Intellectual Property Value is The Basis for Economic Recovery | Patent & Copyright Lawyers

Trademark Law Radio:  Glenn Purdue Discusses Trademarks, Copyrights, Patents & Trade Secrets 

• Glenn has been retained as an expert witness for software related cases in which patent, copyright, trade secret and trademark protection and related damages were in dispute. 
• There are several models to value trademarks, service marks, patents, copyrights and trade secrets. Glen discusses cost-based approaches, market-based approaches, and income-based approaches to intellectual property valuation.

 

Glenn Perdue, managing member at Kraft Analytics, LLC, a valuation, forensics, consulting firm that works with attorneys related to valuation issues, transactional disputes, economic damages, intellectual property, antitrust analysis, corporate investigations, employee fraud, computer forensics and e-discovery, discusses three approaches in valuating intellectual property.

Announcer:  Welcome to Trademark Law Radio, sponsored by Traverse Trademark Law, Internet Lawyers specializing in Trademark Infringement, Trademark Licensing and Trademark Registration.  Now here is your host, Damien Allen.

Damien Allen:  Good afternoon and  welcome to Trademark Law Radio.  My name is Damien Allen, and joining me today on the phone is Glenn Perdue of Kraft Analytics, LLC in Nashville, Tennessee.   Good afternoon, Glenn.  Welcome to the program.

Glenn Perdue:  Hi, Damien.

Damien Allen:  We’re discussing intellectual property value today.  Glenn, what is intellectual property?

Glenn Perdue:  In a strict sense, intellectual property includes patents, trademarks, copyrights and trade secrets.  In a broader sense, intellectual property is a special type of intangible asset which can generally be viewed in bundles related to marketing, customers, artistic creations, contracts and technology.  So, there’s five big bundles of intangible assets that we generally identify.  As we consider these bundles, we see that certain types of IP tend to map to certain categories of intangibles.  For instance, trademarks are a marketing related intangible.  Customer lists and related customer information may be protected as a trade secret, and artistic creations such as songs and musical compositions are typically protected through copyrights; however, with technology related intangibles, which was the last bundle that I mentioned, multiple protection schemes may exist.  For example, I’ve been retained as an expert witness for various software related cases in which patent, copyright, trade secret and trademark protection and related damages were the subject of the dispute.  So, the technology bundle may have various protections schemes attached to it. 

Damien Allen:  What’s the origin of IP, Glen?  How did intellectual property come about to begin with? 

Glenn Perdue:  Well, the basic idea, and let’s stick to patent and copyright here.  The basic idea with patent and copyright protection is that governments grant inventors and creators exclusive rights to exploit their ideas for a limited period of time in exchange for sharing these ideas.  This period of exclusivity gives these inventors and creators an economic incentive to invent and create in a way that is generally believed to provide societal benefit and progress.  Looking back, historians point to the Greek city of Sybaris in 500 BC as the place where this concept of granting exclusive rights to exploit an idea in exchange for disclosure of the idea originated.   The winner of an annual culinary contest was given a one year monopoly on their winning recipe.  So, if we fast forward from there to the Renaissance, historians generally believe that the first patent act was enacted in Venice in 1474. 

Damien Allen:  That’s quite a long amount of time in order to go back on this.  How does one value an IP? 

Glenn Perdue:  When we value intellectual property, really, or any asset, there’s generally three sets of methods that we can use.  There are cost-based approaches, there are market-based approaches, and there are income-based approaches.  The cost-based approach is based upon three general concepts that we might look to.  One is the original cost.  What was the cost of purchase, produce or create the original intangible that we now want to value, if there was an original.  The next idea is that of reproduction costs.  That’s the cost to develop a replica of some original intangible as of a relevant valuation date. The third metric that we might look at is a replacement cost, the cost to obtain an intangible asset with comparable utility as of the relevant valuation date.  So, that’s cost-based approaches.  The next big group of approaches to consider is market-based approaches.  With market-based approaches as related to intellectual property, our typical approach is to focus on market royalty rates.  The idea with a royalty rate is that it’s a price associated with the use of intellectual property.  The good thing about using a royalty rate is that it allows us to isolate the economic value associated with that particular piece of IP and set aside other sources of economic value.  So, again, the idea of a royalty rate and its application in valuing intellectual property is that it allows us to isolate that IP value and segregate it from other sources of value.  So, under the market-based approach is the most common thing that we see is the use of market royalty rates to provide us some basis of value for the intellectual property that we’re valuing in whatever our subject analysis might be.  The final set of approaches that we use in valuing intellectual property are income-based approaches.  The idea here is that we look to future benefits that might accrue to the owner or the user of the intellectual property and we want to discount those future sources of economic value back to a present value.  So, those are the three basic bundles of approaches that we use in valuing IP.

