Willamette Management Associates White Paper...Under the AIA, a charge of inequitable conduct cannot be based on information presented or corrected in a supplemental examination that

Willamette Management Associates White Paper:

INTELLECTUAL PROPERTY VALUATION CONSIDERATIONS

by Robert F. Reilly, CPA

INTRODUCTION AND OVERVIEW

There are numerous reasons why Willamette Management Associates analysts are asked to value an

owner/operator’s intellectual property assets. All of these individual owner/operator reasons are generally

grouped into the following categories of motivations: transactions, financings, taxation, regulatory

compliance, bankruptcy, financial accounting, litigation, and strategic planning. Willamette Management

Associates analysts are frequently asked to value intellectual property for all of these categories of

reasons.

The owner/operator’s legal counsel are often involved in the intellectual property valuation

process. This is because the legal counsel are involved in assisting their owner/operator clients with

respect to structuring transactions, performing due diligence, complying with taxation and regulatory

requirements, negotiating and arranging financings, prosecuting and defending claims, and defending and

commercializing the intellectual property.

In our experience, legal counsel are often involved in the process of: identifying the client’s

intellectual property, performing the related due diligence, interviewing and selecting the intellectual

property valuation analyst, defining the valuation analyst’s assignment, assisting the owner/operator to

assemble valuation-related data and documents, providing legal instructions to the valuation analyst,

reviewing and questioning the valuation work product, interpreting and relying on the valuation report,

and defending the valuation during any administrative, regulatory, or judicial challenge.

At Willamette Management Associates, our analysts often value general commercial intangible

assets without the advice from, or the assistance of, the owner/operator’s legal counsel. This is because

general intangible assets (e.g., customer relationships, assembled workforce, goodwill, etc.) typically

have no special legal definition or statutory protection. Also, the valuations of such commercial intangible

assets are usually performed for financial accounting and other non-legal purposes. In contrast, due to the

special statutory status of intellectual property assets (i.e., of patents, copyrights, trademarks, and trade

secrets), our valuation analysts and the client’s legal counsel often work together in several phases of the

intellectual property valuation assignment.

First, this white paper summarizes the valuation implications of the 2011 America Invents Act.

Second, this white paper summarizes (1) many of the reasons to conduct the intellectual property

valuation, (2) the elements of the intellectual property valuation assignment, and (3) the data gathering

Intellectual Property Valuation Considerations Page 2

and due diligence process. Third, this white paper describes and illustrates the three generally accepted

intellectual property valuation approaches, specifically: cost approach valuation methods, market

approach valuation methods, and income approach valuation methods. Finally, this white paper comments

on (1) the valuation synthesis and conclusion process, (2) the attributes of an effective intellectual

property valuation report, and (3) what type of professional should perform the intellectual property

valuation.

VALUATION IMPLICATIONS OF THE AMERICA INVENTS ACT

The Leahy-Smith America Invents Act (AIA) was signed by President Obama on September 16, 2011.

The AIA represents long-awaited and long-debated patent reform legislation. The AIA includes

significant changes to patent filing, patent administration, and patent challenge procedures. However, the

final version of the AIA excludes numerous procedures that were incorporated in earlier drafts of the bill,

particularly procedures related to patent valuation and economic damages measurement. The following

discussion summarizes many of the provisions of the AIA. And, this discussion mentions several of the

provisions that were not included in the final AIA legislation.

An Introduction to the AIA

One of the most significant changes in the 2011 legislation is that the AIA adopts a first-to-file (versus the

prior law first-to-invent) procedure for the granting of a patent. The AIA includes provisions addressing

post-grant review proceedings and inter partes review proceedings. The AIA provides for significant

changes in product patent marking (and in eliminating certain false patent marking claims). And, the AIA

allows the U.S. Patent and Trademark Office (PTO) to establish a new fee structure.

In terms of patent litigation, the AIA includes a provision that the failure to obtain the advice of

legal counsel can no longer be used to prove that an accused infringer (1) willfully infringed the patent or

(2) intended to induce infringement of the patent. However, the most significant impact of the AIA on

patent legislation relates to what the legislation ultimately did not include. Early versions of the

legislation included a “valuation calculation” provision that required the court to “conduct an analysis to

ensure that a reasonable royalty is applied only to the portion of economic value of the infringing product

or process properly attributable to the claimed invention’s specific contribution over the prior art.”

However, none of these valuation or economic damages provisions ultimately made it into the final AIA

legislation.


The New “First-to-File” Patent Application System

Unlike most of the rest of the world, the United States historically operated under a first-to-invent system

of determining the priority of an invention—that is, what party is entitled to receive a patent on the

invention. Typically, the first inventor was considered to be whoever could demonstrate the earlier

conception and diligence related to reducing the invention to practice. Under the AIA, the priority of an

invention is determined by the earliest date that the patent application was filed with the PTO.

This first-to-file patent application system should eliminate costly and time-consuming

interference proceedings. Such interference proceedings are conducted to determine which inventor is

entitled to the grant of the patent. Under the new AIA legislation, derivation proceedings may replace

interference proceedings to determine whether an earlier filer improperly copied, or derived, the invention

from a later filer.

This new first-to-file patent application provision will not go into effect until 18 months after the

enactment of the AIA.

Scaling Back of the Patent Application Grace Period

Before the AIA, the patent applicant enjoyed a one-year grace period under which a prior disclosure of

the invention (by the patent applicant or by any other party) up to one year prior to the applicant’s filing

date did not count as prior art. This grace period was applicable provided that the patent applicant could

show (1) a conception date prior to the disclosure and (2) diligence in either (a) reducing the invention to

practice or (b) filing a patent application for the invention.

The AIA replaces this absolute one-year grace period with a “personal grace period.” Under the

AIA, the patent applicant’s own prior disclosures (or disclosures derived from the patent applicant) within

one year prior to the applicant filing date are exempt as invalidating prior art. However, other disclosures

of the invention by third parties do constitute invalidating prior art.

These applicant grace period changes will take effect 18 months from the date of enactment of the

AIA.

New Procedures for Challenging a Patent

The AIA provides many different mechanisms for challenging a patent, both post-issuance and pre-

issuance.

The AIA post-issuance challenge provisions are intended to make the PTO a more viable venue

for challenging patents. These new provisions should result in faster, lower-cost, and more rational

decisions on patent viability. The AIA replaces the previous inter partes reexamination procedure with


two similar—but unique—provisions for challenging the patentability of an issued patent: (1) an inter

partes review and (2) a post-grant review.

The inter-partes review procedure parallels the prior inter partes reexamination procedures. The

AIA removes the threshold requirement that an alleged basis of unpatentability be “new.”

This new procedure begins one year after the date of the AIA enactment. However, the new

standard for declaring an inter partes review (i.e., “the reasonable likelihood that the requester will

prevail” instead of the previous “substantial new question of patentability”) takes effect immediately.

A post-grant review will be available to challenge an issued patent within the first nine months

after the patent issuance. This review does expand the available legal theories that may be used to

challenge patentability. However, the current reexamination procedures may only challenge an issued

patent based on (1) prior art patents and (2) printed publications.

The post-grant review provisions also require that the PTO resolve the patent challenge entirely

within a year of the review request (with a six month extension period available). This procedure will be

available one year after the date of the AIA enactment.

In addition to the provisions for a post-grant challenge, the AIA pre-issuance challenge provisions

allow a third party to submit a patent application, patent, published patent application, or any other

relevant printed publication for consideration by the patent examiner during the examination of a patent

application.

However, such a submission must be made in writing. And, the submission must be submitted

before the earlier of: (1) the date that the notice of allowance is given or mailed or (2) the later of (a) six

months after the patent application is published or (b) the date of the first patent rejection.

A Supplemental Examination of the Patent

The AIA also contains provisions to reduce the litigation burden on patent owners who are planning to

assert their patents. In these legislative provisions, the AIA takes aim at the common litigation charges of

“inequitable conduct.” A finding of inequitable conduct can block the enforcement of an entire patent.

This occurs even when the accused conduct by the patent owner is unrelated to the validity of any

asserted claims. Therefore, charges that a patent holder failed to candidly deal with the PTO are often

made in patent litigation.

Under the AIA, a charge of inequitable conduct cannot be based on information presented or

corrected in a supplemental examination that was timely requested by the patent owner. The PTO may

elect to reexamine the patent if the presented information does affect the validity of any claim. Therefore,

the safe harbor provided by supplemental examination procedure may make this provision a valuable tool

for the pre-assertion scrub of a patent.


Significant Changes Related to Patent Product Marking Claims

A patented product (or the associated packaging) may now be marked with the word “patent” or “pat.”

followed by an address of a posting on the Internet. That Internet address will be accessible to the public

without charge. That Internet address will list the patent number(s) that cover the patented product.

Before the AIA, in order to give public notice, a patented product needed to be marked with the actual

number(s) of the patent(s) that covered the patented product.

In addition, the marking of a potential product with an expired patent number—that is, the patent

number that previously covered that product—is no longer actionable as a false marking.

Finally, the AIA amends the prior false marking statute in two ways. First, the AIA grants only

the US government the standing to sue for per-article fines. Second, the AIA only permits those parties

who have suffered competitive injury as a result of false marking standing to sue for compensatory

damages.

These AIA changes apply to false marking cases pending on or after September 16, 2011.

The New Prioritized Examination Procedures

Under the AIA, the PTO is required to implement a prioritized examination procedure for utility patents

and plant patents. This new procedure will allow patent applicants to file a request with the PTO for

prioritized examination. That request must include the payment of a fee (in addition to other filing fees)

of $4,800 (or $2,400 for a small entity).

The patent application for which the request is made should have (1) no more than four

independent claims and (2) no more than 30 total claims. The PTO may not accept more than 10,000 such

requests per year.

Additional PTO Patent Application Fees

Under the AIA, all patent fees charged by the PTO were increased by 15 percent effective on September

26, 2011.

Also, to encourage patent applicants to use electronic filing procedures, an additional $400 fee (or

$200 for a small entity) was instituted for all patent applications that are not filed electronically after

November 15, 2011.

Summary of the AIA

The AIA legislation changes affect many aspects of patent prosecution and litigation. And, these AIA

changes could impact the value of an owner/operator’s individual patents. This is particularly the case (1)


for pending (as of 2011) patent applications and (2) for patents involved in the reexamination process (as

of 2011). Accordingly, the patent owner/operator and the legal counsel (1) should reevaluate the patent

application or prosecution strategies and (2) should consider the impact of the AIA of individual patents.

In particular, the patent owner/operator and the legal counsel should consider the impact of the

AIA enactment on (1) the managing and protecting of the client’s intellectual property and (2) the

monitoring and challenging of third-party patents.

However, only time will tell the impact of the AIA (1) on patent valuations and (2) on patent

litigation economic damages analyses or judicial damages awards. Since all of the AIA provisions have

not been fully implemented, the market for patent sales and/or licenses has not yet incorporated the

impact of the AIA on patent transactions. In addition, the legislative changes that would most directly

affect patent valuation and economic damages analyses were excluded from the final (executed) version

of the AIA.

REASONS WHY ANALYSTS ARE ASKED TO CONDUCT THE INTELLECTUAL PROPERTY

VALUATION

Table 1 summarizes many of the common reasons why Willamette Management Associates analysts are

asked to value an owner/operator’s intellectual property. In some valuation engagements, we are retained

directly by the owner/operator. More commonly in intellectual property valuation engagements, we are

retained by the legal counsel for the owner/operator. Many of the individual client reasons to value

intellectual property are listed in Table 1.

_____________________________________________________________________________________

Table 1 Common Reasons to Value the

Owner/Operator Intellectual Property 1. Transaction pricing and structuring:

Pricing the sale of an individual property or a portfolio (bundle) of two or more intellectual property assets.

Pricing the license of an individual intellectual property or a portfolio (bundle) of two or more intellectual property assets.

Concluding an appropriate exchange ratio when owner/operators exchange use rights to two portfolios (bundles) of intellectual property

Opining on the fairness (from a financial perspective) of a sale or license of intellectual property (for the benefit of a minority investor, joint venture partner, etc.)

Quantifying the equity allocations in the formation of a new business enterprise or joint venture, based on relative values when one or more parties contribute intellectual property assets.


Quantifying the asset distributions in a business enterprise or joint venture liquidation, based on relative values when one or more parties receive intellectual property assets.

Pricing the transfer (either ownership or use) of intellectual property between (1) two wholly owned subsidiaries of a party business entity or (2) two less than wholly owned subsidiaries of a parent business entity.

2. Financings collateralization and securitization:

Estimating the value of intellectual property used as collateral in either cash flow-based or asset-based corporate debt financings.

