Ip aspects of valuation malaysia

MONETISING

INTELLECTUAL PROPERTY

ASPECTS OF VALUATION OF IP RIGHT

Chumphol Mahattanakul

CLJ Events

10 April 2013 09:00 am – 11:00 am

.

Outlines

• IP System

• IP Embodiment

• IP Valuation

• IP Strategy

• IP Audit

IP System

• IP system is a set of activities to

encourage and protect persons or

parties of concerns in relation to

invention, innovation and creation

along the social and economic

development path

• IPRs which are intangible assets as

derived from IPs are systematically

governed by competent functioning

bodies e.g. WIPO, WTO (via TRIPs)

and NPOs in

- Administration

- Codification

- Regulation

- Enforcement

- Dispute Resolution

- Marketplace Regulation

IP Embodiment

• IP embodiment comprises IP business partners

and their respective IP actions/functions or

interactions.

• IP business partners cover the following players

whose activities or functions are interrelated or

mutually made or strategically overlapped with

each others such as IP/technology development

companies, licensing agents, patent licensing and

enforcement companies, privateers, institutional

IP aggregators/IP acquisition funds, litigation

finance/investment firms, IP brokers, IP-based

merger & acquisition advisory firms, IP auction

houses, IP-backed lending firms, online

IP/technology exchanges, royalty stream

securitization firms, IP transaction exchanges,

etc.

• IP functions are engaged in variety of

arrangements for monetization or securitization

of IP from which IP business models are

structured for the sake of industrial and

economic development, and for benefits to all

concerned parties.

IP Business PartnersIP/Technology Development

Companies – Entities engaged in R&D

activities and produce IP often not

used for manufacturing themselves but

licensed to one or more operating

companies for their further activities in

bringing physical products or services

to marketplace. In case the IP creators

provide consulting services to the

licensees to integrate the technology

into the licensee’s products or

processes, they are considered beyond

the scope of intermediaries between

patent owner and patent

licensee. They will be intermediaries

when they form a link between the IP

creator and those who commercially

deploy it in the form of products and

services. In some cases, they do both

manufacturing and licensing.

Licensing Agents - entities functioning

as intermediaries by helping IP owners

find licensees. Also called IP advisory,

IP consulting, IP management or

technology transfer firms. They may

merely act as consultants where the

patent owner gets involved in the

licensing process, or function more like

IT companies where the patent owner

outsources patent monetization and

sets aside day-to-day licensing

operations, but collects a major part of

revenue from licensing. They can be of

“carrot” licensing or “stick” licensing

activities. In the latter case, these

entities tend to be engaged in activitieslike PLEC business model.

IP Business

Partners

(cont’d)

• Patent Licensing and EnforcementCompanies (PLECs) - own one or morepatent portfolios, attempt to licensethem through targeted letter-writingcampaigns and then file patentinfringement suits against those letterrecipients who refuse to enter into non-exclusive licenses. PLECs are often callednon-practicing entities (NPEs) or patenttrolls. PLECs might have purchased thepatents they are asserting or it isotherwise founded by the inventor(s) ofthe asserted patent portfolio. As for thelatter, they are notintermediaries. PLECs earn revenueboth from license fees and from the IPawards market.

IP Business Partners (cont’d)

• Privateers - Operating companies who have

been spinning groups of patents to PLECs to

generate additional revenue, by means of

outsourcing patent-monetization function,

that helps save the costs incurred in cross

license and counter-claim exposure, and avoid

anti-competitive regulations and bad publicity,

etc.

• Institutional IP Aggregators/Acquisition Funds

– private equities who operate as general

partners of a limited partnership and raise

money either from large technology

companies or from the institutional investors

and even high-net-worth individuals. The

investors are promised above average ROI

from selective, targeted or large-scale patent

purchases with the goal of instituting licensing

programs and/or employing various arbitrage

strategies.


• Litigation Finance/Investment Firms –functioning alike both PLECs and IPAcquisition Funds. Like IP AcquisitionFunds - general partners of a limitedpartnership and raise money from largeinstitutional investors and high-net-worth individuals. Like PLECs – with aview to acquiring a financial interest inpatent portfolios for assertion by takingthe form of targeted letter-writingcampaigns, followed with patentinfringement suits against those letterrecipients who refuse to enter into non-exclusive licenses. Variances in themodel (and from a PLEC) include thelevel and nature of ownership orparticipation (e.g., equity vs. debt) thatthe firm takes in the patent portfoliosbeing asserted or in the patent-owningentity itself (typically an LLC formed forthe purpose of assertion).


• IP Brokers – function as same asLicensing Agents with key distinctionsthat they seek to help IP owners findbuyers rather than licensees; andoperate both on the sell-side and thebuy-side (assisting technologycompanies in acquiring patents having“strategic” (i.e. defensive) value vis-à-vis their competitors). A typical “one hitand done” engagement term betweenan IP Brokerage firm and an IP owner isshorter than that of a Licensing Agentfirm because once the IP is sold, the IPBroker takes a percentage of the sale asa success fee, without any opportunityfor recurring revenue. In contrast, buy-side brokerage engagements cancontinue indefinitely as the broker’sclient strengthens and extends its IPposition over time.

IP Business

Partners (cont’d)

• IP-Based M&A Advisory Firms – Entities

operating like investment banking (or 2nd

generation IP investment banking) by advising

technology companies in their M&A activities

and earning fees based on the value of the entire

deal (or apportioned according to the value of

the IP within the deal of either sell-side or buy-

side, focusing on IP assets; followed with

services e.g. IP due diligence, IP integration and

operations as a result of M&A activity, IP deal

structuring advisory and general consultations

related to contemplated investments, mergers,

acquisitions, divestitures, joint ventures and

other corporate transactions. It involves not just

maximizing IP value in the context of a

“traditional” corporate acquisition or divestiture,

but actually sourcing the transaction based, at

least in part, on IP considerations. By this, the IP

investment banker assist operating companies in

identifying potential acquisition targets or

acquirors with complimentary IP assets.


