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1
Intellectual Property Valuation
andFinance
2
ON 12/31/99, INVESTORS SAID P&G WAS WORTH $ 151.6 BILLION
P&G’s FINANCIAL STATEMENTSSAID IT WAS WORTH $ 32.1 BILLION
WHO WAS RIGHT ??
3
ON 12/31/99, INVESTORS SAID P&G WAS WORTH $ 151.6 BILLION
WHAT HAPPENED TO $ 57.4 BILLION ??
FIVE MONTHS LATER, INVESTORS SAID P&G WAS WORTH $ 94.2 BILLION
4
Course Overview
• Why Valuations are Necessary
• Importance of IP Assets
• Accounting Principles
• Valuation Theory & Practice
• Tax, Litigation & Finance
• Working with a Valuation Expert
• Case Studies
5
Why Valuations are Made
• Transaction Support
• Litigation Support
• Regulatory Requirements
• Accounting Requirements
• Taxes - Federal, State Income - Estate - Gift - ad valorem
• Financial
6
…from “Bricks and Mortar”
to
IP
7
INTANGIBLE ASSETS
• Rights
• Relationships
• Intellectual Property
• Undefined Intangibles
8
Rights
• Leases
• Distribution Agreements
• Employment Contracts, Covenants
• Financing Arrangements
• Supply Contracts
• Licenses, Certifications
• Franchises
9
Relationships
• Trained and Assembled Workforce
• Customer Relationships
• Distribution Relationships
10
Intellectual Property
• Proprietary Technology Trade Secrets Know-how
• Patents
• Copyrights
• Trademarks
• Right of Publicity
11
Proprietary Technology
• Formulas, Recipes, Specifications• Management, Accounting, Mfg. Procedures• Formations, Plays, Training programs• Marketing Strategies• Artistic Techniques• Customer Lists, Routes, Demographic Studies• Job Files, Product test results• Business Knowledge - Suppliers, Lead times,
Cost and pricing data
12
Undefined Intangibles
• Goodwill
• Elements of a Going Concern (“going concern value”)
13
The Business Enterprise andthe Assets That Comprise It
14
Business Enterprise
BUSINESS
ENTERPRISE
VALUE OF EQUITY
VALUE OFLONG-TERM DEBT
MONETARY ASSETS
TANGIBLE ASSETS
INTANGIBLE ASSETS
= =
15
ELEMENTS OF THE BUSINESS ENTERPRISE (monetary assets)
MONETARY ASSETS
Cash, Inventories, Work in Process,Finished Goods, Accounts Receivable LESS:Accounts Payable and other CurrentLiabilities
“Net Working Capital”
16
ELEMENTS OF THE BUSINESS ENTERPRISE
TANGIBLE ASSETS
Land, Land Improvements, BuildingsMachinery and Equipment, Vehicles
“Plant, Property and Equipment”
17
INTANGIBLE ASSETS
Computer Software, Assembled Workforce,Favorable Contracts, Customer Relationships,Intellectual Property
“Goodwill or (ugh!) Going Concern Value”
ELEMENTS OF THE BUSINESSENTERPRISE
18
BUSINESS ENTERPRISEis a PORTFOLIO
T - BILLSMONEY MARKETCORPORATE BONDSEQUITIESLOTTERY TICKETS
=
19
BUSINESS ASSET CHARACTERISTICS
MONETARY TANGIBLE INTANGIBLE
RETURNREQUIREMENT
FINANCING
INVESTMENTQUALITIES
8 - 10 % 10 - 15 % 15 - 40 %
DEBT EQUITY
LIQUID NON-LIQUIDVERSATILE NARROW MARKET
VALUEIN USE
VALUE INLIQUIDATION
CASH RECEIVABLES INVENTORY
GENERAL PURPOSE SPECIAL PURPOSE
20
RELATIONSHIP OF EARNINGS AND VALUE
EARNINGS
VA
LU
E
SCRAP VALUE OF TANGIBLE ASSETS
FORCED LIQUIDATION VALUE
ORDERLY LIQUIDATION VALUE
VALUE IN CONTINUED USE
REPLACEMENT COST
REPLACEMENT COST
BUSINESS ENTERPRISE VALUE
GOODWILL
INTANGIBLES
TANGIBLES
0
0
(-)
(-)
21
Balance Sheet View ofthe Business Enterprise
Current Assets
Plant, Property and Equipment
Other Assets
Intangible Assets andIntellectual Property
Current Liabilities
Long-Term Debt
Stockholder’s Equity
22
Value ofthe Business Enterprise
C.A. less C.L.
Plant, Property and Equipment
Other Assets
Intangible Assets andIntellectual Property
Long-Term Debt
Stockholder’s Equity
VALUE OF: VALUE OF:
23
Basic Accounting Concepts
24
GENERALLY ACCEPTED ACCOUNTING PRINCIPLES (“GAAP”)
FASB - Financial Accounting Standards BoardSFAS - Statement of Financial Accounting StandardsAPB - Accounting Principles BoardAPB 99 - Opinions of APBAICPA - American Institute of CPA’sSAP - Statements of PositionGAP - Gordon’s Accounting Principles
25
PUBLIC vs. PRIVATE
PUBLIC PRIVATE
IRS
SEC
STOCKHOLDERS
IRS
STOCKHOLDER
26
AUDITED FINANCIAL STATEMENTS
“These financial statements are the res-ponsibility of the Company’s management.”
