Valuation Approaches

There are three valuation approaches, namely the cost approach, sales comparison (or
market) approach, and the income approach.

Cost approach ‐ This approach values the IP on the basis of its historic cost of creation, or the estimated cost to create a replacement asset with similar commercial utility.
Consideration is given to all costs (expressed in current values) associated with replacing or replicating the IP, less an allowance for any forms of obsolescence that has occurred.
The cost approach is only appropriate for valuing easily replicable assets. The non‐linear
relationship between the development cost of certain IP and its value must be born in mind. This is reflected in a situation where millions of dollars in R&D are incurred on unsuccessful technology that has negligible value.

Sales comparison approach ‐ This approach establishes value by comparison to recent sales of comparable assets. Information regarding the standalone sales of patents and trademarks are sometimes available; however, IP is more frequently sold as part of a business combination. The unique nature of IP means that even if sales prices for comparable IP are available, adjustments are required for differences in the utility of the asset and for factors such as the relative market conditions at the time of the sale and the remaining economic life.

Income Approach ‐ Finance theory holds that the amount that a rational investor will pay for a business or asset is the cash flow that it is expected to generate, discounted by the cost of capital (which takes account of the asset’s risk profile). The income approach is generally the most appropriate approach for valuing patents and
trademarks. Identifying the current income generated by the IP. For property that is integrated into a business unit, this will involve determining the portion of the earnings that are attributed to the IP.