Estimating the value (current value or residual value) of the commercial intellectual property transfer in a sale/licenseback financing

Identifying sale, license, or other cash flow generation opportunities for an owner/operator attempting to raise business financing

Estimating the value of intellectual property in the process of quantifying debtor entity solvency (in order to avoid a fraudulent transfer claim) in any corporate financing transaction.

3. Taxation planning and compliance:

Supporting the tax basis purchase price allocation (among the acquired tangible assets and intangible assets) in a going concern business acquisition.

Supporting the amortization deductions for the tax basis (i.e., fair market value) of purchased intellectual property.

Supporting the charitable contribution deduction for donated intellectual property.

Calculating the arm’s-length transfer price (ALP) for the cross border use or other transfer of a multinational corporation’s intellectual property.

Measuring the state and local ad valorem property tax impact of either taxable intellectual property or tax exempt intellectual property.

Creating an intellectual property holding company subsidiary (e.g., a Delaware holding company) and designing interstate use license agreements for the internal licenses of a multistate owner/operator

Performing a fair market valuation of intellectual property transferred between the foreign/foreign subsidiaries or the foreign/domestic subsidiaries of a multinational owner/operator

4. Regulatory compliance and corporate governance:

Performing a custodial inventory of owned and licensed intellectual property.

Assessing the insurance coverage requirements for owned and licensed intellectual property.

Estimating values to assist legal counsel with the owner/operator’s defense against infringement, tort, breach of contract, and other wrongful acts.

Estimating values to assist legal counsel with the owner/operator’s defense against an allegation of the dissipation of corporate assets.

Providing proof of a fair market value price for sale or license of intellectual property between a for-profit entity and a not-for-profit entity (to avoid claims of excess benefit or private inurement)


5. Bankruptcy and reorganization:

Estimating the value of intellectual property used as a secured creditor’s debt collateral.

Estimating the value of intellectual property used as debtor in possession (DIP) secured debt financing collateral.

Providing evidence of the fairness of sale or license of debtor intellectual property (particularly with regard to a Bankruptcy Code Section 363 sale) as a DIP cash generation spinoff opportunity.

Estimating the value of intellectual property in the assessment of the debtor corporation solvency or insolvency with respect to fraudulent transfers and preference actions.

Calculating the impact of the use or license of intellectual property on the bankrupt owner/operator’s plan of reorganization.

Performing a fresh-start accounting fair value valuation of intellectual property of the debtor owner/operator emerging from bankruptcy protection

6. Financial reporting and fair value accounting:

Performing the business acquisition fair value accounting in order to allocate the purchase price among the acquired tangible assets and intangible assets.

Performing fair value valuations for goodwill and intellectual property periodic impairment testing.

Preparing post-bankruptcy fresh-start accounting fair value valuations for emerging entity tangible assets and intangible assets.

Preparing fair value valuations of intellectual property contributed to a business in exchange for an equity ownership

7. Forensic analysis and dispute resolution:

Measuring a fair royalty rate or other economic damages analysis in intellectual property infringement claims.

Measuring lost profits or other economic damages in intellectual property breach of contract, license, or noncompete/nondisclosure agreement damages claims.

Calculating the value of intellectual property included in condemnation, expropriation, eminent domain, or dissipation of corporate assets claims.

8. Owner/operator management strategic planning information:

Estimating the value of contributed intellectual property in the formation of joint venture, joint development, or joint commercialization agreements.

Assisting in the negotiation of inbound or outbound intellectual property use, development, commercialization, or exploitation agreements.

Assisting in the identification and negotiation of intellectual property license, spin-off, joint venture, and other commercialization opportunities.

Concluding the fairness of any transaction between an inventor/shareholder and the related business when the inventor/shareholder has fiduciary duty (e.g., to minority stockholders, ESOP participants, etc.)


Performing the valuation of (non-income-producing) defensive use intellectual property

_____________________________________________________________________________________

In addition to understanding the reason for the intellectual property valuation, the valuation

analyst should also understand the objective of the analysis. The owner/operator or the legal counsel

should specifically define which one (or ones) of the following intellectual property opinions the

valuation analyst is being asked:

1. to estimate a specifically defined value for the subject intellectual property;

2. to measure lost profits, lost value, or some other type of economic damages to the intellectual

property;

3. to conclude an arm’s-length price (ALP) for the intercompany transfer of intellectual property

between controlled foreign corporations (i.e., in compliance with Internal Revenue Code Section

482);

4. to estimate a license agreement fair royalty rate between independent arm’s-length parties (but

not related to Section 482);

5. to opine on the fairness of an intellectual property sale, license, or other transfer transaction from

a financial perspective;

6. to estimate the intellectual property remaining useful life (RUL);

7. to estimate a relative exchange ratio for two bundles of intellectual property; and

8. to analyze the development or commercialization potential of an intellectual property.

The valuation analyst’s engagement objective should be specified as one of the elements of the

intellectual property assignment. Typically, this analysis purpose and objective is documented in an

engagement letter between the analyst and the owner/operator (or between the analyst and the legal

counsel). Such an engagement letter provides useful assignment (and sometimes legal) instructions to the

valuation analyst. In addition, such a written engagement letter helps to reduce any future

misunderstandings between the valuation analyst and the owner/operator (or the legal counsel).

COMMON ELEMENTS OF THE INTELLECTUAL PROPERTY VALUATION ASSIGNMENT

In our experience, the first element of the valuation assignment is a complete definition of the subject

intellectual property. That definition statement should specify what patent, copyright, trademark, or trade

secret is the valuation subject. This definition should include the registration number and country for the

patent, copyright, or trademark (if registered). This definition statement should also describe any

commercial intangible assets that should be considered along with the subject intellectual property. For


example, should the trademark analysis include advertising materials, trade dress, and domain names?

Should the patent analysis include product/process engineering drawings, other technical documentation,

and related proprietary technology?

The second element of the valuation assignment is a description of the bundle of legal rights

subject to analysis. The assignment statement should specify which of the following (or which other)

bundles of legal rights the analyst should include in the intellectual property valuation:

1. fee simple interest

2. term/reversion interest

3. life/residual interest

4. licensor/licensee interest

5. territory (domestic/international) interest

6. product line/industry interest

7. sublicense rights

8. use rights

9. development rights

10. commercialization/exploitation rights

11. rights to enhancements, research and development efforts, new developments, etc.

12. rights to legal protection, promotional activities, advertising expenditures, etc.

The third element of the valuation assignment is a description of any intellectual property license

or contract that is in effect. If there is a license or agreement (contested or otherwise) associated with the

subject intellectual property, then the valuation analyst should be made aware of the contract terms. Some

common intellectual property contract terms are listed in Table 2.

_____________________________________________________________________________________

Table 2 Common Intellectual Property Contract Terms

1. Licensor/licensee responsibility common contract terms:

identity of the licensor and the licensee

term of the agreement (including any renewal options)

the intellectual property legal protection requirements

amount and responsibility for research and development expenditures

amount and responsibility for marketing, advertising, or other promotional expenditures

responsibility to obtain and maintain any licenses, permits, or other regulatory approvals


milestone dates for regulatory approvals, commercialization, sales levels, etc.

2. Other common contract terms:

minimum use, production, or sales requirements

minimum marketing, promotion, or commercialization expense requirements

research and development technology development payments, development completion payments

party responsible to obtain the required regulatory approvals

milestone license payments

rights to any future developments

rights to sub-license

_____________________________________________________________________________________

The fourth element in the valuation assignment is the standard (or definition) of value that the

analyst is being asked to conclude. The standard of value typically relates to the question: Value to

whom?

The different standards of value often correspond to different reasons to conduct the intellectual

property valuation. Often, the standard of value is determined by a statutory, regulatory, or administrative

requirement. Therefore, the owner/operator (or, commonly, the legal counsel) will instruct the analyst as

to the appropriate standard of value to use in the assignment. Some of the common alternative standards

of value include the following:

fair value

fair market value

use value

user value

owner value

investment value

acquisition value

contributory value

defensive value

collateral value

intrinsic value

residual value


The fifth element in the valuation assignment is the premise of value that the valuation analyst

should assume. The premise of value considers the assumed set of circumstances under which the

intellectual property transaction (sale or license) will take place. In other words, under what set of

circumstances will the parties identified in the standard of value get together to complete the transaction?

Some of the more common alternative premises of value include the following:

value in continued use

value in place (but not in use)

value in exchange—orderly disposition basis

value in exchange—voluntary liquidation basis

value in exchange—involuntary liquidation basis

The selected premise of value is typically an assignment instruction from the owner/operator (or

from the legal counsel). If the client (or legal counsel) does not provide an instruction as to the

appropriate premise of value, then the valuation analyst will typically select the premise of value that

concludes the highest and best use (HABU) for the subject intellectual property. In selecting the

intellectual property HABU, the valuation analyst may consider the following alternatives:

the current owner/operator HABU

a new owner/operator (i.e., the marketplace) HABU

licensor/licensee HABU

The sixth element of the valuation assignment is the valuation date. The owner/operator (or the

legal counsel) will instruct the analyst as to the appropriate “as of” date on which to conclude the defined

value. There is typically a transaction, legal, or regulatory reason to select a particular analysis “as of”

date.

The above-listed elements describe the objective of the valuation. In our experience, the valuation

analyst also needs to know the purpose of the valuation. The purpose of the valuation typically considers

the following elements:

1. What will the intellectual property valuation be used for?

2. Who will rely on (or receive a copy of) the valuation?

3. What form and format of an intellectual property valuation report is required?

4. Are there any legal instructions (e.g., specific statutory definitions, judicial precedent, or

reporting requirements) that the analyst should consider?


In order to serve the information needs of the owner/operator or the legal counsel, the valuation

analyst should have a clear understanding of the intellectual property assignment. The legal counsel is

often responsible for ensuring that the valuation analyst develops that clear understanding.

THE VALUATION PROCESS DATA GATHERING AND DUE DILIGENCE

Before the analyst selects and applies the valuation approaches, methods, and procedures, he or she

should perform a due diligence with respect to the owner/operator’s intellectual property. In our

experience, the legal counsel may participate in this due diligence process. This is particularly the case if

the intellectual property valuation relates to a transaction, financing, or litigation matter. However, these

analyst due diligence procedures relate to identifying and obtaining information for the valuation,

economic damages, or transfer price analysis. Therefore, the analyst’s due diligence process is a

supplement to—and not a substitute for—the lawyer’s legal due diligence process.

First, the valuation analyst will typically gather and analyze information related to the intellectual

property current owner/operator. The information will typically relate to both the historical development

and the current use of the intellectual property. Such information will typically include the following:

1. the owner/operator’s historical and prospective financial statements (related to the line of

business or business unit that operates the intellectual property)

2. the owner/operator’s historical and prospective intellectual property development and

maintenance costs

3. any current and expected owner/operator resource/capacity constraints (e.g., with consideration of

raw materials, production, storage, distribution, sales, etc.)

4. a description and an estimate of the intellectual property economic benefits to the current

owner/operator, including the following economic benefit components:

any associated revenue increase (e.g., related product unit price/volume, market size/position)

any associated expense decrease (e.g., expenses related to product returns, COGS, SG&A,

R&D)

any associated investment decrease (e.g., inventory, capital expenditures)

any associated risk decrease (e.g., the existence of any intellectual property contracts, a

decrease of cost of capital components, the defensive use of intellectual property)

any assessment of the impact of the intellectual property on the owner/operator’s

strategic/competitive strengths, weaknesses, opportunities, and threats (i.e., a SWOT

analysis)


The analyst may consider the market potential of the intellectual property outside of the current

owner/operator. For example, the analyst may consider the following factors from the perspective of an

alternative (e.g., hypothetical willing buyer) owner/operator:

1. a change in the market definition or in the market size for an alternative owner/user

2. a change in alternative/competitive uses of the intellectual property to an alternative owner/user

3. the ability of the intellectual property to create inbound/outbound license opportunities to an

alternative owner/user

4. whether the current owner can operate the intellectual property and also outbound license the

intellectual property (in different products, different markets, different territories, etc.)

The analyst should also review and challenge (1) any owner/operator-prepared financial

projections and (2) any owner/operator-prepared measures of intellectual property economic benefits. In

particular, the analyst may test the achievability of such projections and the reasonableness of such

economic benefit measures against industry, guideline company, and other benchmark comparisons. For

example, the analyst may perform the following benchmark comparative analyses:

1. compare any owner/operator prior-prepared projections to the owner/operator prior actual results

of operations

2. compare any owner/operator current management projections to the owner/operator current

capacity constraints

3. compare any owner/operator current financial projections to the current total market size (i.e.,

demand, capacity, etc.)

