VALUATION OF INTANGIBLE ASSETS

Valuation is most essential part of life whenever one wants to buy something.  The value gives us an idea  of how much ‘value’ the asset gives us  The amount of happiness that one gets when converted into a currency it amounts to Value of the asset  The Price then is compared with the value derived to conclude the deal.

‘VALUE’ in general is the amount buyers or sellers are willing to pay to acquire an asset or transfer a liability.  The sellers and buyers are not related and act with independence.

There are various types of assets in the Company.  When we look at the Balance sheet, we get only tangible assets.  Intangible assets are those assets which are not visible on the face of the Balance Sheet many times, unless they are acquired during purchase of a business.  

As per the definition under Ind AS38 an intangible asset is an identifiable non monetary asset without physical substance.

International Valuation Standard 210 defines an Intangible Asset as  a non monetary asset identified itself by its economic properties. It does not have physical substance but grants rights and economic benefits to its owner.

International Glossary of Business Valuation Terms (IGBVT) defines Intangible Assets as “non-physical assets such as franchises, trademarks, patents, copy rights, goodwill, equities, mineral rights, securities and contracts (as distinguished from physical assets) and grants rights, privileges, and will have value for the owner”.

From the above we can conclude that INTANGIBLE ASSETS should be identifiable, non-monetary without physical presence and give economic benefit to the owner.

By identifiable we mean – we can separately buy or sell or grant licensee, rented or exchanged.

We can control these assets by restricting access to  others for their  use and the owner gets economic benefit.

They also give future economic benefit.

RECOGNITION OF INTAGIBLE ASSET:

An Intangible asset can be either developed internally or bought separately. When an Intangible asset is acquired separately as a part of Business combination, it shall be valued at the fair value on the date of its acquisition.

When an intangible asset is acquired separately, the same shall consist of the purchase price and any other expenses which is attributed to bringing the same for its intended use.

An Intangible asset shall only be recognized only when it is separable, has future economic beneifts, accruing to the owner and the cost of the asset can be measured reliably.

CLASSIFICATION OF INTANGIBLE ASSETS;

Marketing Related: Trade Marks, Trade Names, Trade Designs, Internet Domain Names

Technology Related: Patents, Trade Secrets, Formulae, Designs, Software, Recipes, Processes.

Artistic Related: Films, Music, Plays, Books.

Customer Related: Customer Relations, Customers Contacts, Customer Lists

Contract Related: Licensing and Royalty agreements, Service or supply contracts, Lease  Agreements, Permits, Broadcast rights, Non-competitive agreements Natural Resource   Rights.

GOODWILL:

Can we classify goodwill as Intangible Asset?  What is goodwill? It is represented by the excess price paid while acquiring a business.  After adjusting the price to various tangible and intangible assets/liabilities, the remaining amount is attributed as goodwill.

WHY VALUE INTANGIBLES:

Intangibles are valued generally for financial reporting purpose, Taxation, transfer pricing, gift planning, Financing as Collateral, Individual sale or purchase of such assets, Litigation, divorce or disputes.

WHAT CONSIDERTIONS ARE TO BE SEEN WHILE VALUING INTANGIBLE ASSETS:

1.Purpose and objective of valuation

2. Definition of the subject intangible

3.Date of Valuation

4. History and how the Intangible is developed

5. Details of Owner / Licensee / Licensor

6. Competitive Environment

7. Legal Rights associated with the Intangible Asset

8. Discount rate applicable to the Intangible.

What approaches are available for valuation:

INCOME APPROACH

            Excess Earning Method

            Relief from Royalty Method

            With and Without Method

            Green Field Method

            Distributor Method

MARKET APPROACH

            Guideline Transaction Method

            Comparable Companies Multiple Method

COST APPROACH

            Replacement Method

            Reproduction Method

Let us briefly touch upon these methods:

Under Income approach, Cash Flows, Cost Savings that are generated by the Intangible are considered and discounted by a discount rate applicable for the intangible. The Present value of the Cash Flows or Cost Savings is the value of the Intangible Asset.

DIFFICULTIERS THAT THE ENCOUNTERED:

The Most difficult part in this approach is identifying the Cash Flows or Cost Savings available for the identified Intangible.

The other difficulty is identification of economic life of the Intangible. The life can be finite in cases such as Legal, functional, franchise agreements.  There can be situations where the life is infinite.

Identifying Discount rate is another most important and most difficult aspect.  What discount rate can we apply for the intangible. The options available are: Equity cost, Weighted Average Cost of Capital, Weighted Average Return on assets  Internal Rate of Return, Cost of Debt with similar maturities.  One has to properly identify and elect discount rate to avoid higher or lower valuation of Intangibles.

LET US NOW SEE SOME ILLUSTRATIONS:

The Value of Intangible asset will be equal to Rs.7540.  Depending upon the asset and applicable laws Tax Ammortisation Benefit can also be considered. This illustrates Excess earnings method under Income Approach of valuation.  This is so because we are deducting a contributory charge pertaining to other assets which are contributing for these cash flows of the Intangible asset.

Under Market Approach let us consider one example on Comparable Companies Multiple method.

The first Step in this method is selecting companies multiple such as EV/EBIT, EV/EBITDA

The second step is to find comparable Listed Companies on stock exchanges and calculate the selected multiple in the first step.

The third step is to calculate the Enterprise Value ( EV )  of the subject company considering the multiple computed above.

The Last step is to reduce the Contributory Asset Charge if any from the EV computed in step four

The resultant value is the value of Intangible Asset.

Though the method looks simple, it is most difficult to find comparable listed companies on the stock exchanges. Once that is identified the next processes are simplified.

CONCLUSION:

The valuation of Intangibles is most essential while acquiring a business or in business combination which is equivalent to synergic value.

The most difficult part will be which discount factor to be applied.  Selection of the discount factor depends upon the experience of the valuer. Another area of difficulty is identifying the Cash Flows attributable to the Intangible Asset. 

Given the above conditions are satisfied, then valuation of an Intangible is an easy task