• IP Auction Houses – Entities attemptingto do for the IP marketplace (likeChristie’s and Sotheby’s auction housesdid for the antique and art marketplace)holding multi-lot, live auctions forpatents with the intent of providing amarketplace for facilitating theexchange of such historically-illiquidassets. With various auction formatsand structures, such auctions enablesellers to offer one or more patentsaccording to a pre-determined set ofterms and conditions and allow theauction house to charge listing fees,attendance fees, buyers’ premiumsand/or sellers’ commissions. Also, otherentities aim to be the “eBay of patents”by offering online patent auctioningservices.


• On-Line IP/Technology Exchanges, Clearinghouses, Bulletin Boards, and InnovationPortals - Functioning like the former B2Bweb sites; offer web platforms andinterfaces specialized for patent and otherIP assets. (Like online classifieds Craig’s List,but this is provided for IP.) There arevariances such as whether listing fees arecharged to patent owners/sellers in additionto, or versus, back-end fees for successfulpatent sale or licensingtransactions. Additional variances includewhether these sites are public andbrowseable for free, or whether they areprivate, “member’s only” sites that requireregistration (and presumably a registrationand/or annual membership fees). Some ofthese sites also offer forums, bounties,challenges and idea exchange platformsthat aim to spur innovation and thus createnew IP.

IP Business

Partners (cont’d)

• IP-Backed Lending Firms - Entities thatprovide financing for IP owners, eitherdirectly or as intermediaries, usually in theform of loans (i.e., debt financing), wherethe security for the loan is either wholly orpartially IP assets (i.e., IPcollateralization). Thus, these parties oftenfunction as intermediaries betweenborrowers and commercial lendinginstitutions, such as banks. Unliketraditional bankers who focus on accountsreceivable (i.e. Factoring) and tangibleassets, however, these IP-backed financierstake into account a borrower’s IP assets ortarget company’s (potential or actual) IPassets in structuring a financingtransaction. Variances in this model includeentities who deploy their own capital (andthus resemble IP investment firms) or whomaintain a network of technology-specificor industry-specific investors to whom theyrefer IP owners (and thus resemble patentbrokers).


• Royalty Stream Securitization Firms - Entities providing a

consultation and/or capital to patent owners in performing IP

securitization financing transactions. In such transactions, an

entity sells their IP underlying the transaction to a bankruptcy

remote entity or SPV, and the SPV grants a license back the IP to

the original owner. Then, SPV issues IP-backed notes/securities

to investors to raise cash/fund for IP owner at the agreed-upon

purchase price. The notes are then backed by the expected

future royalties to be earned from licensing the underlying IP (to

the original patent owner and/or third parties). By this, the

original IP owner obtains funds raised at much more cheaply

than a loan backed by its traditional assets. The IP-backed notes

are generally higher-rated commercial paper reflecting the

quality of the IP and not necessarily the overall creditworthiness

of the original IP owner.

IP Business Partners In Securitization

• Securitization - A technique that isolates income-producing assets from bankruptcy risk byassigning them to SPV which then issues debtsecurities payable from the cash flows generatedby the assets.

• Debt securities achieve ratings which are setaside from the rating of the sponsor (transferorcompany/institution). Issuance is made torespond to investor demand for differentmaturities and credit qualities. Normally, thehighest ratings can be achieved via wrappingsecurities with relevant financial guarantees.

IP Business Partners - Securitization Schematic Diagram

IP Business

Partners -

Securitization of SME Assets

• A means for encouraging the

private sector credit with a

flexible and efficient off-

balance sheet funding source

• Reduce a cost of capital

• Diversify asset exposures

• Improve asset-liability

management

• Eliminate credit constraints

• Overcome the agency costs of

asymmetric information where

one has information over the

other

x • A

Y • B

Z• C

• D

IP Business Partners - SME Assets Securitization Implementation

• Germany: The securitization ofSME loan initiated in 1998 byDeutsche Bank followed byother commercial banks in2000 (Jobst, 2007). To reducethe financing cost of SMEs,KfW has been commissionedby the government toimplement the securitizationscheme to raise the financingfor SMEs.

• Japan: Securitization of SME loan is one of the program implemented by Japan Finance Corporation for Small and Medium Enterprise (Tsukahara, 2006).

• Malaysia: Securitization started in1986 when the government set up amortgage financing body calledNational Mortgage Corporation(Cagamas) to function as SPVbetween the house mortgage lendersand investors of long-term funds.Apart from mortgages securitized byCagamas, securitization for otherassets has not been very strong inMalaysia (Rosalan, 2008). Thetransaction is governed by theSecurities Commission Act 1993. In2001, SC issued Guidelines on theOffering of Asset-Backed Securitieswhich provides the criteria forsecuritization deals. In 2007,Cagamas pioneered the securitizationof SME loans via the issuance ofRM600 million credit-linked notes byits wholly owned subsidiary, CagamasSME Bhd. (Wan Azhar, 2007)

IP Business Partners - SME Assets Securitization

Implementation

• Thailand: Secondary Mortgage

Corporation (SMC) established in 1997

under the Royal Decree of Secondary

Mortgage Corporation with its initial

capital of Baht 1,000 million, as a state

enterprise financial institution under

the Ministry of Finance with its major

objective to develop the secondary

market for housing mortgage loan

under the principal of asset

securitization for fund raising activities

for the adequate and stable expansion

of housing mortgage financing, and to

expand lending activities of housing

loan market in order to resolve the

problems faced by the real estate

sector during the country’s economic

downturn period.

• Scheme: SMC purchased a pool of housing

loans from financial institutions in the

primary market, and securitized them by

issuing Mortgage-Backed Securities which are

to be sold to both local and foreign investors.

The pool of loans will be transferred to SPV

as established by SMC in order to segregate

the risk of pools of loans from SMC risk and

loan originators. Then, SPV will issue MBS

instrument backed up by the said transferred

pool of housing loans. Investors in MBS

instrument will receive both interest and

principal repayment generated from cash

flow stream collected from loan borrowers

under the specified terms and conditions.

MBS can achieve a credit rating from rating

agency, and also to be attached with credit

enhancement scheme, such as the

repayment of loan interest and principal is

insured by reliable credit insuranceinstitution, to level up the confidence.