4. consider any published industry average comparable profit margin (CPM) data for the industry in

which owner/operator competes

5. consider selected guideline publicly traded company comparable profit margin (CPM) data for

the industry in which owner/operator compacts

6. consider the quality and quantity of available guideline or comparable intellectual property

license data for the industry in which owner/operator competes

7. perform an RUL analysis for the subject intellectual property, with consideration of the following

life measurements:

legal/statutory life

contract/license life

technology obsolescence life

economic obsolescence life

lives of prior generations of the subject intellectual property


position of the subject intellectual property in its current life cycle

In addition to comparing the owner/operator historical and projected results to the selected

guideline public companies (described below), the analyst may also compare the owner/operator results to

published industry data sources. Table 3 presents some of the common published industry data sources

that valuation analysts often use for these benchmark comparative intellectual property analyses.

_____________________________________________________________________________________

Table 3 Common Industry Financial Ratio Data Sources Used in the Intellectual Property Due Diligence

The Risk Management Association—Annual Statement Studies: Financial Ratio Benchmarks

BizMiner (The Brandow Company)—Industry Financial Profiles

CCH, Inc.—Almanac of Business and Industrial Ratios

Fintel, LLC—Fintel Industry Metrics Reports

MicroBilt Corporation (formerly IntegraInfo)—Integra Financial Benchmarking Data

ValueSource—IRS Corporate Ratios

Schonfeld & Associates, Inc.—IRS Corporate Financial Ratios

_____________________________________________________________________________________

The data sources included in Table 3 allow the valuation analyst to compare to owner/operator

financial results to benchmark industry expense ratios, profit margins, returns on investment, and so forth.

Such a comparison assists the valuation analyst to assess the reasonableness of the owner/operator’s

financial projections and/or the owner/operator’s assessment of any intellectual property economic

benefits.

GENERALLY ACCEPTED INTELLECTUAL PROPERTY VALUATION APPROACHES AND METHODS

There are three generally accepted intellectual property valuation approaches: the cost approach, the

market approach, and the income approach. The valuation analyst will typically consider, and attempt to

apply, all three approaches in the intellectual property valuation. This is because the application of

multiple approaches provides the analyst with multiple value indications. These multiple value indications

often reconcile into a reasonable range of intellectual property values (e.g., with the analyst considering

the mean, median, modes, interquartile measures, and other measures). Ideally, the multiple intellectual

property value indications provide mutually supportive evidence of the analyst’s final value conclusion.


However, most intellectual property valuations are primarily based on only one valuation

approach. For each intellectual property valuation, the analyst will select the approach (or approaches):

1. for which there are the greatest quantity and quality of available data,

2. that best reflect the actual transactional negotiations of market participants in the owner/operator

industry,

3. that best fit the characteristics (e.g., use, age, etc.) of the specific intellectual property, and

4. that are most consistent with the practical experience and professional judgment of the individual

analyst.

Within each valuation approach, there are several valuation methods that the analyst can select

and apply. And, within each method, there are also numerous procedures that the analyst can perform.

Therefore, valuation procedures are performed within a valuation method to conclude a value indication.

And, valuation methods are applied within a valuation approach to conclude a value indication.

The analyst may perform two or more valuation methods within a single approach. For example,

the analyst may perform three different income approach methods and then reconcile the three value

indications to conclude a single income approach value indication.

At this point in the process, the analyst will reconcile the various valuation approach indications

(if more than one approach is used). This synthesis of the various valuation approach value indications

will result in the analyst’s final value conclusion for the owner/operator’s intellectual property.

All of the cost approach methods are based on the economics principle of substitution. That is, the

value of intellectual property Alpha is influenced by the cost to create a new substitute intellectual

property Bravo. As will be discussed, all cost approach methods apply a comprehensive definition of

intellectual property cost, including consideration of an opportunity cost during the intellectual property

development stage. In addition, the cost of the new substitute intellectual property should be reduced (or

depreciated) in order to make the hypothetical new Bravo intellectual property comparable to the actual

“old” Alpha intellectual property.

Unlike many commercial intangible assets, intellectual property assets are not fungible. That is,

the marketplace cannot actually replace the Alpha intellectual property with an actual replacement Bravo

intellectual property. This is because Alpha is a legally protected intellectual property.

For example, an FCC license is an example of a fungible commercial intangible asset. A buyer

may refuse to accept the seller’s asking price for, say, an FCC broadcast license. Instead, the buyer can go

to the marketplace (or to the FCC) and buy a perfectly identical substitute license. In this case, the cost of

the alternative license is relevant to the valuation of the FCC license intangible asset.


However, a patent is not a fungible intangible asset. Rather, a patent (by definition) is a unique

intellectual property. A buyer cannot go to the marketplace and buy a perfectly identical substitute patent.

There is only one subject patent, and it is registered with the U.S. Patent and Trademark Office (PTO).

The buyer may buy a functionally similar patent. Or, the buyer can develop a new noninfringing

invention. However, a perfectly identical substitute patent would, by definition, infringe on the subject

patent. Therefore, although the cost approach is used in intellectual property valuation, it may have

certain application limitations.

All market approach methods are based on the two economics principles of efficient markets and

of supply and demand. That is, the value of the subject intellectual property may be estimated by

reference to prices paid in the marketplace for the arm’s-length sale or license of a comparable (or a

guideline) intellectual property.

A comparable intellectual property is very similar to the subject property. The comparable

intellectual property is approximately the same age, is at approximately the same place in its life cycle,

and is used about the same way that the subject intellectual property is used. The comparable property

may be used in the same industry, performing about the same function, at about the same size company as

the subject property. Sales or licensees of comparable intellectual property provide direct pricing evidence

to the analyst about the subject intellectual property. Accordingly, the analyst may be able to apply mean

or median pricing metrics to the subject intellectual property.

In contrast, a guideline intellectual property is generally similar (but not identical to) the subject

property. The guideline intellectual property should be subject to the same general risk and expected

return) investment elements as the subject intellectual property. However, compared to the

owner/operator intellectual property, the guideline intellectual property may be operated in a different

industry, at a different size company, with a different function, etc. Nonetheless, sales or licenses of

guideline intellectual property still provide meaningful (albeit indirect) pricing evidence to the analyst

about the subject intellectual property.

In order to obtain pricing evidence from the guideline intellectual property transactions, the

analyst will compare the guideline properties to the subject intellectual property. This comparison is often

based on such measures as relative growth rates, relative profit margins, relative returns on investment,

etc. These comparative analyses will allow the analyst to select subject-specific valuation pricing metrics.

The analyst will consider comparable uncontrolled transaction (CUT) pricing data related to

comparable property and to guideline property sales or licenses. The analyst will consider the CUT data

in order to extract pricing multiples or capitalization rates that can be applied to the owner/operator

intellectual property.


All income approach methods are based on the economics principle of anticipation. That is, the

value of any investment is the present value of the income that the owner expects to receive from owning

that investment. All income approach methods involve a projection of some measure of owner/operator

income over the intellectual property RUL. This income measure may relate to (1) the income earned

from operating the intellectual property in the owner/operator business enterprise (i.e., operating income)

and/or (2) the income earned from outbound licensing of the intellectual property from the owner/licensor

to an operator licensee that will pay a royalty (or some other payment) for the use of the intellectual

property (i.e., ownership income). This intellectual property-related income projection is converted to a

present value by the use of a risk-adjusted discount rate (or an annuity period direct capitalization rate).

In summary, cost approach methods are particularly applicable to the valuation of recently

developed intellectual property. In the case of a relatively new intellectual property, the owner/operator

development cost and effort data may still be available (or may be more subject to an accurate

estimation). In addition, cost approach methods are also applicable to the valuation of in-process

intellectual property and to noncommercialized intellectual property. An example of a

noncommercialized intellectual property is a patent or trademark that is held primarily for its strategic

defensive use (i.e., so a competitor cannot own or operate the subject intellectual property).

However, in all cases, the valuation analyst should realize that the intellectual property value is

not derived from the current cost measure alone. Rather, the intellectual property value is derived from

the current cost measure (however defined) less appropriate allowances for all forms of depreciation and

obsolescence.

Market approach methods are particularly applicable when there are a sufficient quantity of

comparable (almost identical) intellectual property transaction data or guideline (similar from a risk and

expected return perspective) intellectual property transaction data. These transactions may relate to either

sale or license transactions. Such arm’s-length, third party transactions are typically called CUT sales or

licenses. The valuation analyst will attempt to extract market-derived valuation pricing metrics (e.g.,

pricing multiples or capitalization rates) from these CUT data to apply to the corresponding metrics of the

subject intellectual property.

Finally, income approach methods are particularly applicable to situations in which the subject

intellectual property is used to generate a measurable amount of income. That income can either be (1)

operating income (when the intellectual property is used in the owner’s business operations to increase

revenue or decrease costs) or (2) ownership income (when the intellectual property is licensed from the

owner/licensor to an operator/licensee in order to produce royalty income).

Income approach methods may also be used when the owner/operator has elected not to

commercialize the intellectual property. Rather, the owner/operator may have elected to develop and


maintain the intellectual property for defensive purposes. This situation would be the case when this

deliberate forbearance of use is for the purpose of protecting the income that is produced by the

owner/operator’s other intellectual property. The applicable measure of income in this analysis would be

the “opportunity cost” related to the alternative intellectual property. That opportunity cost is often

measured as (1) the actual income generated by the “protected” intellectual property less (2) the income

that the protected property would generate “but for” the defensive protection of the subject intellectual

property.

COST APPROACH VALUATION METHODS

There are several intellectual property valuation methods encompassed in the cost approach. Each

valuation method uses a particular definition (or measurement metric) of cost. The two most common

cost definitions are:

1. reproduction cost new and

2. replacement cost new.

Reproduction cost new measures the total cost, in current prices, to develop an exact duplicate of

the subject intellectual property. Replacement cost new measures the total cost, in current prices, to

develop a new intellectual property having the same functionality or utility as the subject intellectual

property. Functionality is an engineering concept that means the ability of the intellectual property to

perform the task for which it was designed. Utility is an economics concept that means the ability of the

intellectual property to provide an equivalent amount of satisfaction to the owner/operator.

There are other cost definitions that are also applicable to a cost approach valuation. Some

valuation analysts consider a measure of cost avoidance as a cost approach method. This method

quantifies either historical or prospective development costs that are avoided because the owner/operator

already owns the subject intellectual property.

Some valuation analysts consider trended historical costs as a cost approach measure. In this

method, the intellectual property historical development costs are identified and trended to the valuation

date by the use of an inflation-based index factor. This trended historical cost method is particularly

applicable when (1) the subject intellectual property is relatively new or (2) the owner/operator has fairly

complete records related to the historical development costs and efforts. In addition, the inflation-based

trend index should be appropriate to the type of costs that are being indexed to current costs.

Regardless of the specific cost definition that is used in the cost analysis, all cost measurement

methods (including reproduction cost, replacement cost, or some other cost measurement) should

consider a comprehensive cost analysis.


Any cost measurement considers includes the following four cost components: (1) direct costs

(e.g., materials and supplies), (2) indirect costs (e.g., engineering and design expenses, legal fees), (3) an

intellectual property developer’s profit (e.g., a profit margin percent applied to the direct cost and indirect

cost investment), and (4) an opportunity cost/entrepreneurial incentive (e.g., a measure of lost income

opportunity cost during the intellectual property development period adequate to motivate the

development process).

Usually, the intellectual property development material, labor, and overhead costs are easy to

identify and quantify. The developer’s profit component can be estimated using several generally

accepted procedures. This cost component is often estimated as a percentage rate of return (or profit

margin) on the developer’s investment in the material, labor, and overhead costs. The entrepreneurial

incentive component is often measured as the lost income that the developer would experience during the

replacement intellectual property development period.

The lost income concept of entrepreneurial incentive is often considered in the context of a “make

versus buy” decision. For example, let’s assume that it would require a two-year period for a potential

buyer to develop a replacement patent. If the buyer “buys” the seller’s actual patent, then the buyer can

start earning income (either operating income or ownership license income) immediately. In contrast, if

the buyer “makes” its own hypothetical replacement patent, then the buyer will not earn any income

(either operating income or ownership license income) during the two-year development period. The two

years of lost income during the hypothetical patent development period represents the opportunity cost of

“making” (i.e., developing) a de novo replacement patent—compared to “buying” the actual seasoned

patent.

All four cost components—that is, direct costs, indirect costs, developer’s profit, and

entrepreneurial incentive—should be considered in the intellectual property cost approach valuation.

Therefore, while the cost approach represents a different set of analyses than the income approach, there

are certain economic analyses included in the cost approach. These economic analyses provide indications

of either of these two related cost approach components: (1) the appropriate amount of lost income

opportunity cost (if any) or (2) the appropriate amount of economic obsolescence (if any).

