Hi, I’m Chris Walton, author of this guide and CEO of Eton Venture Services.
I’ve spent much of my career working as a corporate transactional lawyer at Gunderson Dettmer, becoming an expert in tax law & venture financing. Since starting Eton, I’ve completed thousands of business valuations for companies of all sizes.
Read my full bio here.
When Instagram sold to Meta (formerly Facebook) for $1Bn it had 12 employees and no revenue.
But what it did have was:
These things, while not something you have reach out and grab, clearly had intrinsic value on the market.
Intangible assets are crucial for fair company acquisitions and ensuring thorough annual accounting practices.
In this guide, will give you an overview of intangible asset valuation examples, methods, and trends to get your familiar with the topic.
Key Takeaways
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Intangible assets can be valued in different ways, depending on the type of asset.
Usually, a combination of methods is used to determine their value.
Let’s look at 5 most common methods that experts use:
Intangible asset valuation is the process of figuring out the value of non-physical assets of a business.
Non-physical assets considered intangible include (full definition here):
You can’t physically touch these assets, unlike tangible assets such as buildings and machinery.
Nevertheless, they are very important for a company’s long-term success, especially in the digital age.
They help a company:
Valuing intangible assets also help with accurate business valuations and financial reporting.
90% of company value today in the S&P 500, the stock market index that tracks 500 of the largest companies in the U.S., is driven by intangible assets.
Globally, the value of intangible assets is US$61.9 trillion.
In startups, these assets are even more critical, often making up the bulk of their value.
“The quality of intangible assets a start-up is generating via its research and development processes is a critical indicator for investors of future value, given the inherent lack of track record early-stage businesses have,” says CEO Paul Adams of EverEdge Global, an intangible asset advisory.
He gives an example from the company, Instagram.
When Facebook bought Instagram, the company was 20 months old and had:
Valuing tangible assets alone would suggest Instagram was worth close to $0, but Facebook paid $1 billion.
That’s because Facebook bought Instagram not for its employees or office equipment, but for its the intangible assets:
As is clear from the example, intangible assets valuation can provide many benefits to business owners and startup founders, such as:
Valuing your intangible assets increases your company’s overall value, hence becoming more attractive to investors.
It helps you raise more capital and negotiate better M&A deals.
It also helps you find and value key intangible assets for growth.
For example, you can discover and value IP assets, set fair royalty rates, and structure favorable licensing deals.
Now that you understand why valuing your intangible assets is important, let’s learn how to actually do it.
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The cost approach figures out how much it would cost to make or buy an intangible asset again.
It assumes the asset’s value is the same as the cost to create or get a similar one.
The Cost Approach works best for companies with assets that have a clear cost, like tech firms with their own software or companies with brands that can be recreated.
This method is used when the asset doesn’t make direct money or when other methods can’t be used because there isn’t enough sales data or income information.
📖 Read more: How to Value a Startup Company with No Revenue in 3 Ways
The basic formula is:
Value of Intangible Asset = Reproduction or Replacement Cost − Obsolescence |
Where:
Reproduction or Replacement Cost: The cost to reproduce or replace the intangible asset with a similar one. This includes:
Obsolescence: Adjustments for any loss in value due to factors such as:
Let’s understand this with an example.
Let’s figure out the value of a company’s patented technology using the cost approach.
Reproduction cost includes:
The total reproduction cost is:
$700,000+$150,000+$100,000+$50,000=$1,000,000
Now, we need to account for obsolescence (loss in value):
The total obsolescence is:
$80,000+$120,000=$200,000
Using the cost approach:
Value of Patented Technology=$1,000,000-$200,000=$800,000
So, the value of the patented technology, after accounting for obsolescence, is $800,000.
The Market Approach finds out how much an intangible asset is worth by comparing it to similar assets that have been sold or licensed.
It uses market evidence to guess what a buyer would pay for a similar asset under normal conditions.
The Market Approach works best for companies with intangible assets that are often bought and sold.
It is often used for valuing things like trademarks, patents, copyrights, and other intellectual property, especially in industries like technology, pharmaceuticals, and entertainment, where there is plenty of data on similar transactions.
However, finding comparable transactions can be challenging for unique or highly specialized intangible assets.
It’s formula is:
Value of Intangible Asset=Price of Comparable Asset×Total Adjustment Factor
Price of Comparable Asset: $500,000 (for a customer list).
Adjustment Factors:
So, Total Adjustment Factor=1.25×1.10×1.15=1.5875
Applying these factors to the price of the comparable asset:
Value of Intangible Asset=$500,000×1.5875=$793,750
So, the value of the intangible asset is $793,750.
Income approach looks at how much money the asset can make in the future.
