Valuation Tools for Assessing IP-Related Risks

Mon, 5/11/2015 - 2:00PM — ROY D’SOUZA

Every intellectual property (IP) valuation is unique and requires different methods to form a proper analysis that accounts for the risks involved in a particular scenario. Specific tools and techniques are employed when assessing and accounting for the inherent risks associated with IP, particularly in a transaction setting. Appropriately selecting each applicable discount used is crucial in determining a reasonable fair market value (FMV). Careful consideration must be given to not only choose the right tools for the job, so to speak, but also implementing them in an appropriate manner.

Several of these tools may be used in conjunction while assessing IP-related risks, not least among them is capturing litigation risk. PricewaterhouseCoopers released a Patent litigation study in 2014 with valuable data from 1995-2013 which provides insight into patent-specific litigation risk. Chief among these data are trial success rates (where liability decision was made in favor of the patent holder) of patent-related court cases by entity type (practicing entity and non-practicing entity), industry type, and trends over time. These success rates take into account cases decided at summary judgment regarding invalidity and/or infringement, and at trial decided by a judge or jury. Additionally, overall market litigation risk can be a useful tool to assess risk. If an industry is especially litigious and has seen a large amount of recent IP-related lawsuits, there may be more risk inherent in applicable IP. In contrast, an industry relatively void of litigation may pose less IP-related risk.

On a macro level, newer markets or those with unproven technology may pose a high level of risk. This high risk is associated with the uncertainty of commercialization success, particularly the threat of new substitutes entering the market and rendering the unproven technology obsolete. Mature markets, on the other hand, generally have a proven history of success and well-established trends of growth, market revenues, and technological advancement. In order to account for this market risk at a given phase of commercialization, a risk-adjusted hurdle rate (RAHR) associated with the IP can be used. Mature or less-risky markets receive a lower RAHR, while newer markets and technology receive a higher RAHR. This has the purpose of discounting the time value of potential cash flows related to the IP-in-question, and functions to account for a hypothetical buyer’s required rate of return for the technology’s given level of risk.

There are also risk considerations that are idiosyncratic to a company or industry. For instance, in the development of a pharmaceutical drug, the process of clearing various regulatory entities could potentially render a composition of matter patent around said drug obsolete for that jurisdiction. In this case, historical clinical phase approval rates are evaluated to appropriately account for the risk of this obsolescence. Similarly, many companies have unique IP such as trade secrets or know-how that is deemed not patentable or more valuable away from the public domain. Should these secrets or know-how be revealed to the public, they are rendered obsolete, as there is no legal recourse to pursue for the original holder against the discovering entity. As such, evaluation and risk adjustment related to the protection of these secrets must be made at a company level.

Geography can be an important risk factor as well, as different countries have different IP regulations and policies. Thus, there may be significant differences in obtaining, retaining, exploiting, and enforcing IP rights between countries. Organizations such as the U.S. Chamber of Commerce Global Intellectual Property Center evaluate these factors and publish relative IP regime quality metrics of individual countries, which can aid in determining a proper risk adjustment. Countries with weaker IP regimes can decrease the strength of IP held in that country, and in such instances a risk adjustment may be required to account for this lower strength of IP rights. Conversely, countries with strong IP policies and enforcement present less risk to the rights of IP holders, and may necessitate a less impactful risk adjustment, if any.

In summary, a vast array of IP risk adjustment tools exist to help with valuing IP, none of which can be applied in a “cookie cutter” fashion. Inappropriate use could potentially cause misleading results and render a value conclusion meaningless. This unique nature requires careful consideration, and a disciplined approach should be used when applying these tools to arrive at meaningful conclusions.

A special thanks to Dan McEldowney and Tristan Sieve for their contributions to this blog post.

 

Photo by Jorge Franganillo / CC BY-SA 4.0

 

← PREVIOUS PAGE




Roy D'Souza is a Managing Director responsible for leading Ocean Tomo’s Valuation practice. Mr. D’Souza’s work has focused on valuations of intangible, intellectual property, and tangible assets for acquisitions and divestitures, bankruptcy and restructuring, establishment of intellectual property monetization strategies including licensing, mergers and joint venture/partnership formations, litigation support, and financial reporting and tax matters. Mr. D’Souza also has experience performing business enterprise, equity and debt valuations. Industries in which he has experience include wireless and wired communications, semiconductors, life sciences/pharmaceuticals, computer hardware and software, various light and heavy manufacturing (e.g., pulp/paper, automotive, plastics), and energy/utilities (primarily power generation).

Contact: RdsouzaBlogs@OceanTomo.com

View more posts from Roy D’Souza