Patent Valuation Standards in the United States Applying Existing Standards and Terminology to a Developing Field of Practice by Glenn Perdue

Patent Valuation Standards Patent Valuation Standards In The United States Applying Existing Standards And Terminology To A Developing Field Of Practice By Glenn Perdue I. Introduction standard terminology and conceptual models in an ntellectual property continues to develop as an attempt to provide greater consistency, comparability asset class worthy of ever increasing levels of and reliability. Iinvestment. The last two years have seen some In considering standards relevant to patent valua- of the biggest patent-related transactions ever with tion, we can look to existing standards, particularly Nortel’s patent portfolio being purchased out of bank- within the business valuation domain. Some of these ruptcy for $4.5 billion; Microsoft’s acquisition of 800 standards address intangibles directly. Given the rich AOL patents for more than $1 billion; and Google’s body of existing work acquisition of Motorola Mobility—and its expansive that extends back near- ■ Glenn Perdue, patent portfolio - for $12.5 billion. Yet beyond these ly one-hundred years, Kraft Analytics, LLC, intellectual property headline-grabbing deals, patents are being bought, Managing Member, sold, licensed, financed and infringed every day. In- professionals need not creasingly, we must reasonably estimate and account re-invent the valuation Nashville, TN, USA for the value of patents in business. standards wheel. E-mail: [email protected] When it becomes necessary to estimate and account For purposes of this for the value of a certain type of asset on a recur- article, standards are viewed broadly to include cer- ring basis, standard approaches, terminology, and tain legal, regulatory, and professional definitions and conceptual models tend to emerge. The use of such requirements. Furthermore, the idea of “accepted standards enables greater consistency of approach, practice” may also be appropriate to consider in a dis- comparability of results, and efficiency in practice. cussion of standards. While certain explicit standards In the 1920’s the U.S. Government compensated may be clearly codified in written form, accepted distillers for losses when they were put out of busi- practice may be more implicit in nature yet may ness by prohibition. While some distillers earned prof- provide the basis for standards in some situations. its that provided fair returns on fixed assets, others This paper focuses specifically upon patents. earned higher levels of profits. The government real- However, much of the discussion herein applies to ized that it needed to compensate distillers for both trademarks, copyrights, trade secrets, and other types tangible assets and the additional value that existed of intangible assets. due to elevated levels of earnings enjoyed by some. II. Valuation Provider Standards The excess earnings method was used as a standard One factor that may dictate applicable standards approach to address this need and was codified in is the valuation credential(s) held by the valuator an IRS appeals and review memorandum. The value performing the valuation. The three most widely- derived for a distiller’s “excess earnings” provided a recognized business and intangible asset credential- collective value for intangible assets referred to as ing providers in the U.S. are:2 goodwill.1 The development and use of the excess AICPA: The American Institute of Certified Public earnings method by the U.S. Government during Accountants (AICPA) confers the ABV (Accredited in prohibition provides an early example of intangible Business Valuation) credential to CPAs that qualify. asset valuation standard at work. Real estate may provide the richest and most acces- 2. While the CLP (Certified Licensing Professional) credential sible examples of valuation standards. Real estate ap- is widely recognized within the licensing profession, it is not a praisers use standard market, income, and cost-based valuation credential per se. However, some holders of the CLP approaches to value property in conjunction with gained the credential due in some part to their IP valuation ex- perience. In addition, we should note that at least one indepen- dent organization, The Business Development Academy, offers 1. David Laro and Shannon Pratt, Business Valuation and Fed- a patent valuation designation program but, at the time of this eral Taxes: Procedure, Law, and Perspective (2nd edition, page writing, did not present any information related to standards 244, John Wiley & Sons, Inc. 2011). on its website. June 2013 130 Patent Valuation Standards AICPA members are governed by the AICPA’s State- AICPA (SSVS), ASA, and NACVA generally consider: ment on Standards for Valuation Services (SSVS) • Ethical requirements for members providing