Damien Allen:  Any of these could be changed throughout the course of history, if I’m understanding this correctly?  So, what it’s valued at today may someday actually up or down in costs?

Glenn Perdue:  Yeah, IP value can certainly change over time.  A patent that might have very little value in the early stages of its life might develop much greater value as the product that embodies that patent becomes more popular in the market, for instance.  So, indeed, these values can and do change over time. 

Damien Allen:  Glenn, what would be some of the approaches that would be used under these three headings that we’ve just spoken about? 

Glenn Perdue:  Well, let’s use some examples.  Let’s say that we’re going to value computer source code.  One of the ways that we can estimate those costs is by estimating the lines of executable code and turning those lines of executable code into an estimated number of man-months or man-hours, as the case may be.  And we would also have to do the same thing with systems analysis expense or other professional expenses that might have to be incurred to develop.

Damien Allen:  So, actually breaking it down, it took this long to do it and it costs this much to have this guy do it, this much to have somebody look at it to make sure it was correct, make sure it went through the planning stage properly, so, it was basically from A to B, what it took to construct it in the first place.

Glenn Perdue:  That’s right.  So, you’ve got design, development, testing to overly simplify the example, and you would estimate the level of effort that would be required in those three phases to basically give you a comparable piece of software.  And so, we might use the cost-based approach to give us that answer, that representation of value for the computer source code.  So, going on to another example.  Let’s say that we have a publishing catalog that has a bunch of popular songs in it.  One of the common ways to value publishing catalog is you look at the income that’s derived from the royalties and you multiply that income times some type of a market multiple, or you can divide that income level by some type of capitalization rate.  The market multiple and the cap rate are mathematically related to one another, so, for instance, multiplying the value times eight gives you the same answer as dividing the income value by 1/8^th, it gives you the same answer.  That’s more of an income-based approach. That’s essentially a capitalization approach.  And then finally, another example might be a trademark.  Let’s say that we’re a company that has a trademark for a popular but mature product line, and we want to estimate the value of that trademark.  The first thing that we might do is assume the remaining useful life of this trademark.  Again, I said that this was a mature product.  So let’s assume that this product is estimated to have a remaining life of approximately seven years.  We would look at the net benefits stream associated with this trademark, essentially, the revenues that this trademark creates, and we might use what’s called the relief from royalty method to infer the economic value of associated with the use of the mark and that in this case the owner of the mark doesn’t have to pay because of the fact that they own the mark.  Thus, the term relief from royalty.  The owner in this case is relieved from paying a royalty because they own the mark.  So using this approach, we multiply the income stream times what the market royalty rate might be or a reasonable royalty rate, as the case may be, to infer some benefit stream of savings based upon owning the mark.  We would then discount those values back to a present value at an appropriate discount rate as the basis for the trademark value. A final example might be a customer base.  Businesses have relationships with customers; those customers can create ongoing economic benefit for the business through continuing purchases into the future. And one of things that we have been asked to measure in the past is the value of these customer relationships.  One of the things that we have to consider when calculating that value is the fact that there are often attrition levels or churn levels associated with customers. The idea being that a customer has a typical life cycle.  You may keep a customer for a year, two years, three years, ten years, whatever the case may be.  So, in modeling customer relationship value, we typically have to construct some kind of a decay curve that basically shows that life cycle and this attrition as it plays out over time.  In the case of a non-compete agreement, we might look at that initial decay curve, and then we might look at another decay curve in which we look at customer loss on a more accelerated basis due to the fact that a previous employee, for instance, may be competing with the company after leaving in violation of a non-compete agreement.  In this example, we’re going to compare the expected levels of sales and expected customer levels and the revenues from the customers that we expected to retain, we’re going to compare those revenues to sales under this accelerated customer loss scenario.  And we’re going to identify lost sales.  So, one damage approach might be to calculate loss profits associated with those sales.  Another damage approach in a litigation setting might be to calculate the value of the customer relationships prior to the breach of the non-compete agreement with the value of the customer relationships after the breach of the non-compete agreement.  In this case, we would subtract the breached value from the non-breached value to arrive at a customer loss value or a customer value loss. 

Damien Allen:  Glenn Perdue is managing member of Kraft Analytics, LLC.  He wrote an article entitled, “IP Value is a Basis for Economic Recovery.” You can find that in the May/June edition, 2010, of Landslide.  Glenn, thank you very much for joining us today and discussing this with us.

Glenn Perdue:  Thank you, Damien.

Damien Allen:  You’ve been listening to Trademark Law Radio.  My name is Damien Allen.  Everybody have a great afternoon. 

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