of a valuation report.

Integrating IP characteristics into each valuation approach is discussed in chapters 6-8.

The income approach

The income approach values an asset with reference to the earnings it is expected to generate during its economic life and the associated risk. Having assessed the characteristics of the subject IP, the factors considered in determining the appropriateness of the income approach should include:

whether the subject IP has established earnings that are consistent with the basis of valuation. The absence of existing earnings does not invalidate the income approach, but can increase the difficulty of forecasting earnings

if the subject IP is still under development, the extent to which reasonable estimates can be made concerning the probability of successfully completing the development, the period of development and commercialisation, and the method of pricing the IP

where the subject IP does not or will not generate stand-alone earnings, whether:

  • sufficient information is available to isolate the earnings generated by the subject IP from other contributory assets and functions and
  • there are sufficiently comparable assets for which arm's length royalty rates or earnings are available.

the extent to which reasonable estimates can be made regarding future earnings and risk.

The market approach

The market or sales comparison approach values IP by considering transactions of comparable assets. Having assessed the characteristics of the subject IP and identified the relevant market(s), the factors considered in determining the appropriateness of the market approach should include:

the extent of novelty or differentiation of the subject IP and the likelihood of there being other assets that are sufficiently similar to enable comparative analysis. Comparability testing should cover legal, functional, market and economic characteristics such as risk and return

the extent that there are comparable assets and whether there is sufficient relevant and publicly available data concerning arm's length transactions and

whether historic transactions exist for the subject IP. This can increase the relevance of the market approach, subject to an assessment of the comparability of market conditions, contract terms and circumstances of the historic transaction.

The cost approach

The cost approach values IP with reference to the cost of developing an asset of similar utility. Having assessed the characteristics of the subject IP, the factors considered in determining the appropriateness of the cost approach should include:

the degree of differentiation of the subject IP and the extent to which the associated rights prevent other parties developing a similar asset. The value of highly differentiated assets with strong and broad IP protection can be significantly higher than the development cost or replacement cost; these circumstances reduce the relevance of the cost approach

the ability to reasonably estimate the probability of successfully developing IP of similar utility, and the ability to estimate the development time, direct costs and opportunity cost and

the position of the subject IP within its expected useful economic life, as this will influence the need for an obsolescence provision.