Are you an owner of a business with a partner that’s heading for the exit door? Does your company have intellectual property that’s being sold or licensed? Did your company issue stock options that need to be valued? Are you a business owner going through a divorce? Are you involved in a lawsuit over an infringement of a patent, trademark, or copyright?
Answer “yes” to just one of these questions, and you are likely to need to call in the services of a business valuation expert. While the specifics of business valuation don’t make for interesting conversations around the water cooler, they are vital for making sure the price paid in a sale, court case, or marital dissolution is fair to both parties. Most people, at one time or another, will find themselves needing a business valuation. We asked valuation expert Melisa Silverman to share the basics you'll need to know.
BA: What is a business valuation?
MS: Put simply, a business valuation is an estimate of the value of a business. This estimate takes into account tangible assets (like money in the bank and real property) and intangible assets (like intellectual property and branding). The value will be determined as of a specific point of time.
One study has shown that up to 80% of the value of U.S. companies in 2005 was for intangible assets and 68% was for the brand alone. That's a compelling reason to build and protect all business assets, including intangibles with care.
BA: Who performs the valuation, and to what standard?
MS: Valuations are typically carried out by professionals known as valuation experts. They can be performed using one of several methods and standards including “fair market value” (IRS Standard) or “Fair Value” (defined by legal status, court cases, and GAAP).
BA: Are valuations done for investment purposes?
MS: A business valuation is important not only for the sale of the business or when legal proceedings are involved. Valuations are also vital to determine an accurate value for companies seeking investors. In the case of a merger or acquisition, or when receiving capital from a private investor or venture capital group, a valuation is very important. An accurate valuation provides stats and information for use during negotiations, and also helps potential investors determine the risk involved.
BA: How are intangible assets measured?
MS: Intangible assets fall into two categories:
- Discrete intangible assets have an independent legal existence and may be valued and transferred separately from the overall business. This includes intellectual property such as patents, trademarks, copyrights, and trade secrets.
- Non-discrete intangible assets exist as part of the business and cannot be sold separately. This includes goodwill, which measures the value of brand and customer loyalty, a figure above and beyond the other types of measurable assets.
The valuation of intangible assets depends on the state of development of those assets, and what value they would have if they were to be sold.
BA: Are websites considered assets of a company?
MS: Websites aren’t considered to be intellectual property, but they are intangible assets. Whether they are considered discrete intangible assets (with a value in their own right) or non-discrete intangible assets (valuable only as part of the business) depends on their use.
A site like amazon.com would only be considered to have value if it was sold together with the Amazon business. But an advertising portal website like Banks.com could be owned by anyone, and would therefore be a discrete intangible asset that could be sold separately from the rest of the company.
BA: Is branding included in a valuation?
MS: Branding encompasses a large area of intellectual property such as trademarks, patents, and copyrights and non-discrete tangible assets such as goodwill. If a company has a well-established brand, this will be appropriately reflected in the valuation.
Trademarks can be quite easy to value, as this is often based on their royalty income. If a company owns a trademark that is only used by themselves, this value can be determined by valuing what the cost would be to acquire similar trademark rights from a third party.
BA: How is the intellectual property of start-up businesses valued?
MS: If you are required to have a start-up business valued, there are some key things to consider when it comes to valuing intellectual property. At a minimum, the value of intellectual property can be based upon the replacement cost: such as replacing a patent or trademark. If the intellectual property has not yet begun to generate revenue, valuation becomes more complicated. In cases such as these, much of the analysis will be based on the start-up’s strategic plan.
Business and intellectual property valuation is a broad and complicated topic. However, as you build your business, remember that Intangible assets such as patents, trademarks, and copyrights will likely be your most valuable business assets as the business grows. It’s important to properly build and legally protect them, just as any other real asset such as real estate. If you own a company, or are a partner in one, or end up in a divorce, you’ll probably have to go through a valuation at some point. Knowing some of the basics will make the process much easier to deal with.
BA: Thanks, Melisa.