• IP Transaction Exchanges & Trading Platforms/IPTransaction Best Practices Development Communities

In further attempts to make IP a more liquid assetclass, plans have been announced to create tradedexchanges (whether physical or online locations)similar to the NYSE and NASDAQ where yet-to-be-created IP-based financial instruments would be listedand traded much like stocks are today. Another variantinvolves an on-line trading platform where IP buyersand sellers can come together to execute transactionsbased on a set of agreed rules developed by a “bestpractices” steering committee composed of majorcorporate buyers and buyer-sellers.

IP Business Partners (cont’d) IP Exchange

• Innovation – a fast decaying rate of innovation/producthas forced the companies to learn as to how toaccelerate every aspects of businesses, particularly withIT business

• Speed� once product was launched, a plagiarism prevails e.g. knock-

off and reverse engineering

� production, marketing campaign and distribution plans cannever last for six months but to be substantially shortened toonly, for example; 6 weeks, instead

• Protection – consideration angle of being worth theeffort of regional or global patenting

“If only two can be chosen out of the three,what’re yours based on economic aspect?”

IP Business Partners - Coase Theorem

• When looking at how to deal withprotection for intellectual property,we look at transaction cost, andthat is the Coase theorem. TheFreidman book clearly states thatcopyright protection is cheap andeasy to enforce, and patentprotection has high transactioncosts and is hard to enforce. Ifthere is a very small amount thatyou are copying, there is a hightransaction cost of gettingpermission. This just makes sense,the smaller affect that you willhave on revenues and profits, thelower the copyright holder’sincentive to get that lost revenuefrom you. It would take him time,in both finding where you copiedhis work and how many times youcopied it and for what purpose.

• Freidman looks at “how an itemmust be useful before it can get apatent”. No matter what to do inthe area of productivity, peoplehave very little incentive to comeup with uses for things, and ratherjust get as many patents as you canand then when someone discoversa use for it, you get paid. But thisruns into a problem in that no onewill be looking for uses. There is noincentive for it. This has been anexcellent chapter to read in the factthat it relates directly to both lawand economics, and we can usethe analytical tools it gives us forany other form of property rightsthat we want to look at.

IP Business Partners (cont’d) - IP Exchange

• The patent exchange idea: Implied valued –based patent tax is to be paid by IP owner to acentral IP market-making body to meet theadministration costs. By issuing a good-faithbinder, the 3rd party could challenge the IPvaluation at higher level. If agreed, IP ownerwill pay the patent tax at higher level in returnfor retention. Otherwise, the 3rd party will buythe IP at higher valuation on which the patenttax is based.


• University Technology Transfer Intermediaries

These are entities that functionas IP Development Companies,IP Acquisition Funds, LicensingAgents and/or Patent Brokers,but focus on the niche universitytechnology transfer (i.e.,licensing) market. The choice tofocus on the university marketby such entities is not surprisinggiven that in the 2011 fiscal year,U.S. universities and researchinstitutes spent over $61 billionin R&D, filed over 13,000 U.S.patent applications and had over$2.5 billion in licensing revenue.


• Defensive Patent Pools, Funds

and Alliances – Of several types

of defensive entities, one was

established in response to PLEC

and Institutional Patent

Aggregator/IP Acquisition

Fund. In acquiring patents,

entities focus on one

technology/ industry segment.

With a “catch and release”

approach, this model results in

multiple operating companies

joining forces to create an

independent entity to

acquire

potentially “problematic” patents via

auctions, brokers or direct sale, and

license them to willing entity to share

the financial cost of acquiring the

patents and the management

overhead of pool administration, and

then sell them at a profit. Another is

“library fund,” where a group of

corporate investors pool capital to buy

patents that may be “of interest” to

certain large operating companies

who are known to be aggressive in

asserting patent claims against

competitors. If the alliance members

are sued by one of these companies,

they can “check out” the patents to

use in a counterattack (not useful

against asserters who have no

infringement exposure.)


• Technology/IP Spinout Financing- best described as beingorganized as a traditional venturecapital (VC) or private equity firm,but specializing in spinning outpromising (non-core) IP which hasbecome “stranded” within largertechnology companies, orcreating JVs between largetechnology companies tocommercialize the technologyand monetize the associatedIP. Thus, the revenue is as sameas a traditional VC or PE firm –achieving a high ROI once aportfolio company is sold, goesthrough an IPO (Initial PublicOffer) or even evolves into an IPlicensing company.

• Analytics Software and ServicesFirms - Entities providing advancedpatent search and analytics softwaretools that allow patent owners,prospective buyers, attorneys,investors and other players in the IPmarketplace to obtain various duediligence intelligence and data pointsabout a single patent or patentportfolio. These software tools andplatforms provide varied outputsrelated to patent “quality” such asvalidity probabilities, maintenancefee-related life expectancies, variousinfringement-related metrics, priorart analysis, “related patent” analysis,citation-related metrics, etc. Theseentities earn revenue from puresoftware sales/licenses, as well asconsulting fees.


• IP Insurance Carriers - Typical

commercial insurance under

Commercial General Liability policies

carried by businesses do not cover IP

claims. Insurance carriers currently

market three basic types of IP

policies:

– First-Party IP Coverage, which

protects the value of an insured’s

direct loss sustained when its

revenue streams are diminished

from a direct and resultant

impact upon its IP rights;

– IP Defense Cost (Defense

Coverage), which protects a

company against allegations that

it improperly used the IP of

another; and

– IP Abatement Coverage

(Enforcement Coverage), which

funds an attack on a party that

improperly uses the insured’s IP.

• What items can be insured?

� IP-Rich Products’ future revenue

streams; Licensing Revenue;

Royalty Receipts

� IP “Value” – accounting

principles

� R&D Expenditure

� Financial Investment

� Loan Arrangement

� Transaction involving IP rights,

etc.


• Analytics Software andServices Firms - Entitiesproviding advancedpatent search andanalytics software toolsthat allow patent owners,prospective buyers,attorneys, investors andother players in the IPmarketplace to obtainvarious due diligenceintelligence and datapoints about a singlepatent or patentportfolio. These softwaretools and platforms

provide varied outputsrelated to patent “quality”such as validityprobabilities,maintenance fee-relatedlife expectancies, variousinfringement-relatedmetrics, prior art analysis,“related patent” analysis,citation-related metrics,etc. These entities earnrevenue from puresoftware sales/licenses, aswell as consulting fees.