“Our responsibility is to express an opinionon these financial statements based on ouraudit.”
“In our opinion, the financial statements…present fairly, in all material respects…thefinancial position of …in conformity withG.A.A.P.”
27
Business Transactions
BUSINESS ENTERPRISE
Employees
Suppliers
Lenders
Investors
Government
Customers
28
Balance Sheet
Current Assets
Plant, Property and Equipment
Other Assets
Current Liabilities
Long-Term Debt
Stockholder’s Equity
ASSETS - what weown
LIABILITIES - how wefinanced what we own
29
THE PROCTER & GAMBLE COMPANY and SUBSIDIARIESConsolidated Balance Sheets
($millions)
Years ended June 30, 1999 1998ASSETSCurrent Assets Cash 2,294$ 1,549$ Investments 506 857 Accounts Receivable 2,940 2,781 Inventories Materials and Supplies 1,176 1,225 Work in Process 375 343 Finished Goods 1,787 1,716 Deferred Income Taxes 621 595 Prepaid Expenses 1,659 1,511
Total Current Assets 11,358 10,577
30
Current Liabilities Accounts Payable 2,300$ 2,051$ Accrued Liabilities 4,083 3,942 Taxes Payable 1,228 976 Debt due within one year 3,150 2,281
Total Current Liabilities 10,761 9,250
Current Assets Cash 2,294$ 1,549$ Investments 506 857 Accounts Receivable 2,940 2,781 Inventories Materials and Supplies 1,176 1,225 Work in Process 375 343 Finished Goods 1,728 1,716 Deferred Income Taxes 621 595 Prepaid Expenses 1,659 1,511
Total Current Assets 11,299 10,577
Net Working Capital = Monetary Assets
+
-
=
31
Property, Plant, and Equipment Buildings 3,885 3,660 Machinery and Equipment 16,953 15,953 Land 562 539
21,400 20,152 Less Accumulated Depreciation 8,774 7,972
Total Property, Plant, and Equipment 12,626 12,180 Goodwill and Other Intangible Assets Goodwill 7,062 7,023 Trademarks and Other Intangible Assets 1,115 1,157
8,177 8,180 Less Accumulated Amortization 1,355 1169
Total Goodwill and Other Intangible Assets 6,822 7,011
32
LIABILITIES and SHAREHOLDERS' EQUITYCurrent Liabilities Accounts Payable 2,300$ 2,051$ Accrued Liabilities 4,083 3,942 Taxes Payable 1,228 976 Debt due within one year 3,150 2,281
Total Current Liabilities 10,761 9,250 Long-Term Debt 6,231 5,765 Deferred Income Taxes 362 428 Other Non-current Liabilities 2,701 3,287
Total Liabilities 20,055 18,730
33
Flow of Funds
CURRENT LIABILITIES
LONG-TERM DEBT
STOCKHOLDER EQUITY
REVENUE
COST OF GOODS
EXPENSES
TAXES
PROFIT
CURRENT ASSETS PLANT, PROP. & EQUIP.
OTHER ASSETS
34
THE PROCTER & GAMBLE COMPANY and SUBSIDIARIESConsolidated Statements of Earnings
($millions)
Years ended June 30, 1999 1998 1997Net Sales $38,125 $37,154 $35,764Cost of Products Sold 21,206 21,064 20,316
Gross Margin 16,919 16,090 15,448
Marketing, Research, Admin. Expenses 10,666 10,035 9,960Operating Income 6,253 6,055 5,488
Interest Expense 650 548 457Other Income, net 235 201 218
Earnings before Income Taxes 5,838 5,708 5,249
Income Taxes 2,075 1,928 1,834Net Earnings $3,763 $3,780 $3,415
35
Years ended June 30, 1997 % 1996 % 1997 %Net Sales $38,125 100.0 $37,154 100.0 $35,764 100.0Cost of Products Sold 21,206 55.6 21,064 56.7 20,316 56.8
Gross Margin 16,919 44.4 16,090 43.3 15,448 43.2
Marketing and Administration Expense 5,402 14.2 4,785 12.9 4,927 13.8Research and Development Expense 1,726 4.5 1,546 4.2 1,282 3.6Advertising Expense 3,538 9.3 3,704 10.0 3,468 9.7
Operating Income 6,253 6,055 5,771
Interest Expense 650 1.7 548 1.5 457 1.3Other Income, net 235 0.6 201 0.5 218 0.6
Earnings before Income Taxes 5,838 5,708 5,532
Income Taxes 2,075 5.4 1,928 5.2 1,834 5.1Net Earnings $3,763 9.9 $3,780 10.2 $3,698 10.3
Depreciation and Amortization 2,148 1,598 1,487Gross Cash Flow $5,911 $5,378 $5,185
Capital Expenditures 2,828 2,559 2,129Net Cash Flow $3,083 $2,819 $3,056
36
THE PROCTER & GAMBLE COMPANY and SUBSIDIARIESConsolidated Statements of Cash Flows
($millions)
Years ended June 30, 1999 1998 1997Cash and Equivalents, Beginning of Year $1,549 $2,028 $2,074
Operating Activities Net Earnings 3,763 3,046 3,415 Depreciation and Amortization 2,148 1,358 1,487 Deferred Income Taxes -60 328 -26 Other -307 -574 1,006
5,544 4,158 5,882
Investing Activities Capital Expenditures -2,828 -2,179 -2,129 Proceeds from Asset Sales 434 402 520 Acquisitions -137 -358 -150 Change in Investment Securities 356 -331 -309
-2,175 -2,466 -2,068Financing Activities Dividends to Shareholders (1,626) (1,462) (1,329) Additions to Long-term Debt 986 1,970 224 Reductions in Long-term Debt (334) (432) (724) Other 921 1,473 (26) Treasury Purchases (2,553) (1,929) (1,652)
-2606 -380 -3507
Effect of Exchange Rate Changes -18 -96 -31
Change in Cash and Cash Equivalents 745 -801 276
Cash and Equivalents, End of Year 2,294$ 1,549$ 2,350$
37
Basic Valuation Principles
38
PREMISE OF VALUE
• Cost of Reproduction
• Cost of Replacement
• Book Value
• Tax Basis
• Fair Market ValueMarket Value, Fair Value, Exchange ValueOrderly / Forced Liquidation Value, Investment Value
39
PREMISE OF VALUE
“The amount at which a property would exchangebetween a willing buyer and seller, neither undercompulsion, each having knowledge of the facts,and with equity to both.”