which begins as follows in the Introduction and valuations; 3 Scope section: • Requirements for defining the scope of an This statement establishes standards for AICPA engagement; members who are engaged to, or, as a part of another • Development standards that identify engagement, estimate the value of a business, busi- information and analysis to be considered; ness ownership interest, security, or intangible asset. • Reporting standards that identify information ASA: The American Society of Appraisers confers to be included in a report. the AM (Accredited Member), ASA (Accredited Se- nior Appraiser), and FASA (Fellow of American Society These three organizations identify differing types of Appraisers) designations. The ASA is an umbrella of opinions that may be expressed in various forms organization that includes art appraisers, real estate which can be summarized as follows: appraisers, and other sub-specialists. ASA appraisers Conclusion of Value: This represents the high- that focus on business valuations must follow the est level opinion by a valuation analyst in terms of ASA’s business valuation standards which state:4 considerations and analytical rigor. A conclusion of These Standards…provide additional requirements value is typically expressed through a written report specifically applicable to the valuation of businesses, which may be provided in detail or summary form. business ownership interests, securities and intan- Calculation of Value: Calculated values are based gible assets. upon a limited scope engagement in which limited NACVA: The National Association of Certified Valu- data and calculation methods are considered. Calcu- ation Analysts (NACVA) is a membership organization lated values are typically presented in summary form comprised of accounting and finance professionals. through a report, presentation, or letter, but may also NACVA confers the CVA (Certified Valuation Analyst) be expressed orally. designation to qualified members. NACVA’s Profes- Litigation Engagements: The AICPA, ASA, and sional Standards state the following:5 NACVA all provide litigation engagement exceptions. These Standards are applicable when valuing a These exceptions recognize the unique nature of business, business ownership interest, security, or dispute-related engagements in which the retaining intangible asset. attorney may require case-specific analysis. These Each organization noted above specifically identi- exceptions also recognize the fact that various juris- fies intangible assets as a part of their professional dictional rules may dictate reporting requirements. standards. These three organizations, in conjunction For instance, in federal courts, experts must adhere with the Canadian Institute of Chartered Business to reporting requirements of Rule 26(a)(2)(b) of the Valuation Analysts and The Institute of Business Federal Rules of Civil Procedure. Appraisers,6 jointly agreed upon definitions for over The issue of credentials and related standards be- 100 valuation terms as published in the International comes most relevant when an external valuation is Glossary of Business Valuation Terms.7 provided and may be less relevant in cases of analysis Valuation standards promulgated through the generated for internal use. But of course, the use of broadly-accepted approaches, terminology, and 3. American Institute of Certified Public Accounts, Statement conceptual models can be beneficial in any setting. on Standards for Valuation Services (Introduction and Scope III. Valuation Purpose And Standards Section page 7, copyright 2007). 4. American Society of Appraisers, ASA Business Valuation Like other assets, patents may be valued for various Standards (General Preamble page 4, copyright 2009). reasons. The purpose of the valuation may dictate 5. National Association of Certified Valuation Analysts, Pro- applicable standards beyond any provider-specific fessional Standards (Scope of Services Section page 5, appli- standards that may apply. The following summarizes cable as of 6/1/2011). As of April 1, 2013 the previously exist- some relevant standard-setting organizations and ing Accredited Valuation Analyst (AVA) designation was merged the types of valuations to which their standards may with the CVA designation. apply: 6. In July 2012 the Institute of Business Appraisers merged into NACVA. The Appraisal Foundation (AF): Born out of the 7. http://www.nacva.com/association/a_bv_terms.asp Savings and Loan crisis of the early 1980s where —accessed January 15, 2013. unreliable real estate appraisals were considered part 131 les Nouvelles Patent Valuation Standards of the problem, the AF was formed in 1987. While is comparable to ASC 805. IFRS 13 relates to Fair the genesis of the AF was related to real estate, the Value Measurements and is comparable

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