• Patent-Based Public Stock IndexPublishers – As an evolution of theestablished Analytics Software andServices business, once theentities offering these softwaretools and platforms realized thatnearly 80% of the value of a U.S.publicly-traded company nowcomes from intangible assets, and

that they possessed tools tomeasure the “quality” of arguablythe largest part of those IAs, it’sobviously that another potentialsource of revenue would be thecreation of formalized stockindexes based on their existingsoftware tools and platforms. Putin different terms, the analyticssoftware and services industry

theorized that investing in stockswith valuable patents may allowinvestors to commit a meaningfuland sustainable portion of theirassets to IP and allow them tooutperform other investmentstrategies. They sought outdifferent algorithms to createbaskets of stocks using the“quality” of a publicly-tradedcompany’s patents as the primaryselection factor. Revenue fromsuch an emerging business modelincludes the sale of equityresearch and the licensing of suchindexes to ETF, mutual fund andother investable financialinstrument issuers.

IP as a subset of

Intangible Assets

• Intangible Assets are those encompassing

domains of Intellectual Capital (IC), Intellectual

Assets (IA) and Intellectual Property (IP)

• Intangible Assets = IC + IA + IP, where

IC – Knowledge with potential for value

embodied in people, processes and

customers that comprises reputation,

goodwill, business relationships, customer

relations, licenses, branding and human

resources

IA – Knowledge providing value that

comprise skills, know-how, inventions data,

processes, market data, information

unorganized

IP – Knowledge legally identified

comprises patents (e.g. technology and

design), know-how implemented,

trademarks, copyrights, trade secrets,

geographical indications

IP Parameters

• Values defined by situation• Bankruptcy – Fair Valuation

— Liquidation – assumes a distressed

sale (appropriate when

debtor is dead or mortally wounded).

— Going concern – cash realized from a

sale over a reasonable period of time.

• Fair Market Value

— Tax Definition

— Willing buyer and willing seller

— Neither under compulsion to buy or

sell

— Both having reasonable knowledge of

relevant facts

• Fair Value

— Definition for financial reporting

purposes

— Current transaction between

marketplace participants

— Both able and willing to transact

Value-Affecting Factors

• IP - Cash Flow

– Revenues

– Costs

– Profits

• Remaining Life

— Economic

— Statutory

— Stage of Development

• Market/Industry Factors

— Growing or Maturing

— Competitive Environment

— Uncertainty/Risk

IP Economic Characteristics

Economic Characteristics• Not of a diminishing value by time of

exploitation

• Not always be restricted to a single user, but

likely to be applicable to multi-users, IP value

can be managed on a multi-disciplinary basis

to gain benefits as desired for all partners

• Not necessarily depend on IP asset-creating

or inventing investment cost, but rather on

commercialization ignition spark after project

completion, and perhaps or more likely to be

associated with other assets

• Be context specific (e.g. internal

development, JV, sale or licensing) with

relevant time specific parameters (e.g.

historical, current or potential)

• Devalued after achieving the saturation of S-Curve

Value Sources

• Direct Use

— Manufacture and/or Marketing of Products

• Indirect Use

— Strategic Alliance/JV Opportunities

• Licensing/Sale

— Additional source of revenue

• Strategic/Defensive

— Building up higher entry barrier against competitors

• Tax

— Built-in-gains to offset 382 limitations /197 benefits /Donations

Patent Rights• A patent gives the patent owner

the "exclusive right" to stop othersfrom making, using, selling oroffering for sale the product, orprocess of making the product, thatis described by the patent claims. Itis important to note that a patentdoes not give the patent owner theright to exploit the patentedinvention himself. The patentowner has only the "exclusiveright" to stop others from doing so.

• In other words, just because youobtain a patent on your productdoes not mean that you canactually use the product. You maybe blocked by an earlier patentowner who exercises the "exclusiveright" granted to him under hispatent. This is an importantdistinction and the followingexample will help to explain it.

•

Suppose the invention covered by your patentis a chair with four legs, a seat, a backand a pair of rockers -- a rocking chair.Under your patent, you have the exclusiveright to stop others from making, using,selling or offering for sale your patentedrocking chair. Assume the rockers on yourrocking chair are unique and covered byan earlier patent to someone else. Therocker patent owner has the exclusiveright under his patent to stop others(including you) from using his patentedrockers. Use of the patented rockers onyour rocking chair would constituteinfringement of the rocker patent.

So while you received a patent for yourrocking chair, you will not be able toactually make, use, sell or offer for salethe chair without first obtaining permissionfrom the rocker patent owner. The rockerpatent owner is not required to give youpermission, however, and can keep yourrocking chair off of the market if hechooses to do so. It might make bettersense for the rocker patent owner toparticipate in your success by giving hispermission in exchange for a licensingfee.

Patent Pooling

• The patent system has beenrecognized of negativeoutcome on account of beinga tool more likely to stiflethan protect innovation. Thisnegative sentiment stemmedfrom the recent victory ofApple over Samsung.

• As for the future role andefficacy of the patent system,product and technologylicensing is not anathema(vehement disagreement) tothe qualities of fairness andtransparency.

• Patent pooling is a proven,effective tool that helps the

industry better manage itspatent licensing. By “pooling”patents from many licenseholders, licensors are likelyable to lower transactioncosts and administrativeoverhead, and benefit from acentralized model thatencourages patent bundlingand fair play. Licenseeslikewise enjoy advantages inthe form of lower royalty feesand a single point of contactthat eliminates the need tonegotiate separately withmultiple license holders.

IP Valuation

Characteristics

- IP assets are of intangible unique characteristics with their inherent values, depending upon:

– Widely varying terms & conditions

– Inherently dissimilar

– IP transfers are often motivated by unique strategic considerations

– Details of IPR transfers are usually not widely disseminated

IP Valuation

- not much a matter of sciencebut rather a matter of art orexternal judgment:

– Purpose – Why are we valuing the asset?