The intellectual property cost new (however measured) should be adjusted for any decreases in

the subject intellectual property value due to:

1. physical deterioration,

2. functional obsolescence, and

3. economic obsolescence.


Physical deterioration is the reduction in asset value due to physical wear and tear. It is unlikely

that an intellectual property will experience physical deterioration.

Functional obsolescence is the reduction in asset value due to the inability of the subject

intellectual property to perform the function (or yield the periodic utility) for which it was originally

designed. The technological component of functional obsolescence is a decrease in asset value due to

improvements in technology that make the subject intellectual property less than the ideal replacement for

itself.

Economic obsolescence is a reduction in asset value due to the effects, events, or conditions that

are external to—and not controlled by—the current use or condition of the intellectual property. The

impact of economic obsolescence is typically beyond the control of the intellectual property

owner/operator. Economic obsolescence is often analyzed with respect to the ability of the owner/operator

to earn a fair rate of return on investment (ROI) related to the actual intellectual property.

In any cost approach analysis, the valuation analyst should estimate the amounts (if any) of

intellectual property physical deterioration, functional obsolescence, and economic obsolescence. In this

estimation, the valuation analyst may consider the intellectual property expected RUL and the intellectual

property actual ROI.

Figure 1 illustrates the consideration of direct and indirect costs (e.g., material and direct labor)

and developer’s profit and entrepreneurial income in the cost approach valuation of an intellectual

property. Figure 1 also considers the comparison of historical costs to current (valuation date) costs. In

Figure 1, the total historical direct and indirect costs are illustrated to equal $100 when the intellectual

property was developed in 2000. The total replacement direct and indirect costs are illustrated at $125, as

of a 2012 valuation date.

Figure 1 also illustrates how the owner/operator does not typically consider the developer’s profit

or entrepreneurial incentive cost components—even if the owner/operator did keep track of the historical

(e.g., year 2000) direct material and labor development costs. The year 2012 developer’s profit and

entrepreneurial incentive cost components (illustrated at $75) are then added to the year 2012 direct and

indirect cost components (illustrated at $125). The sum of all of these cost components (illustrated at

$200) is the year 2012 replacement cost new (RCN) for the subject intellectual property.


_____________________________________________________________________________________

Figure 1 Cost Approach

Comparison of Historical Cost to Replacement Cost New in the Intellectual Property Development Process

Figure 2 illustrates the relationships between replacement cost new (RCN) and replacement cost

new less depreciation (RCNLD) in the intellectual property cost approach valuation. In Figure 2, the

intellectual property RCN is illustrated at $200; this is the same RCN estimate concluded in Figure 1.

In a cost approach analysis, depreciation is subtracted from the RCN in order to estimate the

intellectual property current value (or RCNLD). As illustrated in Figure 2, the three depreciation

components include physical depreciation (typically a de minimus consideration for intellectual property),

functional obsolescence, and economic obsolescence. In Figure 2, these three depreciation components

are illustrated to be approximately $60. Therefore, the intellectual property RCNLD is calculated as

follows:


$200 replacement cost new (RCN) – 60 less depreciation (LD) = $140 replacement cost new less depreciation (RCNLD)

In Figure 2, the current value (or the RCNLD) of the subject intellectual property is illustrated to

be approximately $140. As illustrated in Figure 2, it is noteworthy that RCNLD (and not RCN) provides

the intellectual property cost approach value indication.

_____________________________________________________________________________________

Figure 2 Cost Approach

Comparison of Replacement Cost New to Current Value in the Intellectual Property Development Process

_____________________________________________________________________________________

A common cost approach formula for quantifying intellectual property replacement cost new is:

reproduction cost new – curable functional obsolescence = replacement cost new. To estimate the


intellectual property value, the following cost approach formula is commonly used: replacement cost new

– physical deterioration = economic obsolescence – incurable functional obsolescence = intellectual

property value. In the cost approach, obsolescence is considered curable if the cost to cure the intellectual

property deficiency (e.g., the cost to re-write the copyrighted software) is less than the cost of operating

the deficient intellectual property (e.g., the cost of running multiple software programs that do not share a

common database). Obsolescence is considered curable if the cost of curing the deficiency is less than the

cost of operating the deficient intellectual property.

Exhibits 1 and 2 (note that all exhibits are presented at the end of this paper) present a simplified

example of an intellectual property cost approach valuation analysis. In this illustrative example, the

valuation analyst is asked to estimate the fair market value of the copyrights and trade secrets related to

the Charlie Company (“Charlie”) computer software. All of the Charlie computer software source code is

subject to copyright protection. And, both (1) the software source code and (2) the systems operations

documentation and the user manuals are treated as company trade secrets. The appropriate valuation date

is January 1, 2012.

In this valuation, the valuation analyst decided to use the cost approach and the replacement cost

new less depreciation (RCNLD) method. Exhibit 1 includes the analysis of all four cost components in

this cost approach application. Exhibit 1 also illustrates the analyst’s functional obsolescence

considerations and conclusion. Exhibit 2 presents the detailed analysis of one of the four replacement cost

new (RCN) components: the developer’s profit calculation.

Based on the cost approach analysis summarized in Exhibit 1, the indicated fair market value of

the Charlie computer software copyrights and trade secrets, as of January 1, 2012, is $200 million.

MARKET APPROACH VALUATION METHODS

Willamette Management Associates valuation analysts typically attempt to apply market approach

methods first in an intellectual property valuation. This is because “the market”—that is, the economic

environment where arm’s-length sale or license transactions between unrelated parties occur—often

provides the best indication of value. However, the market approach will only provide meaningful

valuation guidance when the subject intellectual property is sufficiently similar to the intellectual property

assets that are actually transacting (by sale or license) in the marketplace. In that is the case, the guideline

intellectual property transaction (sale or license) prices may provide evidence of the expected price for the

subject intellectual property.

There are two principal intellectual property market approach valuation methods: (1) the

comparable uncontrolled transaction (CUT) method and (2) the comparable profit margin (CPM) method.


In the CUT method, the valuation analyst searches for arm’s-length sales or licenses of

benchmark intellectual property. In the CPM method, the valuation analyst searches for companies that

provide useful benchmarks to the subject owner/operator company.

In the CUT method, the analyst will more likely rely on CUT license transactions than on CUT

sale transactions. This is because third party licenses of intellectual property are more common than third

party sales of intellectual property. Nonetheless, for both sale and license transactions, the valuation

analyst will follow a systematic process in the application of the CUT method.

First, the analyst should research the appropriate exchange markets in order to obtain information

about sale or license transactions involving “guideline” (i.e., generally similar) or “comparable” (i.e.,

almost identical) intellectual property that may be compared to the subject intellectual property. Some of

the relevant comparison attributes include characteristics such as intellectual property type, intellectual

property use, historical and expected future usage, industry in which the intellectual property operates,

date of the sale or license, etc.

Second, the analyst should verify the transactional information by confirming that (1) the

transactional data are factually accurate and (2) the identified sale or license exchange transactions

actually reflect arm’s-length market considerations. If the guideline sale or license transaction was not

actually concluded at arm’s-length market conditions, then adjustments to the transactional pricing data

may be necessary. This verification procedure may also elicit additional information about the current

market conditions for the sale or license of the subject intellectual property.

Third, the analyst should select relevant units of comparison (e.g., income pricing multiples or

dollars per unit—such as price “per drawing” or “per line of code”). Then, the analyst should develop a

comparative analysis for each selected unit of comparison. In this comparative analysis, the analyst

compares the subject intellectual property to each of the selected guideline or comparable intellectual

property transactions.

Fourth, the analyst should compare the selected guideline or comparable sale or license

transactions with the subject intellectual property, using the selected elements of comparison. Next, the

analyst should adjust the sale or license price of each guideline transaction for any differences between

the guideline/comparable intellectual property and the subject intellectual property. If such comparative

adjustments cannot be measured, then the analyst may eliminate the sale or license transaction as a

guideline/comparable from future valuation consideration.

Fifth, the analyst should select the subject-specific pricing metrics from the range of pricing

metrics indicated from the guideline or comparable transactions. The analyst may select pricing multiples

at the low end, midpoint, high end, or even outside of the range of pricing metrics indicated by the

guideline sale or license transactional data. The valuation analyst will select the subject-specific pricing


metrics based on the analyst’s comparison of the owner/operator intellectual property to the

guideline/comparable intellectual property.

Sixth, the analyst should apply the subject-specific selected pricing metrics to the subject

intellectual property financial or operational fundamentals (e.g., revenue, income, number of drawings,

number of lines of code, etc.). This valuation procedure will typically result in several market-derived

value indications for the subject intellectual property.

Seventh, the analyst should reconcile the various value indications derived from the analysis of

the guideline sale and/or license transactions into a single market approach value indication. In this final

reconciliation procedure, the valuation analyst will summarize and review (1) the transactional data and

(2) the quantitative analyses (i.e., various pricing multiples) that resulted in each value indication. Finally,

the valuation analyst should synthesize these value indications into a single market approach value

indication.

Table 4 describes several of the on-line reference databases that a valuation analyst will typically

search in order to select intellectual property license CUTs. Table 5 describes several of the print

reference sources that a valuation analyst will typically search in order to select intellectual property

CUTs.

_____________________________________________________________________________________

Table 4 Market Approach

Comparable Uncontrolled Transaction (CUT) Method Common Intellectual Property License Transaction Databases

RoyaltySource www.royaltysource.com—AUS Consultants produces a database that provides intellectual property license transaction royalty rates. The database can be searched by industry, technology, and/or keyword. The information provided includes the license royalty rates, name of the licensee and the licensor, a description of the intellectual property licensed (or sold, if applicable), the transaction terms, and the original sources of the information provided. Preliminary CUT results are available online and a final report is sent to the subscriber via e-mail. RoyaltyStat, LLC www.royaltystat.com—RoyaltyStat is a subscription-based database of intellectual property license royalty rates and license agreements, compiled from Securities and Exchange Commission documents. It is searchable by SIC code or by full text. The CUT results can be viewed online or archived. The intellectual property transaction database is updated daily. The full text of each intellectual property license agreement in the database is available. Royalty Connection www.royaltyconnection.com—Royalty ConnectionTM provides online access to intellectual property license royalty rate and other license information on all types of technology, patents, trade secrets, and know-how. The data are aggregated from information on all types of technology, patents, trade secrets,


and know-how. The data are aggregated from arm’s-length sale/license transactions, litigation settlements, and court-awarded royalty order from 1990 to the present. The intellectual property license database is frequently updated. Users can search by industry, product category, or keyword. The information provided includes the consideration paid for the intellectual property license and any restrictions (such as geographic or exclusivity). ktMINE www.bvmarketdata.com—ktMINE is an interactive intellectual property database that provides direct access to license royalty rates, actual license agreements, and detailed agreement summaries. The database contains over 7,800 intellectual property license agreements. The intellectual property license database is updated frequently. License agreements are searchable by industry, keyword, and various other parameters. The full text of each intellectual property license agreement is available. _____________________________________________________________________________________


Comparable Uncontrolled Transaction (CUT) Method Common Intellectual Property License Transaction Print Sources

AUS Consultants publishes a monthly newsletter, Licensing Economics Review, which contains license royalty rates on selected recent intellectual property transactions. The December issue each year also contains an annual summary of intellectual property license royalty rates by industry. Gregory J. Battersby and Charles W. Grimes annually author a book called License Royalty Rates, which is published by Aspen Publishers. This reference tool provides intellectual property license royalty rates for 1,500 products and services in 10 different licensed product categories: art, celebrity, character/ entertainment, collegiate, corporate, designer event, music, nonprofit, and sports. Intellectual Property Research Associates produces three books that contain information on license royalty rates for patents, trademarks, and copyrights. The books are Royalty Rates for Trademarks & Copyrights, Royalty Rates for Technology, and Royalty Rates for Pharmaceuticals & Biotechnology. _____________________________________________________________________________________

In addition, the valuation analyst will also confer with the owner/operator management to explore

whether the owner/operator has entered into any intellectual property license agreements (either inbound

or outbound). These owner/operator license agreements may relate to either the subject intellectual

property or to comparable intellectual property.

The CPM method is also based on a comparative analysis. However, in this valuation method, the

analyst does not rely on sales or licenses of comparable intellectual property. Rather, the valuation analyst

searches for comparable or guideline companies. The objective of the CPM method is to identify

guideline companies that are comparative to the owner/operator company in all ways except one. The


owner/operator, of course, owns the subject intellectual property. Ideally, the selected guideline

companies (1) will operate in the same industry as the owner/operator and (2) will provide a comparable

benchmark to the owner/operator. However, the selected guideline companies should not own a

comparable intellectual property.