or
“The present value of the future economic benefitsof ownership.”
FAIR MARKET VALUE
40
PREMISE OF VALUE
“The amount at which a property would exchangebetween a willing buyer and seller, neither undercompulsion, each having knowledge of the facts,and with equity to both.”
or
“The present value of the future economic benefitsof ownership.”
FAIR MARKET VALUE
41
VALUING A BUSINESS
THE BUSINESS ENTERPRISE(PORTFOLIO)
THE UNDERLYING ASSETS
(AS ELEMENTS OF PORTFOLIO)
THE UNDERLYING ASSETS(FOR ALTERNATE USE)
42
VALUATION METHODS
• Cost Approach
• Market Approach
• Income approach
43
COST APPROACH
Cost of Reproduction or Cost of Replacement
Less: Physical DepreciationLess: Functional ObsolescenceEquals: Replacement Cost Less Depreciation
Less: Economic Obsolescence
Equals: FAIR MARKET VALUE
44
MARKET APPROACH
• Comparable Property
• At Arm’s Length
• Contemporaneous to Appraisal
• In an Active, Public Market
Analyze evidence of transactions of:
45
INCOME APPROACH
AMOUNT
DURATION
RISK
46
PRESENT VALUE (direct cap)
DIRECT CAPITALIZATION
Used when we are to receive an unchanging amount in each period into perpetuity
PV =AMOUNT ($)
RATE (%)
47
PRESENT VALUE (direct cap with growth)
DIRECT CAPITALIZATION with GROWTH
Used when we are to receive a constantly growing amount each year into perpetuity
PV =AMOUNT x (1 + Growth Rate)
(Rate - Growth Rate)
48
PRESENT VALUE (discounting)
DISCOUNTING
Used when we are to receive varying amounts in each period for a finite number of periods.
PV =AMOUNT 1 AMOUNT 2 AMOUNT 3
(1 + Rate) (1 + Rate)^2 (1 + Rate)^3
+ + + ….
49
PRESENT VALUE of $ 300,000
@ 4% $288,000 $277,000 $246,000 $201,000
@ 15% 258,000 223,000 142,000 68,000
@ 25% 234,000 183,000 87,000 25,000
1 YEAR 2 YEARS 5 YEARS 10 YEARS
To be received in:
50
INCOME APPROACH (NPV = PV future benefits..)
AMOUNT
DURATION
RISK
=NET PRESENT VALUE
“The present value of the future economic benefitsof ownership.”
51
QUANTIFYING THE ECONOMICADVANTAGE
Enables the use of lower cost materialsEnables the use of less materialReduces the amount of laborIncreases speed of productionImproves quality / Reduces defectsEliminates or reduces environmental and/or safety hazardsResults in premium pricingProvides economies of scaleProvides purchasing powerRelieves the owner of the cost to create
52
INCOME RISK
• WILL WE RECEIVE IT ?• WILL WE RECEIVE IT IN THE EXPECTED
AMOUNT ?• WILL WE RECEIVE IT WHEN EXPECTED ?• MUST WE INVEST TO GET IT ?• MUST WE INVEST IN “BIG LUMPS” ?• HOW LONG MUST WE WAIT FOR INCOME
TO START ?