– Description – What is theasset?

– Application – How will the asset be used?

– Standard – Who is the assumed buyer of the asset?

IP Valuation

• IP valuation is involved in

the process itself with IP

driving parameters (e.g.

market share, barriers to

entry, legal protection, IP’s

profitability, industrial and

economic factors, growth

projection, remaining

economic life and new

technologies).

• The process is concerned about

gathering of information and in-

depth understanding of economy,

industry and specific business

that directly affect the IP value.

• Information are used for

structuring a financial model that

can generate the specific values

based on internationally-

accepted standards (e.g. USPAP,

IVSC, GAAP, IFRS and FASB),

where either or combination of

the following approaches are

taken into account, that is, cost

approach, market approach,

income approach, direct

approach, and pay-off approach.

IP Valuation

• Monetization and valuationare indispensable to each other from basic marketplace to complicated one.

• Sale, licensing, with somevariation or combination ofsale and licensing are basicpart of IP monetizationamong large, medium andsmall companies and amongnon-practicing entities usingvarious IP business modelsin the marketplace.

• Known IP business modelsare auction and IPinfringement insurance in

their certain marketplacesin which patents staydominant.

• Other IAs like brand loyaltyand customer relations willdefinitely help driving theacquisition activities inwhich intellectual capitaland skills of humanresources are specificallytargeted in the advancedtechnology sector like IT.

IP Valuation

• A monetization is mechanized in

debt-financing marketplace, with

an exchange between revenue

stream as generated by the

pledged income-producing IP and

fund or loan as provided by IP

financier.

• A securitization is invented to issue

a note/bond secured with revenue

stream as generated by the subject

IP in return for a fund from

investors. Bowie Bonds is for

example.

• As IP valuation is rather art prone,

not only a valuation of variant IP’s

inherent uniqueness, but its

transferability course of action is

also concerned with uncertainties

prevailing in many circumstances

e.g. valuations of patent portfolio

or trademarks for a brand.

The following are challenges in

determining IP value:

� Lack of data consistency and

accuracy

� Lack of patent-related

metadata e.g. data supporting

the apparent data or

configuration data

� Limited legal linkages

� Patent and non-patent

reference visibility

� Lack of standard or accepted

metrics

IP Valuation• IAs generate incremental returns for

the business either through revenueincrease or cost reduction, whereasmost of the IP valuation methodsemphasize a capturing of the valuesof those additional returns.

• IP valuation approaches:

– Market approach – comparable market transactions needed

– Cost approach – using main costs and associated costs assumed in replacement or reproduction of the subject IP asset, and its depreciation

– Income approach – determining the income of IP asset by also taking into consideration anticipated utilization expenses besides its revenue generated

– Excess operating profits –determining the additional profits pertinent to IP possession

compared to competitors who do not.

– Premium pricing method –figuring out the price difference between a branded and unbranded product, net of marketing or supporting costs to achieve the revenue.

– Cost savings method –calculating the present value of the cost savings anticipated from IP ownership

– Royalty savings method –assuming the non-ownership scenario where the business needs to license it to earn the returns that it is earning.

– Pay-Off Method (POM)

IP Valuation

IP Valuation for Financial Reporting

• Being essential for fulfillingvarious information asdemanded by the interestgroup or investors.

• If it just provides informationabout the company itselfcovering an ability to createprofit, cash flows and changeson capital, as well as itstangible and financial assetsand liabilities.

Where are the intangible assets?

What the real value of the company in focus is?

• Lack of relevant informationon intangible assets (includingintellectual assets) will disablethe possibility for investors orexternal users to perceivereal value of the company andadequate decision making.

IP Valuation for Financial Reporting (cont’d)

What criteria should be accepted?

• Too rigid - results in undervalued pricing with respect to market price

• Leniently – results in over-pricing

U.S. Financial Accounting Standards Board (FASB) – 2001

Generally Accepted Accounting Principles (GAAP)

IP Valuation As A Transaction Strategy

• A strategic valuation

of IP is rendered

when considering

buying, selling,

assigning or

transferring the

asset in a licensing

arrangement or

acquisition.

• Transaction strategy

often ends with ‘go

on’ or ‘stop’

recommendation.

• That is, at what price

to enter into this

proposed transaction?

IP Valuation in Financing

• Information and Data Required

a) What are the expected annual revenues from licensing and other contractual arrangements?

b) What historical revenue numbers are available to support these future projections?

c) What is the term over which these revenues are expected to be received, and will the

d) y diminish or increase over time?

e) Provide a proforma scheduleshowing theseprojectedrevenues over the

expected term ofreceipt ; identifythe licensees orother obligorswhich will beresponsible forthese revenues,and show how therevenues shownon the pro formaare allocatedamong thesevariouslicensees/obligors

f) Provide a briefsummary of thelicenses or othercontractualarrangementsunder which theserevenues arepayable, including,inter alia, for each,

Financing: An

increasing area of

activity is the

financing of IP assets.

This can be achieved

through a number of

ways, including

borrowing against the

license stream (similar

to Factoring) of IP

IP Valuation

• Assets that may be valued using the cost

of creation method include:

– Internal Software

– Patents

– Trademarks

– Copyrights

– Subscriptions

– Customer lists

– Service contracts, etc.

Cost of Creation — The

cost of creation method of

valuing intangible assets

relies on calculating what it

would cost another

business to duplicate a

given asset today. This

method does not measure

an asset’s future impact on

profits; it merely looks at

what it would cost to

create the asset from

scratch at a particular

point in time.

IP Valuation –

Cost-based

method

Disadvantages

– There is no direct correlation between cost

of development and the future revenue

potential of assets. IP that costs the most to

produce may not necessarily be the most

valuable.

– Likewise, IP which is many years old and has

been written down in value could still be the

most valuable to the company, even though

the historical cost approach does not show

this. The measure of historic costs is

unreliable with rapid technological

advancement.

– It is not always possible to provide accurate

information on the resources spent on

development and there will always be a

practical challenge to determine which costs

to include or exclude.

– Cost-based methods make no allowance for

the future benefits which might accrue fromthe IP.