Ideally, the CPM method guideline companies operate in the same industry as the

owner/operator. Ideally, the guideline companies have the same types of raw materials and the same types

of sources of supply. Ideally, the guideline companies have the same type of customers. Ideally, the

guideline companies produce the same type of products or services. And, ideally, the only material

difference should be that the owner/operator has an established trademark and the guideline companies

have generic trademarks. Or, the owner/operator owns the subject patent and the guideline companies

produce unpatented (and presumably inferior) products.

Because of the economic benefit that the subject intellectual property provides, the

owner/operator company should earn a higher profit margin than the selected guideline companies. This

profit margin comparison is usually made at the earnings before interest and taxes (or EBIT) level of

income. The incremental (or superior) profit margin (typically measured as the EBIT margin) earned by

the owner/operator can then be converted into an intellectual property-related royalty rate. Typically, all

of the excess profit margin is assigned to the intellectual property (if the subject intellectual property is

the only reason for the owner/operator superior profit margin).

This royalty rate (derived from the excess profit margin) is then multiplied by the owner/operator

revenue in order to estimate the amount of implied royalty income generated from the subject intellectual

property. This hypothetical royalty income is typically capitalized over the intellectual property expected

RUL. The result of this capitalization procedure is an estimate of the intellectual property value,

according to the CPM method.

Table 6 presents a nonexhaustive list of publicly traded company on-line data sources. Valuation

analysts often use such on-line data sources to (1) select guideline companies for the CPM method

analysis and (2) obtain guideline company profit margin information to use in the CPM method analysis.


_____________________________________________________________________________________


Comparable Profit Margin (CPM) Method Common Data Sources for Guideline Company Profit Margins

FactSet Research Systems, Inc.—FactSet

Hoover’s, Inc.—Hoover’s Company Records

Mergent, Inc.—MergentOnline

Morningstar, Inc.—Morningstar Equity Research

Standard & Poor’s—CapitalIQ

Thomson Reuters—Thomson ONE Analytics

_____________________________________________________________________________________

Table 7 illustrates a simplified application of the CPM method to value the hypothetical Delta

Company patent. The valuation date for this illustrative example is January 1, 2012.


_____________________________________________________________________________________

Table 7 Delta Company Patent Valuation

CPM Method Simplified Example As of January 1, 2012

CPM Method Margin Analysis EBIT Selected Guideline Public Companies Profit Margin Whiskey Corporation 8% X-ray Corporation 11% Yankee Corporation 11% Zulu Corporation 12% Guideline companies mean EBIT margin 10.5% Guideline companies median EBIT margin 11% Guideline companies mode EBIT margin 11% Selected CPM EBIT profit margin 11% Delta Company actual EBIT profit margin 15% Excess profit margin due to the Delta patent 4% CPM Method Excess Profit Analysis Delta Company patented product annual revenue $100,000,000 × Excess profit margin due to the Delta patent 4% = Excess profit due to the Delta patent $4,000,000 Let’s assume a 20% pretax discount rate and a 10-year patent RUL: the present value of an annuity factor at 20% for 10 years = 4.1925 CPM Method Valuation Analysis Excess profit due to the Delta patent $4,000,000 × Present value of annuity factor, 20%, 10 years 4.1925 = Present value of Delta patent excess income 16,770,000 Indicated value of the Delta patent (rounded) $16,800,000 _____________________________________________________________________________________

In summary, there are several intellectual property market approach valuation methods. These

methods are all based on comparative analyses of comparable intellectual property sales, comparable

intellectual property license royalty rates, or comparable companies (i.e., companies that own and operate

generic intellectual property).


Finally, Exhibit 3 presents an illustrative example of a simple intellectual property market

approach valuation. In this example, the valuation analyst is asked to estimate the fair market value of the

Echo Company (“Echo”) trademarks and trade names. Echo is a telecommunications company. The

appropriate valuation date is as of January 1, 2012.

The valuation analyst decided to use the market approach and the relief from royalty (RFR)

analysis of the CUT method in this trademark valuation. Exhibit 4 summarizes the analyst’s search for,

selection of, and analysis of CUT trademark license agreements. Like the Echo trademarks, the CUT

trademark licenses are all used in the telecommunications industry.

Exhibit 5 summarizes the valuation analyst’s calculation of the Echo present value discount rate.

This discount rate is used to present value the royalty income projection over the Echo trademark

expected RUL.

Based on discussions with Echo management and on research regarding the life cycle of

comparable telecommunications industry trademark, the analyst determined that the average RUL of the

Echo trademarks was 20 years. Therefore, the Echo trademark valuation is based on a 20-year trademark

royalty income projection period.

Based on the market approach valuation analysis summarized in Exhibit 3, the valuation analyst

concluded a fair market value of $840 million for the Echo trademarks and trade names, as of January 1,

2012.

INCOME APPROACH VALUATION METHODS

In this valuation approach, the intellectual property value is estimated as the present value of the future

income from the ownership/operation of the subject intellectual property. The present value calculation

has three principal components:

1. an estimate of the duration (or term) of the intellectual property income projection period,

typically measured as the subject intellectual property RUL,

2. an estimate of the intellectual property-related income for each period in the projection, typically

measured as either owner income (e.g., license royalty income), operator income (e.g., some

portion of business enterprise income), or a combination of both, and

3. an estimate of the appropriate discount rate or direct capitalization rate, typically measured as the

required rate of return on an investment in the subject intellectual property.

For purposes of the income approach, the RUL relates to the period of time over which the

owner/operator expects to receive any income related to the intellectual property (1) license, (2) use, or

(3) forbearance of use. In addition to the term of the RUL, the analyst is also interested in the shape of the


RUL curve. That is, the analyst is interested in the annual rate of decay of the subject intellectual property

expected future income.

For purposes of the income approach, many different intellectual property income measures may

be used. If properly applied, any of these different income measures can be used to derive a value

indication. Some of the different owner/operator income measures include the following:

1. gross or net revenue

2. gross income (or gross profit)

3. net operating income

4. net income before tax

5. net income after tax

6. operating cash flow

7. net cash flow

8. incremental income

9. differential income

10. royalty income

11. excess earnings income

12. several others (such as incremental income)

Because there are different income measures that may be used in the income approach, it is

important for the capitalization rate (either the discount rate or the direct capitalization rate) to be derived

on a basis consistent with the income measure used. That means, both the income measure and the

capitalization rate should be calculated either before tax or after tax. Also, both the income measure and

the capitalization rate should be calculated either before interest expense or after interest expense.

Regardless of the income measure selected, there are several categories of income approach

valuation methods that may be used to value an intellectual property:

1. Valuation methods that quantify an incremental level of intellectual property income—In these

methods, the owner/operator will expect a greater level of revenue (however measured) by

owning/operating the intellectual property as compared to not owning/operating the intellectual

property. Alternatively, the owner/operator may expect a lower level of costs—such as capital

costs, investment costs, or operating costs—by owning/operating the intellectual property as

compared to not owning/operating the intellectual property.

2. Valuation methods that estimate a relief from a hypothetical license royalty payment—These

methods estimate the amount of hypothetical royalty payment that the owner/operator (as a

hypothetical licensee) does not have to pay to a third party licensor for the use of the intellectual


property. The owner/operator is “relieved” from paying this hypothetical license royalty payment.

This is because the owner/operator, in fact, owns the subject intellectual property.

3. Valuation methods that estimate a residual measure of intellectual property income—These

methods typically start with an estimate of the owner/operator overall business enterprise income.

Next, the valuation analyst identifies all of the tangible assets and routine intangible assets (other

than the intellectual property) that are used in the owner/operator overall business. These assets

are typically called contributory assets. The analyst then multiplies a fair rate of return times the

value of each of the contributory assets. The product of this multiplication is the fair return on all

of the contributory assets. The analyst then subtracts the fair return on the contributory assets

from the owner/operator total business enterprise income. This residual (or excess) income is the

income related to the intellectual property.

4. Valuation methods that rely on a profit split—These methods typically also start with an estimate

of the owner/operator total business enterprise income. The valuation analyst then allocates or

“splits” this total income between (a) the owner/operator tangible assets and routine intangible

assets and (b) the intellectual property. The profit split percent (e.g., 20 , 25 , etc.) to the subject

intellectual property is typically based on the analyst’s functional analysis of the owner/operator

business operations. This functional analysis identifies the relative importance of (a) the

intellectual property and (b) the contributory assets to the production of the owner/operator total

business income.

5. Valuation methods that quantify comparative income—These methods compare the

owner/operator income to a benchmark measure of income (that, presumably, does not benefit

from the use of the intellectual property). Common benchmark income measures include: (a) the

owner/operator income before the intellectual property development, (b) industry average income

levels, or (c) selected guideline publicly traded company income levels. A common measure of

income for these comparative analyses is the earnings before interest and taxes (or EBIT) margin.

When publicly traded companies are used as the comparative income benchmark, the method is

called the comparable profit margin (or CPM) method.

Each of these income approach valuation methods can be applied using either (1) the direct

capitalization procedure or (2) the yield capitalization procedure.

In the direct capitalization procedure, the valuation analyst (1) estimates a normalized income

measure for one future period (typically, one year) and (2) divides that measure by an appropriate

investment rate of return. The appropriate investment rate of return is called the direct capitalization rate.


The direct capitalization rate may be derived for (1) a perpetuity time period or (2) a specified finite time

period. This decision will depend on the valuation analyst’s estimate of the intellectual property RUL.

Typically, the analyst will conclude that the subject intellectual property has a finite RUL. In that

case, the analyst may use the yield capitalization procedure. Or, the analyst may use the direct

capitalization procedure with a limited life direct capitalization rate. Mathematically, the limited life

capitalization rate is typically based on a present value of annuity factor (PVAF) for the intellectual

property RUL.

In the yield capitalization procedure, the valuation analyst projects the appropriate income

measure for several future time periods. The discrete time period is typically based on the intellectual

property RUL. This income projection is converted into a present value by the use of a present value

discount rate. The present value discount rate is the investor’s required rate of return—or yield

capitalization rate—over the income projection expected term.

The result of either the direct capitalization procedure or the yield capitalization procedure is the

income approach intellectual property value indication.

Finally, Exhibit 6 presents a simplified example of an income approach intellectual property

valuation. In this illustrative example, the valuation analyst is asked to value a Foxtrot Company

(“Foxtrot”) pharmaceutical product patent. The appropriate valuation date is January 1, 2012.

The valuation analyst decided to use the income approach and the multi-period excess earnings

method (or MEEM). Because the patented product revenue is expected to change at a non-constant rate

over time, the analyst decided to use the yield capitalization procedure.

The Foxtrot Company patent is used to manufacture a pharmaceutical product called Golf. Based

on the remaining legal life of the Golf product patent and the expected Golf product line revenue decay

rate (considering the effect of a competitive drug product), the valuation analyst estimates a 10-year RUL

for the Golf patent.

Foxtrot management provided the analyst with a financial projection for the overall Foxtrot

division in which the Golf product is manufactured. The analyst performed a revenue decay rate analysis

related to the Golf product in order to conclude a Golf patent revenue growth rate (or, in this case, decay

rate).

Exhibit 6 presents the projection of the Golf product revenue and profit over the patent expected

10-year RUL. The analyst estimated an appropriate contributory asset charge (or return on investment) on

all of the Foxtrot contributory assets, including working capital assets, tangible assets, and routine (non-

patent) intangible assets. This contributory asset charge analysis is summarized on Exhibit 7.

In order to minimize the number of white paper exhibits, let’s assume that Foxtrot Company has

the same 11 cost of capital as presented in the previous Echo Company example (see Exhibit 5).


Therefore, the valuation analyst used 11 as the Foxtrot Company weighted average cost of capital—or

present value discount rate.

Based on the income approach valuation analysis summarized in Exhibit 6, the analyst estimated

that the fair market value of the Golf product patent was $790 million, as of January 1, 2012.

INTELLECTUAL PROPERTY VALUATION SYNTHESIS AND CONCLUSION

In the valuation synthesis and conclusion process, the valuation analyst will typically consider the

following question: Does the selected valuation approach(es) and method(s) accomplish the analyst’s

assignment? That is, does the selected approach and method actually quantify the desired objective of the

analysis, such as:

defined value

transaction price

third-party license rate

an intercompany transfer price

an economic damages estimate

an intellectual property bundle exchange ratio

an opinion on the intellectual property transaction fairness

The valuation analyst should also consider if the selected valuation approach and method

analyzes the appropriate intellectual property bundle of legal rights. The valuation analyst should consider

if there were sufficient empirical data available to perform the selected valuation approach and method.

That is, the valuation synthesis should consider if there were sufficient data available to make the analyst

comfortable with the analysis conclusion. And, the analyst should consider if the selected approach and

method will be understandable to the intended audience for the intellectual property valuation.