53
RATES OF RETURN
5.90- 6.7% - CD’s, Treasury Bills6.05% - 30-year Treasury bonds8.00% - 30-year mortgage commitments8.00-10.00% - Corporate bonds9.50% - Prime rate9.00-15.00% - High-yield bonds10.05-11.05% - Large company equities (Treasury plus 4-5%)12.05-15.05% - Small company equities (plus 6-8%)20% - 2nd or 3rd stage venture capital40% - Venture capital, early commercialization50% - Venture capital, early stage
54
INCOME DURATION (economic life vs. legal…)
ECONOMIC LIFE =
MAY OR MAY NOT BE =
the period during whichit is profitable to use anasset
Legal LifePhysical LifeTechnological LifeDepreciable Life
55
TRANSFER OF VALUE BETWEENFORMS OF INTELLECTUAL
PROPERTY
0102030405060708090
100
Trademark
Patent
56
PRIMARY SECONDARY WEAK
Patents and Technology Income Market Cost
Trademarks and Brands Income Market Cost
Copyrights Income Market Cost
Assembled Workforce Cost Income Market
Management Information Software Cost Market Income
Product Software Income Market Cost
Distribution Networks Cost Income Market
Core Deposits Income Market Cost
Customer Relationships Cost Income Market
Franchise Rights Income Market Cost
Corporate Practices and Procedures Cost Income Market
Elements of a Going Concern Cost Income Market
Goodwill Market (1) Income (2) -
(1) Residual based on enterprise market value(2) Capitalization of "excess" income
Figure 11.2 Valuation Method Preferences
57
MERCK & CO., INC. and SUBSIDIARIESValuation of Underlying Assets
($millions)
Years ended December 31, 1999 1998Current Assets Cash 2,021.9$ 2,606.2$ Short-term Investments 1,180.5 749.5 Accounts Receivable 4,089.0 3,374.1 Inventories 2,846.9 2,623.9 Prepaid Expenses and Taxes 1,120.9 874.8
Total Current Assets 11,259.2 10,228.5 Current Liabilities Accounts Payable 4,158.7$ 3,682.1$ Loans and Current Portion of Long-term Debt 2,859.0 624.2 Income Taxes Payable 1,064.1 1,125.1 Dividends Payable 677.0 637.4
Total Current Liabilities 8,758.8 6,068.8
MONETARY ASSETS (net working capital) 2,500.4$ 4,159.7$
Investments 4,761.5 3,607.7
Property, Plant and Equipment Land 259.2 228.8 Buildings 4,465.8 3,664.0 Machinery, Equipment and Office Furnishings 7,385.7 6,211.7 Construction in Progress 2,236.3 1,782.1
14,347.0 11,886.6 Less Allowance for Depreciation 4,670.3 4,042.8
9,676.7 7,843.8 TANGIBLE ASSETS 12,011.9$ 9,865.2$
BUSINESS ENTERPRISE VALUE Common Shares Outstanding (millions) 2,968.0 Year-end Price $67.25 Common Equity Value (millions) $199,598.0 Long-term Debt (millions) 3,143.9
$202,741.9
LESS: Value of Monetary Assets 2,500.4$ Value of Investments 4,761.5 Value of Tangible Assets 12,011.9
EQUALS: Value of Intangible Assets 183,468.2
58
SALES / R & D ADMINISTRATION /
MARKETING MANUFACTURING ENGINEERING PURCHASING FINANCE
TRADEMARKS 1 2
PATENTS 3 4
PROPRIETARY 5 6
TECHNOLOGY
RECORDS AND 7 8 9 10
DRAWINGS
SOFTWARE 11 12 13
COPYRIGHTS 14 15
PROVIDING 16
CONTRACTS
RECEIVING 17
CONTRACTS
CUSTOMER 18
RELATIONSHIPS
Figure 8.10 Sources of Information about Intangible Assets
59
Home Products
HealthFoods
Auto Products
Office Products
Cosmetics
Figure 8.6 Disaggregating the Business Enterprise
60
Home Products
HealthFoods
Auto Products
Office Products
Cosmetics
Figure 8.7 Disaggregating the Business Segment
Product 3
Product 2
Product 1
61Figure 8.8 Disaggregating the Product Line
Tangible
Intangible
Monetary
Brand
Product 1
62
FIGURE 3.4
TOTALEARNINGS
Te
MONETARY ASSETS
TANGIBLE ASSETS
INTANGIBLE ASSETS+ +
DEBTCAPITAL
EQUITYCAPITAL
BUSINESS
ENTERPRISE
PORTFOLIO
Me
Te
Ie
63
TOTALEARNINGS
Te Ie
EARNINGS ATTRIBUTABLE TO INTANGIBLE ASSETS
IDENTIFIEDINTANGIBLES
INTELLECTUAL PROPERTY
TRADEMARKS
PATENTEDTECHNOLOGIES
COPYRIGHTS
SPECIFICTECHNOLOGY