Advantages

- IP becomes

visible in the

company’s books

- IP awareness is

increased.

- Regarded as a

useful indicator of

IP value in the

case of IP assets

whose future

benefit is not yet

evident.

IP Valuation –

Cost-based Method

When are they used?

They are generally used in

accounting, bookkeeping and in

accordance with accounting rules.

They are only useful for bookkeeping

purposes or as a supplement to an

income approach. They are only

relevant in historical cost-based

accounting systems or wheretaxation methods dictate their use.

IP Valuation – Income–Based Method

• Capitalization of Income or Savings

Method — The capitalization method

measures the future benefits

intangible assets will bring to a

company, when those benefits will be

generated and for how long. The

capitalization rates used in this

method should reflect the risk

associated with the intangible asset

being valued.

• In addition to the income an intangible

asset may bring to a company, the

benefits may also include savings to

the company as a result of owning the

asset, or not having to pay a royalty to

someone else who owns the asset or

of efficiencies generated by the asset.

• Assets that work well with this

method include:

– Trade names

– Customer lists

– Commercial Software

– Patents

– Trademarks

– Brand names, etc.

• The capitalization method works well

for all of these assets when they are

relatively new. As they come closer to

the end of their economic usefulness,

however, other methods of valuing

them may become more appropriate.

IP Valuation – Income-Based Method

• Advantages

– It is simple to assess the

value on the basis of the

conditions set up. With the

likely availability of many of

the required inputs from the

firm’s financial statements

and market information it

may be possible to identify

and or forecast particular

cash flows.

– In specific circumstances this

method is useful, especially if

there are suitable

comparable transactions

involving third parties or

industry standard royaltyrates.

• DisadvantagesDisadvantagesDisadvantagesDisadvantages– Although the methods are conceptually

robust, they can prove difficult to implementin high-uncertainty environments. This taskalways includes some uncertainty andsubjective assumptions.

– There are both uncertain and distant cashflows and the discount rate have to beestimated. For example, there is rarely anexperience base when estimating themarket potential and therefore cash flow ofearly stage IP developments.

– All risks are summed together andassumed to be appropriately adjusted for inthe discount rate and the probabilities ofsuccess, rather than being dealt withindividually (such as legal risk, technologicalrisk etc.).

– A significant drawback of the relief fromroyalty method is that a royalty rate canalways be assumed, when in reality it maynever materialize.

– It ignores changes in the time value ofmoney and maintenance Cost.

– Does not account for market demand.

IP Valuation – Income-Based Method

When are they used?

• Income approach to IP valuation is only

accurate if the following variables are

available or can be accurately estimated:

– an income stream either from product sales or

license of the IP

– an estimate of the duration of the IP’s useful life

– an understanding of IP specific risk factors for

incorporation into the valuation and a validdiscount rate.

IP Valuation - DCF

• Discounted Cash Flow — The discounted cash

flow method is good for assets with

predictable life spans and future financial

benefits, including:

– Contracts (current and future yearly benefits);

– Subscriptions and service contracts; and

– Patent royalties.

• The DCF method can be applied to savings

flows as well as to income flows.

Exhibition on DCF Calculation

The sources of risk are the revenue growth rate and the variable costs as a percentage of sales.The average of the DCF is known as the net present value (NPV) and standard deviation as volatility. The results show that the average DCF is positive (about 40), whereas the probability of a negative DCF is about 15%. The decision as to whether to proceed or not with this project will therefore depend on the risk perspective (tolerance) of the decision-maker. This example has also been extended to calculate the distribution of bonus payments on the assumption that a bonus is paid whenever the net DCF is larger than a fixed amount (such as 50).

• 1 2 3 4 5 6 7 8 9 10

• Revenue 100 105.0 110.3 115.8 121.6 127.6 134.0 140.7 147.7 155.1

• % growth 5.0% 5.0% 5.0% 5.0% 5.0% 5.0% 5.0% 5.0% 5.0%

• Average 5% 5% 5% 5% 5% 5% 5% 5% 5%

• S.D. (Volatility ) 8% 8% 8% 8% 8% 8% 8% 8% 8%

• Fixed Cost 35 35 35 35 35 35 35 35 35 35

• Variable Cost 50 53 55 58 61 64 67 71 74 78

• Variable Cost 50.3% 50.3% 50.3% 50.3% 50.3% 50.3% 50.3% 50.3% 50.3% 50.3%

• min 48% 48% 48% 48% 48% 48% 48% 48% 48% 48%

• ml 50% 50% 50% 50% 50% 50% 50% 50% 50% 50%

• max 54% 54% 54% 54% 54% 54% 54% 54% 54% 54%

• Profit/Cash Flow 15 17 20 22 25 28 32 35 38 42

• DCF 12% 139.6

• Investment 100

• Net DCF (NPV) 39.6 Average N/A

• p(<=0) N/A

• Bonus limit 50

• Bonus 0.0 p(>0) 37.4

IP Valuation - DCF Method

• Limitations of DCF Methods

�Use of DCF based method can become

inordinately complex when;

� In situation where a decision may have to be

taken continuously

� The discount rate need to change continuously

varying with underlying IP asset value and time

� Proponents of use of real option methods for IP

valuation argue DCF based methods do not address

issue of managerial flexibility

Monte Carlo Method

• Monte Carlo method is

understood as any

technique of statistical

sampling employed to

approximate solutions to

quantitative problems.

• Evaluates how possible future

outcomes can affect a current

decision.