The analyst should also consider which valuation approaches and methods deserve the greatest

consideration with respect to the intellectual property RUL. The intellectual property RUL is an important

consideration of each valuation approach. In the income approach, the RUL will affect the projection

period for the intellectual property income subject to either yield capitalization or direct capitalization. In

the cost approach, the RUL will affect the total amount of obsolescence, if any, from the estimated cost

measure—that is, the intellectual property reproduction cost new or replacement cost new. In the market

approach, the RUL will affect the selection, rejection, and/or adjustment of the comparable or guideline

sale or license transactional data.

The following factors typically influence the analyst’s conclusion with respect to the intellectual

property expected RUL:


legal factors

contractual factors

functional factors

technological factors

economic factors

analytical factors

Each of these categories of factors is normally considered in the valuation analyst’s RUL

estimation. Typically, the life factor that indicates the shortest RUL deserves primary consideration in the

valuation synthesis and conclusion.

Ultimately, the experienced valuation analyst will use professional judgment to weight the

various value indications to conclude a final value, based on:

the analyst’s confidence in the quantity and quality of available data (including both financial and

operational data)

the analyst’s level of due diligence performed on that data

the relevance of the valuation method to the subject intellectual property life cycle stage and

degree of marketability

the degree of variation in the range of value indications

Based on this valuation synthesis, the intellectual property final value conclusion can be (1) a

point estimate (which is common for fair market value valuations) or (2) a value range (which is common

for transaction negotiations or license/sale fairness opinions).

THE ATTRIBUTES OF AN EFFECTIVE INTELLECTUAL PROPERTY VALUATION REPORT

There are numerous objectives related to the intellectual property valuation report. Of course, the

valuation analyst wants to persuade the report reader (whether the reader is a transaction party, a taxing

authority, an auditor, a financial institution, a judge or other finder of fact, etc.). And, the analyst wants to

defend the intellectual property value (or damages, transfer price, etc.) conclusion. In order to accomplish

these objectives, the content and format of the valuation report should demonstrate that the analyst:

1. understood the specific intellectual property valuation assignment,

2. understood the subject intellectual property and the subject bundle of legal rights,

3. collected sufficient owner/operator financial and operational data,

4. collected sufficient industry, market, and competitive data,


5. documented the specific intellectual property owner/operator economic benefits,

6. performed adequate due diligence procedures related to all available data,

7. selected and applied all applicable income approach, market approach, and cost approach

valuation methods, and

8. reconciled all value (or damages, transfer price, royalty rate, etc.) indications into a final

intellectual property analysis conclusion.

The final (and arguably most important) procedure in the entire analysis is for the analyst to

defend the value (or damages, transfer price, royalty rate, etc.) conclusion in a replicable and well-

documented valuation report.

When defending a value (or transfer price, royalty rate, economic damages, exchange ratio, or

fairness) conclusion, the valuation analyst’s written report should include numerous attributes. Many of

these intellectual property valuation report attributes are listed in Table 8.


_____________________________________________________________________________________

Table 8 Intellectual Property Valuation

Common Valuation Report Attributes

The intellectual property valuation report should typically include the following attributes:

explain the intellectual property valuation (or damages, transfer price, royalty rate, etc.) assignment

describe the subject intellectual property and the subject bundle of legal rights related to the intellectual property

explain the reasons for the selection or the rejection of all generally accepted valuation approaches and methods

explain the selection and application of all of the specific analytical procedures that were performed

describe the analyst’s data gathering and due diligence procedures

list all documents and data that were considered by the analyst

include copies of all source documents that were specifically relied on by the analyst

summarize all of the qualitative analyses performed (and, in particular, all strengths, weaknesses, opportunities and threats analysis and other competitive analyses)

include schedules and exhibits documenting all of the quantitative analyses performed

avoid any unexplained or unsourced valuation variables or analysis assumptions

provide sufficient explanation and data to allow the report reader to be able to replicate all of the quantitative analyses performed

_____________________________________________________________________________________

In order to encourage the reader’s acceptance of the intellectual property valuation report analysis

and conclusion:

the report should be clear, convincing, and cogent;

the report should be well-organized, well-written, and well-presented; and

the report should be free of grammar, punctuation, spelling, and mathematical errors.

In summary, the effective (i.e., the persuasive) intellectual property valuation report will tell a

narrative story that:

1. defines the elements of (or components of) the valuation analyst’s specific assignment;

2. describes the analyst’s data gathering and due diligence procedures;


3. justifies the analyst’s selection of the generally accepted intellectual property valuation

approaches, methods, and procedures;

4. explains how the analyst performed the valuation synthesis process and reached the final value

conclusion; and

5. defends the analyst’s intellectual property value conclusion.

TYPE OF PROFESSIONAL WHO SHOULD PERFORM THE INTELLECTUAL PROPERTY VALUATION

An important consideration for the owner/operator—and for the legal counsel—is the question of: What

type of professional should perform the intellectual property valuation? There are many categories of

professionals who routinely perform intellectual property valuation (and damages, transfer price, etc.)

analyses. These various categories of professionals include the following:

accountants

economists

licensing executives

intellectual property consultants

industry specialists

valuation analysts

Typically, both the owner/operator and the legal counsel will be involved in the decision

regarding which type of professional to retain for the valuation assignment. And, typically, the

owner/operator and the legal counsel need to decide on the appropriate type of professional before they

can even begin the process to interview and retain the selected individual.

In selecting the type of professional to retain, some parties may consider the relative cost that

each professional would charge to perform the valuation service. However, the cost of being wrong in this

valuation analyst selection process is typically much greater than the cost of the professional’s valuation

fee. Whether the owner/operator and the legal counsel need the intellectual property valuation for

transaction, accounting, financing, taxation, bankruptcy, or litigation purposes, they need the most

qualified professional they can retain. When the effectiveness of the intellectual property valuation

analysis and report will influence a buyer, seller, lender, auditor, taxing authority, licensor, licensee,

judicial finder of fact, or other interested party, the owner/operator and the legal counsel should not be

concerned about finding a budget-priced professional.

Each of the above-listed professionals has strengths and weaknesses as an intellectual property

valuation candidate. And, one type of analyst may be preferred for one type of assignment (say,


negotiating an intellectual property license agreement) over another type of assignment (say, testifying as

an expert witness in an intellectual property infringement litigation).

Accountants (and particularly CPAs) typically have a great deal of credibility with all parties to

an intellectual property transaction, audit, litigation, etc. And, accountants (particularly CPAs) typically

have the credentials to be qualified as expert witnesses. Accountants are typically familiar with the

financial accounting and taxation aspect of intellectual property valuation. Many accountants perform

intellectual property valuations according to rules-based methods. These rules-based valuation methods

are often promulgated by the Financial Accounting Standards Board (FASB) or by the Internal Revenue

Service (IRS). And, such valuation methods are particularly applicable for fair value accounting

disclosures or for Section 482 intercompany price compliance purposes. However, some accountants are

not particularly comfortable with judgment-based (compared to rules-based) valuation methods and

procedures. And, intellectual property valuations are often a relatively small part of the practice of most

accountants.

Economists (particularly Ph.Ds.) also have a great deal of credibility with intellectual property

transaction participants, auditors, taxation authorities, judicial finders of fact, etc. And, they typically

have the credentials to be qualified as expert witnesses. In fact, since valuation analysis is one particular

type of economic analysis, many regulatory and taxation authorities (e.g., the IRS) often accept

economists as intellectual property valuation analysts. This acceptance is particularly common with

respect to intercompany transfer price analysis and for other rules-based intellectual property valuations.

However, economists can sometimes perform very theoretical (and not empirically-based) valuation

analyses. And, economists are not always familiar with the above-described generally accepted valuation

approaches, methods, and procedures. Accordingly, the economist’s valuation analyses are sometimes

difficult for the layperson to understand. And, these valuation analyses may not stand up to a judicial

contrarian challenge.

Licensing executives typically have a great deal of practical experience in negotiating and

structuring arm’s-length intellectual property license agreements. This experience may cross many types

of intellectual property and many types of owner/operator industries. Therefore, licensing executives

often have a great deal of personal and/or anecdotal evidence regarding intellectual property values,

royalty rates, etc. However, because it is anecdotal, this evidence often cannot be independently

confirmed. While licensing executives often know how intellectual property valuations are performed,

they may not know (or be able to explain) why intellectual property valuations are actually performed the

way that they are performed. And, licensing executives often rely on so-called industry rules of thumb

and not on the generally accepted valuation approaches, methods, and procedures. Therefore, licensing


executives are often more familiar with the licensing profession’s practices and procedures than with the

valuation profession’s practices and standards.

Intellectual property consultants typically assist their employers or their clients to develop

strategic plans to maximize the value of intellectual property. These strategic plans often start with the

process of identifying the subject intellectual property. These plans often consider the competitive

strengths, weaknesses, opportunities, and threats related to the intellectual property. The strategic plans

then analyze how the intellectual property is used by the owner/operator and how it can be further

commercialized outside of the owner/operator. And, these consultants often assist their employers or their

clients to finance, license, or otherwise monetize the intellectual property. However, many intellectual

property consultants prepare more qualitative than quantitative valuation analyses. And, many of the

intellectual property analyses are high level (i.e., conceptual) rather than empirical (i.e., practical). And,

these consultants often rely more on “black box” types of analyses and less on the replicable generally

accepted valuation approaches, methods, and procedures. Also, these consultants may not subscribe to

any promulgated set of professional standards.

Industry specialists typically are not intellectual property specialists. Rather, they are electronics

industry specialists, software industry specialists, telecommunications industry specialists, etc. They are

often retired industry executives or consultants who focus on consulting in one or two industries. They

often provide industry clients with financial forecasting, strategic planning, competitive analysis, and

other consulting services. Often, industry specialists have been involved in business brokerage, business

start-up, or bankruptcy transactions in their industry. And, they may perform intellectual property

valuations as one of their many industry services. While these industry specialists know a great deal about

their industry, they may not know a great deal about intellectual property or intellectual property

valuation. Accordingly, the justification for their valuation analysis and their value conclusion is typically

“in my experience” as opposed to empirical data and recognized (and replicable) valuation profession

practices and standards.

Valuation analysts often have varying academic or professional backgrounds. The individuals

who are typically included in this category have completed professional training and received

professional recognition by one or more of the professional valuation credentialing organizations. These

organizations typically promulgate intangible asset valuation professional standards, conduct both pre-

credential training and post-credential continuing professional education courses, and offer

comprehensive examination programs leading to the award of a professional credential or accreditation.

Such organizations include the American Institute of Certified Public Accountants (that grants the ABV

credential), the American Society of Appraisers (that grants the ASA credential), the Institute of Business

Appraisers (that grants the CBA credential), and the National Association of Certified Valuation Analysts


(that grants the CVA credential). These professionals typically have the training, experience, and

credentials to qualify as expert witnesses. And, these professionals typically apply the generally accepted

valuation approaches, methods, and procedures. And, these professionals typically subscribe to—and

comply with—the generally accepted valuation profession standards and practices.

Ultimately, the owner/operator and the legal counsel have to decide which type of professional is

best suited to conduct the specific intellectual property valuation (or damages, transfer price, etc.)

analysis. There should be a match (of experience and of expertise) between the selected analyst and the

purpose and objective of the specific assignment. There should also be a match (of personalities and of

professional philosophies) between the selected analyst and the client.

In the final selection, the type of professional may be less important than the qualifications and

the abilities of the individual analyst. Nonetheless, most intellectual property valuations are (at least

potentially) subject to a contrarian review. Therefore, the owner/operator and the legal counsel should

select an intellectual property analyst who can deliver a valuation analysis and report (and expert

testimony, if needed) that (1) will convince the intended report (or testimony) audience and (2) will stand

up to a rigorous contrarian challenge.

At Willamette Management Associates, we believe that an analyst who has applied generally

accepted valuation approaches, methods, and procedures and an analyst who has complied with generally

accepted professional standards and practices may be best position to meet that challenge.

SUMMARY AND CONCLUSION

First, this discussion considered the valuation implications of the recently enacted AIA. Second, this

discussion considered the various types of intellectual property analyses that a valuation analyst may be

asked to perform. These various types of analyses typically include the following:

estimate of an intellectual property sale price between a willing buyer and a willing seller

estimate of an intellectual property royalty rate between a willing licensor and a willing licensee

estimate of an exchange ratio between the owner/operators of two bundles (or portfolios) of

intellectual property

estimate of an intellectual property value to the current owner/operator

estimate of an intellectual property value to a specific buyer owner/operator

estimate of an arm’s-length price (ALP) or other royalty rate for an intercompany transfer

between related (or controlled) parties


estimate of the lost profits or other economic damages related to an intellectual property damages

event

opinion on the fairness of an intellectual property sale price or a license royalty transaction

conclusion of a mutual exchange ratio for two intellectual property bundles

For all intellectual property valuations (or related analyses), the analyst should consider the three

generally accepted valuation approaches—the cost approach, the market approach, and the income

approach. Each of these valuation approaches has the same objective: to arrive at a defined value

indication for the subject intellectual property. Within each of the three approaches, there are several

valuation methods and procedures that may be appropriate for the individual intellectual property

valuation.