IAe IPe
PTe
STe
FIGURE 3.5
64
TABLE A.1
Business Enterprise Weighted Cost of Capital
WEIGHTEDPERCENT OF AFTER TAX AVERAGE
INVESTED CAPITAL AMOUNT INVESTED COST OF COST OF COST OFCOMPONENT ($ MILLIONS) CAPITAL CAPITAL CAPITAL CAPITAL
EQUITY 75.0 75.0% 14.0% 14.0% 10.5%DEBT 25.0 25.0% 7.0% 4.2% 1.1%
---------------- ---------------- ----------------TOTAL 100.0 100.0% 11.6%
Required Rate of Return Among Assets
PERCENT OF WEIGHTED PERCENT OFASSET CATEGORY AMOUNT INVESTED RETURN RETURN TOTAL
($MILLIONS) CAPITAL REQUIRED REQUIRED RETURN
NET WORKING CAPITAL 20.0 20.0% 5.0% 1.0% 8.6%TANGIBLE ASSETS 30.0 30.0% 7.0% 2.1% 18.1%INTANGIBLE ASSETS 50.0 50.0% 17.0% 8.5% 73.3%
---------------- ---------------- ---------------- ----------------TOTAL 100.0 100.0% 11.6% 100.0%
65
Allocating Income Among Assets
ASSET AMOUNT OFVALUE RETURNS RETURN
ASSET CATEGORY ($ 000's) REQUIRED ($ 000's)
NET WORKING CAPITAL 90,000 6.0% 5,400TANGIBLE ASSETS 125,000 9.0% 11,250
INTANGIBLE ASSETS 35,000 14.0% 4,900
INTELLECTUAL PROPERTY 50,000 17.0% 8,500---------------- ---------------- ----------------
TOTAL 300,000 10.0% 30,050
PATENTS 10,000 14.5% 1,450PROPRIETARY TECHNOLOGY 15,000 20.3% 3,050TRADEMARKS 25,000 16.0% 4,000
---------------- ---------------- ----------------50,000 17.0% 8,500
66
Allocating Weighted Average Cost of Capital Among Assets
WEIGHTEDASSET PERCENT OF AVERAGE
ASSET CATEGORY VALUE ENTERPRISE RETURNS COST OF($MILLIONS) VALUE REQUIRED CAPITAL
NET WORKING CAPITAL 20.0 20.0% 5.0% 1.0%TANGIBLE ASSETS 30.0 30.0% 7.0% 2.1%INTANGIBLE ASSETS Computer Software 5.0 5.0% 10.0% 0.5% Assembled Workforce 8.0 8.0% 15.0% 1.2% Trademarks 37.0 37.0% 18.5% 6.8%
---------------- ---------------- ----------------TOTAL 100.0 100.0% 11.6%
QUANTITATIVE QUALITATIVE
REVIEWFINANCIALS
Disaggregate to Products
Trademarked Product Financials
AnalyzeFeasability Studies
AnalyzeBusiness Plans
ReviewProjections Develop
Cash Flow Forecasts
CorrelateReturns byAsset Class
Correlate Asset Values andBusiness Enterprise Value
CONCLUDETRADEMARK VALUES
CONCLUDE ROYALTY RATES
MarketRoyalty RateInvestigation
AnalyzeMonetary Assets
AnalyzeTangible Assets
AnalyzeOther Intangible Assets
ConcludePreliminary Asset Values
InvestmentRate of Return Analysis
BUSINESSENTERPRISE VALUATION
Comparable Company Analysis
Industry Data
General EconomicConditions
AnalyzeMarketing Data
AnalyzeMarket Research Data
Independent Market Research
DATA GATHERING INTERVIEWS WITH MANAGEMENT
TRADEMARK VALUATION AND ROYALTY RATE DEVELOPMENT
Research ComparableTransactions
68
DISCOUNTED CASH FLOW
YEAR 1 YEAR 2 YEAR 3 YEAR 4
REVENUES REVENUES REVENUES REVENUES
EXPENSES EXPENSES EXPENSES EXPENSES
NET INCOME NET INCOME NET INCOME NET INCOME
CAPITAL +NON-CASH
CAPITAL +NON-CASH
CAPITAL +NON-CASH
CAPITAL +NON-CASH
NET CASHFLOW
NET CASHFLOW
NET CASHFLOW
NET CASHFLOW
PRESENTVALUE
PRESENTVALUE
PRESENTVALUE
PRESENTVALUE
69
DISCOUNTED CASH FLOW MODEL - BASE CASE
SALES $10,000 $11,000 $12,000 $14,000 $15,000
COST OF GOODS SOLD 4,000 4,400 4,800 5,600 6,000
GROSS PROFIT 6,000 6,600 7,200 8,400 9,000
OPERATING EXPENSES 3,000 3,300 3,600 4,200 4,500 GENERAL & ADMINISTRATIVE 1,500 1,650 1,800 2,100 2,250
INCOME BEFORE TAXES 1,500 1,650 1,800 2,100 2,250
INCOME TAXES 600 660 720 840 900
NET INCOME 900$ 990$ 1,080$ 1,260$ 1,350$
DEPRECIATION 200 200 200 300 300ADDITIONS TO NWC 0 50 100 200 50ADDITIONS TO PLANT 50 50 150 75 75
NET CASH FLOW $1,050 $1,090 $1,030 $1,285 $1,525
PRESENT VALUE $979 $884 $726 $788 $813TOTAL PRESENT VALUE $4,190
70
TABLE 4.11 USING MARKET ROYALTY RATES
FANCY COMPANY, INC. 1 2 3 4 5 TOTAL
Sales Revenue 373,500$ 388,440$ 387,754$ 386,391$ 347,448$ 1,883,533$