� Assign appropriate probabilities

to different outcome

• Very useful in considering IP with

no prior commercialized track

record (new or unique in the

market)

• Useful in considering intrinsic

uncertainty in underlying earnings

potential of IP asset

• Based on DCF method

• Usually used in income

projection sensitivity analysis

• Addresses a situation where

more than one analysis variables

are related e.g. price of

product/service and market

penetration

• Each simulation exercise one or more variable is changed

Monte Carlo Method

• Procedural Process– Identify inputs (e.g. market

size, cost of goods sold)

– Identify useful life time

– Choose discount rate

– Choose minimum, maximum

– Prescribe randomness through distribution (e.g. uniform, normal, triangular, etc) and probability

– Enter into model

– Run sensitivity analysis

– Make a decision

• Variables used

– Capital investment needed to develop a technology

– Time needed to deliver product to the market

– Potential market size

– Potential product/license

revenue

• Sensitivity analysis is useful in

highlighting key uncertainty

• Identifying such uncertaintyprovide an opportunity to reducethem which greatly improvesquality of prediction

Monte Carlo Method

Challenges – More complex in

manual computation

– Prone to be Garbage-In Garbage-Out (GIGO)

Benefits– Able to identify

probability of specific outcome

– Able to identify variables which have influence in the model (e.g. net present value)

– Add more flexibility to the model

– Obtain clear charts and reports

IP Valuation –

Option Pricing-

Based Method

Option pricing based methods

The theory behind option pricing was

primarily developed for use in pricing financial

options but can also be applied to a number

of other situations other than directly

financial assets. The valuation of IP still in

development or being commercialized is one

such framework. Option based methods

essentially belong in the income based

methods category as they too use expected

future cash flows to measure value.

The basic definition of an option is a right but

not an obligation, at or before some specified

time, to purchase or sell an underlying asset

whose price is subject to some form of

random variation. Options are priced using

the Black-Scholes option-pricing model,

which is a mathematical model for the

valuation of options.

Real Options Method (Non-

financial Options)

Real (non-financial) option

valuation methods treat the

development as well as

commercialization of IP as a series

of options. As the IP is developed

and commercialized, many

decisions about investment

timing, when to patent,

abandonment, direction of

research etc. must be made. The

information to make these

decisions is often not available at

the time of valuation, but

becomes available later. The real

options method, using the Black-

Scholes model, takes into account

the flexibility of these future

decisions.

IP Valuation - OPT

Black-Scholes Model

IP Valuation

OPT vs Real Option

OPT

• Time to expiry

• Exercise price of the financial option on share

• Current price on the underlying share

• Standard deviation of the underlying share return

• Risk free interest rate

Real Option

• Time to invest in

• Investment cost of

real option project

• Present value of

project cash flows

• Standard deviation of

project value (volatility)

• Risk free interest rate

IP Valuation – Option Pricing-Based Method

Advantages

It incorporates the valueassociated with the uncertaintyand accounts for the flexibilityinherent in the development of IP.The value associated with theuncertainty of cash flows and theability to manage thedevelopment of the IP isaccounted for. Like the DCFmethod it values the stream ofcash flows but it also accounts foracquired knowledge. As a result, itprovides a more completeevaluation than the DCF as itcaptures more than simply cashflows and static costs.

Disadvantages

The main disadvantage of the

real options method is the

complexity of the model. It is

difficult to understand and the

evaluation can be costly to

perform. Some experts doubt the

accuracy of options based models

for use with real investments

such as IP. The main arguments

are that option based models

over-value IP through the

inclusion of non-viable

development as well ascommercialization decisions.

IP Valuation – Option Pricing-Based Method

When are they used?

• The real options method is

applicable when confronting a

high degree of uncertainty or

being in the situation of

complexity, adding some

managerial flexibility, and not all

the information is known at a

particular time.

• Based on Black-Scholes

model used in valuing options

on financial assets.

• It is increasingly used in the

biotechnology as well as

pharmaceutical industries andearly stage IP developments.

Conclusion

• Monte Carlo Simulation uses a random number generation to simulate reality

• Possible to generate

thousands possible

scenarios

• Made easy by

availability of software packages

IP Valuation –

Market-Based

Method

� Auction In a perfect auction, there aremany potential buyers with perfectinformation about all aspects of the IP.The value of the IP is determined by theprice reached through bidding.

� Comparable market value The value ofthe IP is given by comparison with similarcomparable independent IP or similartransactions.

� Comparable royalty rate Market basedvaluation methods may also be based onthe comparison of royalty rates usedwhen licensing similar IP. Many sectorsoften use industry averages as a basis forsetting royalty rates in licenseagreements or in establishing damagesin litigation. The value of the IP is giventhrough the comparison of the subject IPwith the royalty rates in similar licenseagreements.

Market-based methods value

IP through comparison with

prices achieved in recent

comparable or similar IP

transactions between

independent parties.

Observing the prices of

comparable assets traded

between parties in an active

market gives a value to the

subject IP. The idea behind

these approaches is that the

market decides the accurate

price and therefore the value

of the IP. Market based

methods include IP auctions,

comparable market and

comparable royalty rate

methods.

IP Valuation – Market-Based Method

Advantages

Observing the market is a relatively straightforward valuation method. It is useful to check the validity of other approaches.

Disadvantages

- Lack of IP markets and information

- Uniqueness of IP makes direct comparison difficult

Disadvantages (Cont’d)

- There is a risk of comparing the subject

IP with other IP which has been traded

but which has still not been utilized in full

stretch. In these cases the IP can be

undervalued.

- When royalty rates are compared, there

are also some potential distorting

problems. Royalty rates set using returns

to R&D costs, return on sales figures or

industry averages run the risk of valuing

costs or other factors rather than value.

- Search for a comparable market

transaction is futile

– Lack of compatibility

– IP transactions are part of a larger

transaction and details are kept

extremely confidential, it is never

possible to find a transaction

IP Valuation – Market-Based Method

When are they used?� Market based methods are useful when a market value is

required for any given subject IP. These methods require anactive market, a comparable exchange of IP between twoindependent parties and sufficient access to transaction priceinformation.

� There are limited formal markets for IP and the relevantpricing information is not usually public. As a result, the use ofthe comparable market value approach to valuing IP is rare. Theuse of comparable royalty rates are more widespread, especiallyas databases of industry royalty rates and comparabletransaction information have been collated by larger IP right-holders and independent companies offering valuation services.

� In the future, when IP markets become active and public, theuse of market based approaches can become more established.