The analyst’s selection of the specific valuation approaches, methods, and procedures for the

subject intellectual property is based on:

1. the particular characteristics of the subject intellectual property,

2. the bundle of legal rights subject to analysis,

3. the quantity and quality of available data,

4. the analyst’s ability to perform sufficient due diligence related to that data,

5. the purpose and objective of the specific valuation analysis, and

6. the relevant experience and the professional judgment of the individual analyst.

The final intellectual property value conclusion is typically based on the analyst’s synthesis of the

value indications from each applicable valuation approach and method.

These generally accepted valuation approaches, methods, and procedures summarized in this

discussion are relevant to intellectual property valuations performed for transaction, financing, strategic

planning, taxation, financial accounting, bankruptcy, litigation, and other purposes. Accordingly, the

intellectual property owner/operator and the legal counsel should be generally familiar with these

generally accepted valuation approaches for purposes of (1) selecting the appropriate valuation analyst,

(2) relying on the valuation analyst’s value (or damages, transfer price, etc.) conclusion, and (3)

defending the valuation analyst’s work product.


Robert F. Reilly is a managing director of Willamette Management Associates. His practice includes

business valuation, forensic analysis, and financial opinion services. He specializes in the valuation, lost

profits/damages analysis, and transfer price analysis of intellectual property for transaction, taxation,

financing, bankruptcy, accounting, litigation, and planning purposes. Robert earned an MBA degree in

finance and a BA degree in economics, both from Columbia University. He is a certified public

accountant/accredited in business valuation/certified in financial forensics, certified management

accountant, chartered financial analyst, and certified business appraiser. Robert can be reached at (773)

399-4318 or at [email protected].

IndicatedRCNLD

Component [c]Subject Computer Software System $000

AS/400 4,531 29 66,100 Point of Sale 575 25 8,400 Tandem 3,304 16 48,200 Unisys 1,229 5 17,900 Pioneer 1,807 41 26,400 Voyager 325 12 4,700 Host to Host 85 9 1,200

Total Direct and Indirect Costs 11,856 24 172,900

Plus Developer's Profit [d] 10,500

Plus Entrepreneurial Incentive [e] 31,200

Equals Total Replacement Cost New 214,600

Less Depreciation and Obsolescence [f] 13,300

Equals Replacement Cost New Less Depreciation 201,300

Indicated Fair Market Value of Computer Software Copyrights and Trade Secrets (rounded) 200,000

Footnotes:

Software System Scheduled for Replacement Replacement Cost New* Percent Obsolete

Functional Obsolescence

Allowance

Point of Sale $10,400,000 20% $2,100,000

Pioneer $32,700,000 20% $6,500,000

Voyager $5,800,000 80% $4,700,000

Total $13,300,000

*includes both the developer's profit and the entrepreneurial incentive cost components.

AS OF JANUARY 1, 2012

EXHIBIT 1CHARLIE COMPANYCOMPUTER SOFTWARE COPYRIGHTS AND TRADE SECRETSCOST APPROACHREPLACEMENT COST NEW LESS DEPRECIATION (RCNLD) METHODVALUATION SUMMARY

[e] Calculated as (1) the Charlie Company present value discount rate of 17 percent times (2) the sum of the total direct and indirect replacement cost new and the developer's profit, divided by 2 times (3) the weighted average total elapsed development period of 2 years (i.e., 24 elapsed months). The 2 year elapsed software development period is based on the 24 months weighted average time to develop the total software in person months (as described in footnote [b]).

[f] According to Charlie Company data processing management, as of the valuation date, the Point of Sale system is scheduled to be replaced and upgraded in approximately five years. The Pioneer system is also scheduled to be replaced and upgraded in approximately five years. And, the Voyager system is scheduled to be substantially upgraded next year. Therefore, the valuation analyst estimated the amount of functional obsolescence related to the Charlie Company software as follows:

the ReplacementSoftware

(in CalendarMonths) [b]

Estimated ReplacementSoftware

Development Effortin Person Months [a]

Time to Develop

[a] The estimated replacement software development effort for each indicated system is equal to the average of the development effort person-month estimates using (1) the COCOMO software cost engineering model and (2) the KnowledgePLAN software cost engineering model, rounded.

[b] The estimated amount of elapsed time to develop the replacement software in calendar months for each system is equal to the average of the elapsed time to develop the replacement software in calendar months using (1) the COCOMO software engineering model and (2) the KnowledgePLAN software engineering model, rounded. The final figure in this column (i.e., 24 calendar months) indicated the weighted average amount of elapsed time to develop the replacement software in calendar months (weighted by the amount of effort in person months). This statistic of the amount of elapsed time to develop the software is used to calculate the amount of the entrepreneurial incentive.

[c] Equal to the estimated development effort in person months times $14,585 total cost per person month, rounded. The $14,585 total cost per person month is calculated by multiplying the blended hourly rate of $82.87 provided by the Charlie Company vice president of data processing, by 176 (i.e., 8 hours per day times 22 days per month).

[d] Calculated as (1) total direct replacement cost new times (2) a typical computer software development company's profit margin of 11 percent (3) times 55 percent. This 55 percent adjustment is made because 45 percent of the Charlie Company software development workforce already represents outside contractors, the cost of which already includes a market-based software developer's profit margin.

Willamette Management Associates

EXHIBIT 2

CHARLIE COMPANY

COMPUTER SOFTWARE COPYRIGHTS AND TRADE SECRETS

COST APPROACH

REPLACEMENT COST NEW LESS DEPRECIATION METHODSOFTWARE DEVELOPER'S PROFIT MARGIN COST COMPONENT

Computer Software Developer's Profit Margin Analysis Operating Profit Margins

4/1/10 4/1/09 4/1/08

3/31/11 3/31/10 3/31/09

SIC Code 7371 - Custom Computer Programming Services - All Companies [a] 4.2% 4.2% 4.8%

SIC Code 7371 - Custom Computer Programming Services - Sales of $25 Million and Over [a] 7.4% 3.8% 2.2%

SIC Code 7373 - Computer Systems Design Services - All Companies [b] 4.3% 3.1% 2.1%

SIC Code 7373 - Computer Systems Design Services - Sales of $25 Million and Over [b] 4.7% 4.3% 1.1%

Adjusted Operating Profit Margins

3-period

Selected Computer Software Development Guideline Companies Ticker 2011/2010 2010/2009 2009/2008 Average

Accenture plc ACN [c] 11.6% 11.4% 11.6% 11.5%

Analysts International Corp. ANLY [c] -0.5% 0.5% 0.8% 0.3%

Bearing Point Ind. BGPT [c] 4.8% 6.7% 8.7% 6.7%

Cap Gemini Ernst & Young Group CGEY [c] -0.1% 4.7% 9.8% 4.8%

Cognizant Technology Solutions Corp. CTSH [c] 19.7% 20.0% 19.1% 19.6%

Computer Sciences Corporation CSC [c] 6.6% 5.6% 6.2% 6.1%

Electronic Data Systems Corp. EDS [c] 8.7% 10.3% 9.5% 9.5%

Infosys Technologies Ltd. INFY [c] 29.0% 32.7% 33.2% 31.7%

Perot Systems Corp. PER [c] 10.2% 6.1% 6.7% 7.6%

Unisys Corporation UIS [c] 7.5% 4.5% 6.2% 6.1%

Wipro Ltd. WIT [c] 21.1% 23.8% 22.8% 22.6%

Selected Computer Software Development Guideline Companies

High Profit Margins 29.0% 32.7% 33.2%

Low Profit Margins -0.5% 0.5% 0.8%

Median Profit Margins 8.7% 6.7% 9.5%

Average Profit Margins 10.8% 11.5% 12.2%

Selected Computer Software Developer's Profit Margin 11%

Footnotes:

[c] Capital IQ Database.

[a] The Risk Management Association (RMA) 2011-2010, 2010-2009, and 2009-2008 Annual Statement Studies - Custom Computer Programming Services.

[b] The Risk Management Association (RMA) 2011-2010, 2010-2009, and 2009-2008 Annual Statement Studies - Computer Systems Design Services.


Present Value of Discrete Period Trademark Income: Projected Calendar Years

2012 2013 2014 2015 2016

$000 $000 $000 $000 $000

Management-Provided Revenue Projection [a] 8,634,139 8,358,945 8,042,393 7,720,369 7,377,326

Estimated Trademark License Royalty Rate [b] 2% 2% 2% 2% 2%

Projected Pretax Trademark Royalty Income 172,683 167,179 160,848 154,407 147,547

Less: Projected Income Tax Rate [c] 37% 37% 37% 37% 37%

Projected After-Tax Trademark Royalty Income 108,790 105,323 101,334 97,277 92,954

Discounting Periods [d] 0.5000 1.5000 2.5000 3.5000 4.5000

Present Value Factor @ 11% [c] 0.9492 0.8551 0.7704 0.6940 0.6252

Present Value of Trademark Royalty Income 103,264 90,061 78,068 67,510 58,115

Sum of Present Values of Trademark Royalty Income 397,018

Present Value of Terminal Period Trademark Income:

Fiscal 2017 Normalized Trademark Royalty Income [f] 92,954$

Direct Capitalization Multiple [g] 7.579

Terminal Value of Trademark Royalty Income 704,498

Present Value Factor @ 11% 0.6252

Present Value of Terminal Value 440,452$

Trademark Valuation Summary:

Present Value of Discrete Trademark Royalty Income 397,018$

Present Value of Trademark Terminal Value 440,452

Indicated Fair Market Value of the Trademarks and Trade Names (rounded) 840,000$

[a] Revenue projection provided by Echo Company management, consistent with the company's long-range strategic plan.

[b] Based on an analysis of arm's-length license agreements between unrelated parties for similar intellectual property, as summarized in Exhibit 4.

[c] Based on the Echo Company expected effective income tax rate.

[d] Calculated as if cash flow is received at mid-year.

[e] Based on the Echo Company weighted average cost of capital, presented in Exhibit 5.

[f] Based on the 2016 projected after-tax trademark royalty income and an expected long-term growth rate of zero percent.


[g] Based on the present value of an annuity factor for an 11 percent discount rate and a 15-year expected RUL.

EXHIBIT 3

ECHO COMPANY

TRADEMARKS AND TRADE NAMES

MARKET APPROACH

COMPARABLE UNCONTROLLED TRANSACTIONS METHOD

VALUATION SUMMARY


TRADEMARKS AND TRADE NAMES

MARKET APPROACH

COMPARABLE UNCONTROLLED TRANSACTIONS METHOD

Initial

Comparable Uncontrolled Transaction (CUT) License Upfront/Flat Fee

Trademark Licensor Trademark Licensee Trademark License Description Year Low High Payments

Southwestern Bell Telephone Affiliate Group The affiliate group imputed an affiliate compensation fee or "royalty" for the affiliates' right to the name, reputation and public image of the parent telephone company. The affiliates recognize the franchise-like benefits realized as a result of their relationship with the licensor.

2008 5.0% 5.0% NA

Cable and Wireless PLC Hong Kong Telecommunications Ltd.

In a related party transaction, the company entered into an agreement with a subsidiary, a Hong Kong telephone company, for the use of its trade marks (in particular, use of the telecommunication name and logo in connection with international business) on relevant products and services

2009 8.0% 8.0% NA

AT&T Corp. KIRI Inc. The licensor grants to the licensee a non-exclusive, non-transferable, non-sub licensable license to use the licensed marks (AT&T and globe design logo) solely in connection with the marketing, advertising, promotion and provision of the licensed services (such as telecommunication and internet services) in the licensed territory.

2009 2.50% 4.00% $2.5 million minimum guarantee

Nextel Nextel Partners A partnership or alliance between a U.S. parent company and a publicly owned spin off company includes a licensing agreement for rights to use the Nextel brand name. The licensee owns its own spectrum and provides services as Nextel.

2009 0.50% 1.00% 0

France Telecom (Orange Brand Services Limited, UK)

PTK Centertel PTK Centertel is rebranding its name from Idea to Orange. Idea, which now holds 32.2 percent of the market, will change its name and logo (trademark). PTK Centertel will pay the France Telecom a royalty for use of the Orange name.