Trademark Royalty Rate 5% 5% 5% 5% 5%------------ ------------ ------------ ------------ ------------
Income Attributable to Trademark 18,675$ 19,422$ 19,388$ 19,320$ 17,372$ 94,177$
TABLE 6.7
RELIEF FROM ROYALTY VALUATION
FANCY COMPANY, INC. 1 2 3 4 5
Sales Revenue 373,500$ 388,440$ 387,754$ 386,391$ 347,448$
Trademark Royalty Rate 5% 5% 5% 5% 5%------------ ------------ ------------ ------------ ------------
Income Attributable to Trademark 18,675$ 19,422$ 19,388$ 19,320$ 17,372$
INCOME ATTRIBUTABLE TO TRADEMARK 18,675$ 19,422$ 19,388$ 19,320$ 17,372$ Less: Income Taxes 7,470$ 7,769$ 7,755$ 7,728$ 6,949$
------------ ------------ ------------ ------------ ------------After-tax Income Attributable to Trademark 11,205$ 11,653$ 11,633$ 11,592$ 10,423$
Present Value of After-tax Income 10,391$ 9,294$ 7,979$ 6,837$ 5,288$
TOTAL PRESENT VALUE 39,788$
71
TABLE 6.4 VALUATION OF PREMIUM PRICE ADVANTAGE
FANCY COMPANY, INC. 1 2 3 4 5SALES OF PREMIUM PRICED PRODUCT
Unit Sales Forecast 150,000$ 156,000$ 162,240$ 168,730$ 175,479$ Price per Unit 2.49 2.49 2.49 2.49 2.49
------------ ------------ ------------ ------------ ------------ Sales Revenue 373,500$ 388,440$ 403,978$ 420,137$ 436,942$
PLAIN COMPANY, INC.SALES OF GENERIC PRODUCT
Unit Sales Forecast 150,000$ 156,000$ 162,240$ 168,730$ 175,479$ Price per Unit 2$ 2$ 2$ 2$ 2$
------------ ------------ ------------ ------------ ------------ Sales Revenue 328,500$ 341,640$ 355,306$ 369,518$ 384,299$
INCOME ATTRIBUTABLE TO TRADEMARK 45,000$ 46,800$ 48,672$ 50,619$ 52,644$ Less: Income Taxes 18,000$ 18,720$ 19,469$ 20,248$ 21,057$
------------ ------------ ------------ ------------ ------------After-tax Income Attributable to Trademark 27,000$ 28,080$ 29,203$ 30,371$ 31,586$
Present Value of After-tax Income 25,288$ 23,070$ 21,046$ 19,200$ 17,516$
TOTAL PRESENT VALUE 106,119$
72
TABLE 6.5 VALUATION OF GROSS PROFIT ADVANTAGE
PLAIN COMPANY, INC. 1 2 3 4 5 TOTALSALES OF GENERIC PRODUCT
Unit Sales Forecast 150,000$ 156,000$ 162,240$ 168,730$ 175,479$ Price per Unit 2.19 2.19 2.19 2.19 2.19
------------ ------------ ------------ ------------ ------------ Sales Revenue 328,500$ 341,640$ 355,306$ 369,518$ 384,299$ 1,779,262$ Cost of Goods Sold PER UNIT 1.50$ 1.50$ 1.50$ 1.50$ 1.50$ Cost of Goods Sold 225,000$ 234,000$ 243,360$ 253,094$ 263,218$
------------ ------------ ------------ ------------ ------------ Gross Profit 103,500$ 107,640$ 111,946$ 116,423$ 121,080$ 560,589$
31.51%
COMPARABLE COMPANY GROUPSALES OF GENERIC PRODUCT
Unit Sales Forecast 750,000$ 780,000$ 811,200$ 843,648$ 877,394$ Price per Unit 2.19 2.19 2.19 2.19 2.19
------------ ------------ ------------ ------------ ------------ Sales Revenue 1,642,500$ 1,708,200$ 1,776,528$ 1,847,589$ 1,921,493$ 8,896,310$ Cost of Goods Sold PER UNIT 1.65 1.65 1.65 1.65 1.65 Cost of Goods Sold 1,237,500$ 1,287,000$ 1,338,480$ 1,392,019$ 1,447,700$
------------ ------------ ------------ ------------ ------------ Gross Profit 405,000$ 421,200$ 438,048$ 455,570$ 473,793$ 2,193,611$
24.66%GROSS PROFIT ATTRIBUTABLE TO TRADEMARK 22,500$ 23,400$ 24,336$ 25,309$ 26,322$ Less: Income Taxes 9,000$ 9,360$ 9,734$ 10,124$ 10,529$
------------ ------------ ------------ ------------ ------------After-tax Income Attributable to Trademark 13,500$ 14,040$ 14,602$ 15,186$ 15,793$
Present Value of After-tax Income 12,644$ 11,535$ 10,523$ 9,600$ 8,758$
TOTAL PRESENT VALUE 53,059$
73
TABLE 6.6 VALUATION OF OPERATING PROFIT ADVANTAGE
PLAIN COMPANY, INC. 1 2 3 4 5 TOTALSALES OF GENERIC PRODUCT
Unit Sales Forecast 150,000$ 156,000$ 162,240$ 168,730$ 175,479$ Price per Unit 2.19 2.19 2.19 2.19 2.19