It involves predicting future cash flows and discounting them to their present value.
The income approach is best suited for companies whose intangible assets directly contribute to revenue generation and where future income from these assets can be reasonably predicted, such as trademarks or customer relationships.
The most common formula used in the Income Approach is the Discounted Cash Flow (DCF) method:
Where:
Example
Suppose a company wants to value its proprietary technology, which is expected to generate the following cash flows over the next 5 years:
Assume the discount rate is 10%.
Calculating for each year:
Value of Intangible Asset = 90,909.09 + 99,173.55 + 105,187.09 + 88,781.92 + 68,273.30 = 452,324.95
The Relief from Royalty Method (RRM) looks at how much a company would pay in royalties if it didn’t own the asset and had to license it.
This method assumes that owning the asset saves the company from paying these royalties.
So, the value of the asset is equal to the present value of the avoided royalty payments.
The Relief from Royalty Method works best for companies with intangible assets that could be licensed, like:
This method is used in industries where licensing is common, like technology, pharmaceuticals, entertainment, and consumer products.
Formula:
Where:
Suppose a company wants to value its patented technology.
The technology is expected to make the following revenue over the next 3 years: $1,000,000, $1,200,000, and $1,500,000.
Assume the royalty rate is 5%.
Calculate the Annual Royalty Savings:
Royalty Savings Year 1=0.05×1,000,000=$50,000
Royalty Savings Year 2=0.05×1,200,000=$60,000
Royalty Savings Year 3=0.05×1,500,000=$75,000
Assume the discount rate is 10% (0.10).
Calculate the Present Value of Each Royalty Saving:
Value of Trademark=45,454.55+49,586.78+56,353.57=$151,394.90
The With-and-Without Method (WWM) estimates the value of an intangible asset by comparing the cash flows of a business with the asset to the cash flows without the asset.
The value of the intangible asset is the extra cash flow the asset brings in.
The With-and-Without Method is popular for valuing assets where the contribution to revenue and profitability can be clearly isolated. It is a popular method to value non-compete agreements.
Its formula is:
Where:
Example:
A company owns a trademark that it believes drives customer loyalty.
Calculate the Incremental Cash Flows:
Incremental CF Year 1=200,000−150,000=$50,000
Incremental CF Year 2=220,000−160,000=$60,000
Incremental CF Year 3=250,000−180,000=$70,000
Assume the discount rate is 10% (0.10).
Calculate the Present Value of Each Incremental Cash Flow:
Value of Trademark=45,454.55+49,586.78+52,704.63=$147,746.00
To reach an accurate evaluation, professionals combine multiple methods and consider multiple qualitative factors, like the unique characteristics of the intangible asset, industry dynamics, and market conditions.
Accurately valuing intangible assets is a must for a correct overall business valuation, so it is best to leave this task to experts. At Eton, we provide precise, compliant valuations that protect your interests and maximize tax benefits. We offer goodwill impairment testing and intangible assessment valuation according to ASC350 accounting standards, as well as overall business valuations. Contact me today. |
Now that you know how to value intangible assets, let’s look at some of the upcoming trends.
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Understanding the future trends in intangible assets can help you stay competitive and drive growth.
1. Increased Investments in Intangibles
Top companies spend a lot more on intangible assets than companies that don’t perform as well.
A recent survey showed that the best-growing companies, which are in the top 25% for economic growth, invest 2.6 times more in intangibles than the companies in the bottom 50%.
So, we can expect companies to keep investing more in intangible assets in the future.
2. Importance of Cybersecurity
As data and software become more important, companies will need to invest more in strong cybersecurity and data privacy to protect these assets from online threats.
3. ESG Focus
Managing digital assets uses a lot of energy, especially in data centers.
As companies use more cloud computing and big data, their energy consumption rises. Data centers need constant power for servers and cooling systems.
Growing focus on environmental, social, and governance (ESG) factors is influencing how companies manage and talk about their intangible assets, with greater emphasis on sustainability and ethical practices.
According to the report “Approaching the Future 2023: Trends in Reputation and Intangible Asset Management,” integrating ESG criteria into business strategies is now the most relevant aspect for organizations in terms of intangible asset management.
4. Intangible Assets Made Accessible by AI
Rapid advancements in technology, like artificial intelligence and machine learning, are making the creation and management of intangible assets more accessible.
Companies using these new technologies can find new ways to create value, make their asset management easier, and improve decision-making with data.
Schedule a free consultation meeting to discuss your valuation needs.
Chris co-founded Eton Venture Services in 2010 to provide mission-critical valuations to venture-based companies. He works closely with each client’s leadership team, board of directors, internal / external counsel, and independent auditor to develop detailed financial models and create accurate, audit-proof valuations.