IP Valuation – Royalty Savings Method

• Execution of the Royalty Savings method in a scenario of M&A

-- Select an appropriate royalty rate (as a percent of revenue)

• Search for agreements regarding the licensing of comparable technologies• Review of the royalties paid as for the use of the comparable technologies,

and a comparison relative to the insured patent• Analyze the company’s excess earnings, and hence its ability to pay a

royalty and still generate a fair return

– Project the expected future annual revenue attributable to the IP;

– Calculate the royalties that the owner is relieved from paying by

multiplying the projected annual revenue by the royalty rate;

– Reduce the royalties by the taxes that would be due on the

incremental profit created by the relief from paying royalties;

– Discount the after-tax annual royalty savings to present value at the

appropriate discount rate;

– Sum the discounted after-tax royalty savings to estimate the value of

the Intellectual Property.

IP Valuation – Royalty Savings Method

• Execution of the Royal Savings Method under a scenario of

owning IP and in a development process for technological

feasibility or market commercialization .

– The application of this approach is in the same manner as

detailed in the M&A scenario, with the exception of

probability weighting the expected future royalty income

to reflect the uncertainty associated with the project

achieving technological feasibility.

– Application of this approach assumes that the owner

would license the rights to the IP in exchange for future

royalty payments to a third party during or at the end of

the R&D phase, rather than commercializing and

marketing the completed product using its own resources.

IP Valuation – Pay-off Method (POM)

• POM is an analysis method that is suitable for cases, wherethe value information is in the form of scenarios. It is aboutthe way to create a distribution from values of, usuallythree value scenarios, minimum possible value scenario,and maximum possible value scenario.

• Observe that the best guess scenario is the most likely oneand assigning it full degree membership in the set ofexpected outcome. Decide that the maximum possible(optimistic) and the minimum possible (pessimistic)scenarios are the upper and lower bounds of thedistribution. Do not consider values higher than theoptimistic scenario and lower than pessimistic scenario.Assume the shape of the POM distribution is triangular.Calculate a real option value for the patent under analysisdirectly from the pay-off distribution by using fuzzy pay-offmethod for real option valuation.

IP Valuation – Qualitative Evaluation Method

• Qualitative evaluation methodsprovide a value guide for thesubject IP through the ratingand scoring of different factorsrelated to the IP. These factorsor “value indicators” caninfluence the value of the IPboth positively and negatively.� Patent information related

value indicators used tosuggest the existence of strongcorrelation between patentvalue and standardizedindicators observable in patentinformation documents.

� Evaluation of value indicators:IPScore is used to valuetechnology, patents and patentportfolios internally, withincompanies. The tool provides a

framework for evaluating andstrategically managing patents.It consists of five categories:legal, technology, market,finance and strategy, each ofwhich has 5-10 associatedindex questions. Each questionrelates to a different valueindicator. Each question is rated1-5 according to the patentsstrengths and weaknesses.

� Together, the 40 or so valueindicators form a whole pictureof the patent and its relativerisks and opportunities. Theseare then displayed in varioustables and graphical forms tobe used by management formaking strategic decisions.

IP Valuation – Qualitative Evaluation Method

• Advantages

- Simplicity is the main advantage

of patent information related and

non-patent value indicators. Once

the relevant information has been

researched and is available in a

useable form its relatively easily to

classify and evaluate the IP without

the need for complex methods.

- Data for the evaluation is often

publicly available. With sufficient

expertise it is possible to value IP

belonging to other parties. As a

result, these qualitative methods

facilitate the comparison and

ranking of IP within a company’s

own portfolio or against

competitors’ IP.

• Disadvantages

- Valuing IP using patent information

related value indicators have many

drawbacks. For example simply counting

citations avoids taking a stand on

questions such as how and why citations

arise and what type of information they

convey. Focusing on simple counts

deliberately ignores any added

information within the network of

citations. Using value indicators as a proxy

for value is only as useful as the level of

expertise of those who are conducting the

valuation. One must also decide which

indicators are relevant to the value of a

particular IP, and which are not. The

quality and realism of the qualitative

evaluation in IPScore, for example, is

greatly dependent on the quality ofinformation used.

IP StrategyTo optimize the value

of IP assets, valuecreation functioncan be simplyformulated whereprofitability restsupon price andcost mechanism.The price will berising on accountof strategicmanagement suchas productuniqueness,productdifferentiation,monopolisticcompetition,

higher barrier toentry, innovationand branding.

Cost savings canbe achieved ifgranted taxincentives andother taxprivileges, and dueto economy ofscale and skilledwork force.

Σ Profiti

= (Pricei – Costi)

x Volumei

IP Strategy

SWOT analysis providesself assessment throughinternal audit that revealsstrengths and weaknesses,while taking opportunitiesfrom the external factorslike technological progress,government laws andregulation, life styles,demography, political andeconomic situation; andescaping the risks from IPinfringement, the act ofnot pursuing IPcircumvention andplagiarism.

Qualitative evaluationmethods are most oftenused for the purpose ofinternal IP management.They are most useful forcomparing, categorizingand ranking IP within aportfolio or vis-à-viscompetitors’ IP. They arealso useful for assessingthe risks and opportunitiesof IP.

IP Audit

IP audit is a strategic

exercise where IP assets are

to be inventoried and then

mapped against the current

business and future

strategic priorities. Within

an audit process through a

classification or taxonomy,

IP assets will be categorized

in manner that actionable

information is provided for

IP asset optimization by

means of technical analyses

(e.g. SWOT).

Taxonomy can assist theCompany in determining theextent to which current andfuture products areprotected (e.g. to identifythe existence of strategicgaps in the portfolio andpockets of non-core IP), andfurther performingcompetitive assessment(e.g. to determine theposition and trajectory ofrivals’ portfolios).

IP Audit (cont’d)

� understanding entire business strategy

� to align IP strategy with business goals

� to identify key target markets, products and technologies

� IP assets identification

� To ensure not missing all relevant IP assets

� IP assets categorization

� Using taxonomy to assess the strength and relevancy of IP

� IP assessment

� competitive (e.g. SWOT, GAP, trajectories)

� opportunity (e.g. licensing and sale, utilization across SBUs)

and risk (e.g. litigation)

� process and control (e.g. best practices, strategic patenting,

licensing compliance)

IP audit

process which

is used to

support the IP

business plan

needs these

essential steps

of action:

Thank You

Documents

Ip aspects of valuation malaysia