------------ ------------ ------------ ------------ ------------ Sales Revenue 328,500$ 341,640$ 355,306$ 369,518$ 384,299$ 1,779,262$ Cost of Goods Sold PER UNIT 1.50 1.50 1.50 1.50 1.50 Cost of Goods Sold 225,000$ 234,000$ 243,360$ 253,094$ 263,218$
------------ ------------ ------------ ------------ ------------ Gross Profit 103,500$ 107,640$ 111,946$ 116,423$ 121,080$
Selling, General and Administrative Expenses 49,275$ 51,246$ 53,296$ 55,428$ 57,645$ ------------ ------------ ------------ ------------ ------------
Operating Profit 54,225$ 56,394$ 58,650$ 60,996$ 63,436$ 293,700$ Operating Profit Percentage of Sales 16.5% 16.5% 16.5% 16.5% 16.5% 16.5%
COMPARABLE COMPANY GROUPSALES OF GENERIC PRODUCT
Unit Sales Forecast 750,000$ 780,000$ 811,200$ 843,648$ 877,394$ Price per Unit 2.19 2.19 2.19 2.19 2.19
------------ ------------ ------------ ------------ ------------ Sales Revenue 1,642,500$ 1,708,200$ 1,776,528$ 1,847,589$ 1,921,493$ 8,896,310$ Cost of Goods Sold PER UNIT 1.65 1.65 1.65 1.65 1.65 Cost of Goods Sold 1,237,500$ 1,287,000$ 1,338,480$ 1,392,019$ 1,447,700$
------------ ------------ ------------ ------------ ------------ Gross Profit 405,000$ 421,200$ 438,048$ 455,570$ 473,793$
Selling, General and Administrative Expenses 295,650$ 307,476$ 319,775$ 332,566$ 345,869$ ------------ ------------ ------------ ------------ ------------
Operating Profit 109,350$ 113,724$ 118,273$ 123,004$ 127,924$ 592,275$ Operating Profit Percentage of Sales 6.7% 6.7% 6.7% 6.7% 6.7% 6.7%
OPERATING PROFIT ATTRIBUTABLE TO TRADEMARK 32,355$ 33,649$ 34,995$ 36,395$ 37,851$ Less: Income Taxes 12,942$ 13,460$ 13,998$ 14,558$ 15,140$
------------ ------------ ------------ ------------ ------------After-tax Revenue Attributable to Trademark 19,413$ 20,190$ 20,997$ 21,837$ 22,710$
Present Value of After-tax Revenue 18,182$ 16,587$ 15,132$ 13,805$ 12,594$
TOTAL PRESENT VALUE 76,299$
74
TABLE 6.10TRADEMARK VALUATION - MULTIPLE EXPLOITATION SCENARIOS
YEAR 1 YEAR 2 YEAR 3 YEAR 4 YEAR 5 REVERSION TOTALPRIMARY EXPLOITATION Net Cash Flow 1,200$ 1,300$ 1,500$ 1,600$ 1,700$
Present Value of Net Cash Flow 16.0% 1,114$ 1,041$ 1,035$ 952$ 872$ 5,781$ 10,794$
SECONDARY EXPLOITATIONS Similar Product Extensions Net Cash Flow 650$ 700$ 800$ 900$ 950$
Present Value of Net Cash Flow 17.0% 601$ 553$ 540$ 520$ 469$ 2,861$ 5,544$
Dissimilar Product Extensions Net Cash Flow 150$ 250$ 400$ 450$ 500$
Present Value of Net Cash Flow 20.0% 137$ 190$ 254$ 238$ 220$ 1,079$ 2,118$
Licensing Income Net Cash Flow 50$ 60$ 70$ 80$ 90$
Present Value of Net Cash Flow 20.0% 46$ 46$ 44$ 42$ 40$ 194$ 412$
Speculative Extensions Net Cash Flow 100$ 300$ 500$ 800$ 1,200$
Present Value of Net Cash Flow 25.0% 89$ 215$ 286$ 366$ 440$ 1,599$ 2,995$ -------------
TOTAL PRESENT VALUE 21,862$
75
TRADEMARK VALUATION by ALLOCATION of INCOME
ASSET EARNINGSASSET CLASS FMV PERCENT RETURN WEIGHTED PERCENT ALLOCATION
($000) (%) RATE RATE (%) ($000)Monetary Assets 50,000$ 4.55% 7.0% 0.32% 2.47% 3,463$
Tangible Assets 750,000 68.18% 12.0% 8.18% 63.60% 89,046
Other Intangibles 200,000 18.18% 15.0% 2.73% 21.20% 29,682
Trademarks 100,000 9.09% 18.0% 1.64% 12.72% 17,809 --------------- --------------- --------------- --------------- ---------------
Business Enterprise Value 1,100,000$ 100.00% 12.86% 100.00% 140,000$
76
ROYALTIES
THE BURNING QUESTION
77
THE LICENSING TRANSACTION
LICENSORLICENSEE
ROYALTY
78
THE LICENSING TRANSACTION
LICENSORLICENSEE
ROYALTYLICENSOR INCOME
LICENSEE INCOME
A
B
C
79
THE LICENSING TRANSACTION
LICENSORLICENSEE
ROYALTY
LICENSEE INCOME
80
THE LICENSING TRANSACTIONIS CONTROLLED BY THE
ECONOMICS OFTHE LICENSEE’S BUSINESS
81
COST APPROACH ROYALTY
What did it cost to develop the IP ?
