Trifurcation and IP valuation

Writing in CFO.com ("A Triple Play in IP Valuation"), Marie Leone reviews the position of Rick Nathan (Trenwith Valuation) on what he calls the "trifurcation" of the value of an IP asset. By his lights, that gives IP owners an advantage in two key business areas: asset sales and tax planning related to transfer pricing. In brief:

"Traditionally, IP assets ... and brands are valued as a whole. That is, the assets are assigned a value by calculating a net present value .... Sometimes values are calculated based on options valuation models like the Black-Scholes or binomial methods.

Nathan's trifurcation method ... breaks down the asset into three discrete components—legal entitlement; legacy brand, or know-how in the case of patents; and exploitation. Since each component is assigned it own value, IP owners are armed with more a granular valuation for asset sale negotiations and tax planning .... Further, isolating each part makes it easier for companies to determine which segment "is driving return," which is something a valuation that uses just market data and options modeling can't do ....

...

The trifurcation methodology was originally developed as a transfer-pricing tool, says Nathan. Transfer-pricing rules mandate that related parties—units in the same company but in different countries and tax jurisdictions—charge market rates for services they perform for one another. Instead of using the entire value of the IP to calculate the tax liability, notes Nathan, the parent company can identify which IP component its subsidiary is using, and calculate the tax bill on that portion.

... the trio of components in Nathan's model has never been divided before now, he says. The legal entitlement component gives the owner the right to sell the asset as well as protect it from infringement violations. The legacy brand component represents the royalties or licensing fees paid to the IP owner. And the exploitation segment gives the owner the right to use the IP differently from the way it is currently being used. For instance, an owner of a chewing gum brand could exploit the asset by branding a line of iced tea or dog treats using the gum's moniker.

It's still too early to tell whether the trifurcation method can stand up to an Internal Revenue Service challenge in tax court. It usually takes three years for the IRS to audit tax payers, and the new methodology has only been in circulation for two years. ...".