2009 1.6% 1.6% NA

Qwest Communications International, Inc. [a] Unical Enterprises, Inc. An exclusive, limited nontransferable, revocable right to use the following trademarks: Techline, Easytouch, Favorite, Classic Favorite, Classic Favorite Plus, Phototouch, Choice, Competitor, Competitor Plus, Roommate, Plaza, Favorite Plus, Easyreach, Big Button, EZ Button, Cleartech, Favorite Messenger II, Digimate, Mountain Bell. Nonexclusive, limited, nontransferable revocable right to use the following trademarks: B Office, Bell Symbol, Bell mark, Northwestern Bell. All of the above in connection with corded telephones, cordless telephones, answering machines, integrated telephone/answering devices, and computers and monitors.

2010 2.1% 2.2% NA

Virgin Enterprises Limited NTL Inc. The licensee entered into a trademark license agreement under which they are entitled to use certain Virgin trademarks within the United Kingdom and Ireland. The agreement was entered into on the same date and is an exclusive license covering a number of aspects of our consumer business, including the provision of communications services (such as internet, television, fixed line telephony, and upon the acquisition of Virgin Mobile, mobile telephony), the acquisition of branding sports, movie and other premium television content, and the branding and sale of certain communications equipment related to the licensee consumer businesses, such as set top boxes and cable modems.

2010 0.25% 0.25% £8.5 million minimum annual

royalty

High 8.0% 8.0%

Low 0.3% 0.3%

Mean 2.9% 3.2%

Median 2.1% 2.2%

NA = not applicable

Royalty Rate Summary

Arm's-Length Trademark License

EXHIBIT 4

ECHO COMPANY

CUT TRADEMARK LICENSE TRANSACTIONS

Royalty Rate Range


EXHIBIT 5

ECHO COMPANY

WEIGHTED AVERAGE COST OF CAPITAL


Cost of Equity Capital:

Model #1: Modified Capital Asset Pricing Model (Ex Post Equity Risk Premium) Source

Risk-Free Rate of Return 4.5% 20-year treasury bond, The Federal Reserve Statistical Release,

as of December 31, 2011.

General Equity Risk Premium 7.10% SBBI 2011 Valuation Yearbook , Morningstar, 2011.

Multiplied by: Industry Beta 1.05

Industry-Adjusted General Equity Risk Premium 7.4%

Size Equity Risk Premium 0.7% 2nd decile, SBBI 2011 Valuation Yearbook , Morningstar, 2011.

Company-Specific Equity Risk Premium 2.0% Valuation analyst's estimate.

14.6%

Model #2: Modified Capital Asset Pricing Model (Supply Side Equity Risk Premium) Source



General Equity Risk Premium 6.20% SBBI 2011 Valuation Yearbook, Morningstar, 2011.

Multiplied by: Industry Beta 1.05

Industry-Adjusted General Equity Risk Premium 6.5%



13.7%

Model #3: Duff & Phelps, LLC Risk Premium Report Model Source



Equity Risk Premium Over Risk-Free Rate:

Echo Company Regression Equation Risk

Fundamental Variables Premium Over

$MM Constant Coefficient Risk-Free Rate [a]

Book Value of Equity 977 17.397% -2.949% 8.6% Duff & Phelps, LLC, Risk Premium Report 2011.

5-Year Average Net Income 1,169 14.216% -2.715% 5.9%

Total Assets 15,397 18.036% -2.725% 6.6%

5-Year Average EBITDA 4,957 15.583% -2.709% 5.6%

Total Revenue 9,877 16.420% -2.192% 7.7%

Number of Employees (not in $MM) 24,000 17.675% -2.210% 8.0%

Median Equity Risk Premium Over Risk-Free Rate 7.1%

Company-Specific Risk Premium 2.0% Valuation analyst's estimate.

13.6%

Model #4: Build-Up Model Source



General Equity Risk Premium 7.1% SBBI 2011 Valuation Yearbook , Morningstar, 2011.

Industry Equity Risk Premium 0.0% Morningstar, SIC 4813, average 2008-2011.



Indicated Cost of Equity Capital 14.3%

Selected Cost of Equity Capital 14% Median of Models #1 - #4 Indicated Cost of Equity Capital

Cost of Debt Capital:

Before-Tax Cost of Debt Capital 7.6% Echo Company cost of debt.

Income Tax Rate 37% Echo Company effective income tax rate.

Selected Cost of Debt Capital 4.8%

Weighted Average Cost of Capital Calculation:

Selected Cost of Equity Capital 14%

Multiplied by Equity / Invested Capital 70% Based on median of selected guideline public companies.

Equals Weighted Cost of Equity Capital 9.8% 10% (Rounded)

Selected Cost of Debt Capital 4.8%

Multiplied by Debt / Invested Capital 30% Based on median of selected guideline public companies.

Equals Weighted Cost of Debt Capital 1.4% 1% (Rounded)

Echo Weighted Average Cost of Capital (rounded) 11%

[a] Estimated as the constant plus the coefficient multiplied by the log of the financial fundamental.

Indicated Cost of Equity Capital




EXHIBIT 6 (page 1 of 2)

FOXTROT COMPANY

VALUATION OF GOLF PHARMACEUTICAL PRODUCT PATENT

INCOME APPROACH

MULTIPERIOD EXCESS EARNINGS METHODAS OF JANUARY 1, 2012

Pro Forma Years

12/31/12 12/31/13 12/31/14 12/31/15 12/31/16 12/31/17 12/31/18 12/31/19 12/31/20 12/31/21

Valuation of the Golf Pharmaceutical Product Patent Notes $000 $000 $000 $000 $000 $000 $000 $000 $000 $000

Foxtrot Company Total Product Line Revenue 4,643,232 4,450,217 4,184,750 3,880,112 3,548,858 3,548,858 3,548,858 3,548,858 3,548,858 3,548,858

Annual Growth Rate Percent -1.2% -4.2% -6.0% -7.3% -8.5% 0.0% 0.0% 0.0% 0.0% 0.0%

Estimated Golf Product Attrition Rate 23% [a]

Revenue Attributable to the Golf Product Patent 3,575,289 2,604,350 1,849,994 1,289,821 883,047 679,946 523,559 403,140 310,418 239,022

Annual Growth Rate Percent [b] NA -27.2% -29.0% -30.3% -31.5% -23.0% -23.0% -23.0% -23.0% -23.0%

EBITDA 1,573,127 1,145,914 813,997 567,521 388,541 299,176 230,366 177,382 136,584 105,170

EBITDA Margin [c] 44% 44% 44% 44% 44% 44% 44% 44% 44% 44%

Less: Depreciation/Amortization Expense 793,018 552,967 375,423 248,354 160,263 123,402 95,020 73,165 56,337 43,380

Depreciation as a % of Revenue [d] 22.2% 21.2% 20.3% 19.3% 18.1% 18.1% 18.1% 18.1% 18.1% 18.1%

EBIT 780,109 592,947 438,575 319,167 228,278 175,774 135,346 104,216 80,247 61,790

EBIT Margin 21.8% 22.8% 23.7% 24.7% 25.9% 25.9% 25.9% 25.9% 25.9% 25.9%

Less: Income Taxes @ 37 percent 288,640 219,390 162,273 118,092 84,463 65,036 50,078 38,560 29,691 22,862

Net Income 491,469 373,557 276,302 201,075 143,815 110,738 85,268 65,656 50,556 38,928

Net Income Margin 13.7% 14.3% 14.9% 15.6% 16.3% 16.3% 16.3% 16.3% 16.3% 16.3%

Plus: Depreciation/Amortization Expense 793,018 552,967 375,423 248,354 160,263 123,402 95,020 73,165 56,337 43,380

Less: Contributory Asset Charges:

Working Capital Contributory Asset Charge [e] 27,530 20,053 14,245 9,932 6,799 5,236 4,031 3,104 2,390 1,840

Tangible Assets Contributory Asset Charge [f] (823,022) (599,454) (425,589) (296,467) (202,736) (156,107) (120,202) (92,556) (71,268) (54,876)

Routine Intangible Assets Contributory Asset Charge [g] (164,756) (123,965) (91,524) (66,472) (47,625) (36,671) (28,237) (21,742) (16,742) (12,891)

Equals: Patent Economic Income 324,239 223,159 148,856 96,422 60,516 46,598 35,880 27,627 21,273 16,381

Discounting Periods [h] 0.5000 1.5000 2.5000 3.5000 4.5000 5.5000 6.5000 7.5000 8.5000 9.5000

Present Value Factor @ 11% 0.9492 0.8551 0.7704 0.6940 0.6252 0.5633 0.5075 0.4572 0.4119 0.3710

Present Value of Patent Economic Income 307,767 190,823 114,679 66,917 37,834 26,249 18,209 12,631 8,762 6,077

Total Present Value of Patent Economic Income 789,949

Indicated Fair Market Value of the Golf Product Patent (rounded) 790,000


EXHIBIT 6 (page 2 of 2)

FOXTROT COMPANY


INCOME APPROACH

MULTIPERIOD EXCESS EARNINGS METHODVALUATION VARIABLES

[a] Considers the historical weighted decay rates for the Gold patented pharmaceutical product revenue. 3-year

Golf patented product 2009 2010 2011 Average

Weighted annual revenue decay rate 23.4% 23.6% 23.3% 23.4%

[c] The 2016 EBITDA margin is projected to remain constant after 2016.

[d] The 2016 depreciation expense (as a percent of revenue) is projected to remain constant after 2016.

[e] Based on (1) working capital requirement for the Golf product line and (2) the return on working capital estimated based on the Foxtrot Company weighted average cost of capital (WACC).

2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

Working Capital - % of Consolidated Foxtrot Company Revenue -7% -7% -7% -7% -7% -7% -7% -7% -7% -7%

Working Capital Requirement (times the Golf product revenue) (250,270) (182,305) (129,500) (90,287) (61,813) (47,596) (36,649) (28,220) (21,729) (16,732)

Return on Working Capital 11% (27,530) (20,053) (14,245) (9,932) (6,799) (5,236) (4,031) (3,104) (2,390) (1,840)

[f] Equals the sum of projected capital expenditure allocated to the Golf product line based on (1) percent of revenue and (2) the estimated return on tangible assets requirement (based on the WACC).

2012 2013 2014 2015 2016 2017 2018 2019 2020 2021

Net Tangible Assets as % of Consolidated Revenue (see Exhibit 12-7) 113% 113% 113% 113% 113% 113% 113% 113% 113% 113%

Tangible Assets Requirement (times the Golf product line revenue) 4,038,767 2,941,962 2,089,816 1,457,025 997,520 768,090 591,430 455,401 350,659 270,007

Return on Tangible Assets 11% 444,264 323,616 229,880 160,273 109,727 84,490 65,057 50,094 38,572 29,701

[g] Equals (1) the routine intangible assets contributory asset charge as percent of consolidated revenue times (2) revenue attributable to the Golf patented product (see Exhibit 7).

[h] Calculated as if cash flow is received at mid-year.

[b] Represents 77 percent of Golf product revenue in 2012, based on the estimated 23 percent annual revenue attrition rate. Thereafter, the Golf product revenue is decreased annually based on (1) the estimated attrition rate and (2) the negative annual growth rate.


EXHIBIT 7

FOXTROT COMPANY


INCOME APPROACH

MULTIPERIOD EXCESS EARNINGS METHODCONTRIBUTORY ASSET CHARGE ANALYSIS

FYE

12/31/12

Tangible Assets Contributory Asset Charge: $000

Beginning Tangible Assets Balance [a] 12,034,000

Capital Expenditures [a] 1,162,971

Depreciation Expense [a] (2,249,209)

Net Tangible Assets Balance 10,947,762

Consolidated Foxtrot Company Revenue [b] 9,691,426

Net Tangible Assets as % of Consolidated Revenue 113%

[c] [d]

Fair Estimated

Market Required Annual

Value Rate of Return

Routine Intangible Assets Contributory Asset Charge: $000 Return $000

Trademarks/Trade names 970,000 11% 106,700

Internally Developed Computer Software Systems 2,510,000 11% 276,100

Trained and Assembled Workforce 580,000 11% 63,800

Total Contributory Intangible Assets 446,600

12/31/12 12/31/13 12/13/14 12/31/15 12/31/16

$000 $000 $000 $000 $000

Consolidated Foxtrot Company Revenue [b] 9,691,426 9,382,534 9,027,219 8,665,762 8,280,712

Intangible Assets Contributory Asset Charge (from above) 446,600 446,600 446,600 446,600 446,600

Intangible Assets Contributory Asset Charge as % of Consolidated Revenue 4.6% 4.8% 4.9% 5.2% 5.4%

[a] From the Foxtrot Company business plan.

[b] Ibid.

[c] Ibid.

[d] Based on the Foxtrot Company WACC, see Exhibit 5.


Documents

Willamette Management Associates White Paper...Under the AIA, a charge of inequitable conduct cannot be based on information presented or corrected in a supplemental examination that