Set a royalty that will recoup the cost.
NO !!
82
MARKET APPROACH ROYALTY
MAYBE !!
What royalties have others paid orreceived ?
What is the “industry standard” ?
83
INCOME APPROACH ROYALTY
What is the economic benefit to thelicensee ?
What is our proper share ?
YES !!
84
DISCOUNTED CASH FLOW MODEL - BASE CASE
SALES $10,000 $11,000 $12,000 $14,000 $15,000
COST OF GOODS SOLD 4,000 4,400 4,800 5,600 6,000
GROSS PROFIT 6,000 6,600 7,200 8,400 9,000
OPERATING EXPENSES 3,000 3,300 3,600 4,200 4,500 GENERAL & ADMINISTRATIVE 1,500 1,650 1,800 2,100 2,250
INCOME BEFORE TAXES 1,500 1,650 1,800 2,100 2,250
INCOME TAXES 600 660 720 840 900
NET INCOME 900$ 990$ 1,080$ 1,260$ 1,350$
DEPRECIATION 200 200 200 300 300ADDITIONS TO NWC 0 50 100 200 50ADDITIONS TO PLANT 50 50 150 75 75
NET CASH FLOW $1,050 $1,090 $1,030 $1,285 $1,525
PRESENT VALUE $979 $884 $726 $788 $813TOTAL PRESENT VALUE $4,190
85
DISCOUNTED CASH FLOW MODEL - WITH BENEFIT OF IP
SALES $10,000 $11,000 $12,000 $14,000 $15,000
COST OF GOODS SOLD 3,600 3,960 4,320 5,040 5,400
GROSS PROFIT 6,400 7,040 7,680 8,960 9,600
OPERATING EXPENSES 3,000 3,300 3,600 4,200 4,500 GENERAL & ADMINISTRATIVE 1,500 1,650 1,800 2,100 2,250
INCOME BEFORE TAXES 1,900 2,090 2,280 2,660 2,850
INCOME TAXES 760 836 912 1,064 1,140
NET INCOME 1,140$ 1,254$ 1,368$ 1,596$ 1,710$
DEPRECIATION 200 200 200 300 300ADDITIONS TO NWC 0 50 100 200 50ADDITIONS TO PLANT 50 50 150 75 75
NET CASH FLOW $1,290 $1,354 $1,318 $1,621 $1,885
PRESENT VALUE $1,203 $1,098 $929 $994 $1,005TOTAL PRESENT VALUE $5,229
86
DISCOUNTED CASH FLOW MODEL - WITH ROYALTY PAYMENT
SALES $10,000 $11,000 $12,000 $14,000 $15,000
COST OF GOODS SOLD 3,600 3,960 4,320 5,040 5,400
GROSS PROFIT 6,400 7,040 7,680 8,960 9,600
ROYALTY EXPENSE 4.0% 400 440 480 560 600OPERATING EXPENSES 3,000 3,300 3,600 4,200 4,500 GENERAL & ADMINISTRATIVE 1,500 1,650 1,800 2,100 2,250
INCOME BEFORE TAXES 1,500 1,650 1,800 2,100 2,250
INCOME TAXES 600 660 720 840 900
NET INCOME 900$ 990$ 1,080$ 1,260$ 1,350$
DEPRECIATION 200 200 200 300 300ADDITIONS TO NWC 0 50 100 200 50ADDITIONS TO PLANT 50 50 150 75 75
NET CASH FLOW $1,050 $1,090 $1,030 $1,285 $1,525
PRESENT VALUE $979 $884 $726 $788 $813TOTAL PRESENT VALUE $4,190
87
Allocating Income Among Assets to Calculate a Royalty
ASSET AMOUNT OFVALUE RETURNS RETURN
ASSET CATEGORY ($ 000's) REQUIRED ($ 000's)
NET WORKING CAPITAL 90,000 6.0% 5,400TANGIBLE ASSETS 125,000 9.0% 11,250
INTANGIBLE ASSETS 35,000 14.0% 4,900
INTELLECTUAL PROPERTY 50,000 17.0% 8,500---------------- ---------------- ----------------
TOTAL 300,000 10.0% 30,050
PATENTS 10,000 14.5% 1,450PROPRIETARY TECHNOLOGY 15,000 20.3% 3,050TRADEMARKS 25,000 16.0% 4,000
---------------- ---------------- ----------------50,000 17.0% 8,500
SALES REVENUE (from Figure 4.7) 328,500
INCOME ALLOCABLE TO TRADEMARKS 8,500
INDICATED ROYALTY RATE 2.6%
88
UNIFORM STANDARDS ofPROFESSIONAL APPRAISAL
PRACTICE (“USPAP”)
• Ethical Standards
• Minimum Work Standards
• Client Relationships
• Minimum Reporting Standards
89
VALUATION ENGAGEMENT
• Client Arrangements
• Investigation / Data Gathering
• Analysis
• Report Writing
90
EXPLOITATION
KEEP IT ? SELL IT ?
LICENSE IT ?
ENHANCE IT ?
91
EVALUATING EXPLOITATIONS
• Commercialize• Enhance• Sell• License out• License in comp.• Joint venture
0
5
10
15
20
25
30
35
40
45