The IP Valuation Practice in Indonesia

The IP Valuation Practice in Indonesia

Measuring the value of Intellectual Property (IP) as an effort to protect intellectual works is a challenging matter. Often, the calculations carried out only partially reflect the true potential of these intellectual assets. For example, is the amount of royalties received an absolute assessment factor? Is the originality factor more valuable than novelty? Or does the closer the protection period gets to the end, the less valuable the IP will be?

 

Considering that this valuation is also essential in providing credit, where the Government is encouraging the provision of banking credit to Intellectual Property owners to drive the national economy, in December 2023, the National Research and Innovation Agency (BRIN) as a research institution that has a lot of contact with IPs has held a “Kick Off The Role of Intellectual Property Valuators in Utilizing Research and Innovation Results.” This activity was held in collaboration with the Ministry of Law and Human Rights and the World Intellectual Property Organization (WIPO).

 

Benefits of Intellectual Property Valuation

IP valuation is beneficial if you carry out the following activities:

1. Merger and Acquisition
2. Sale and/or Purchase
3. Litigation/Seeking Damages in Settlement
4. Balance Sheet Reporting (Financial Report)
5. Price Purchase Allocation
6. IP Financing: Taking IP as Collateral
7. Licensing & Identifying Worth of IP Portfolio
8. Franchising (Initial Franchising Fee/Royalty)

 

SPI 320 – Basis Valuation for Intangible Assets

In the previous article, we explained how the National Collective Management Organization (LKMN) can actively assist appraisals and intermediaries if there is a default on Copyright-based credit. However, for Copyrights and other IPs as identifiable intangible assets, Indonesia has Indonesian Valuation Standards (SPI), which must be used as a reference for all appraisers carrying out appraisal activities in Indonesia. This mandatory nature is regulated in the Indonesian Appraiser Code of Ethics (KEPI). SPI is determined by the Indonesian Appraisal Professional Organization, better known as the Indonesian Appraisal Professional Society (MAPPI), and is based on the 2013 version of the International Valuation Standards (IVS) issued by the IVS Council, which is headquartered in London, England.

 

Classification of Intangible Assets Based on SPI 320

1. Marketing-Related Intangible Assets

Intangible assets associated with marketing activities contribute to a company’s ability to attract customers, enhance brand recognition, and generate revenue. E.g., Trademarks, Industrial Designs, and Domain Names.

 

2. Customer-Related Intangible Assets

Intangible assets that are associated with a company’s existing customer base and contribute to its ability to generate revenue and maintain customer loyalty. These assets are valuable because they represent the relationships and interactions a company has established with its customers over time. E.g., Customer Lists, Licensing Agreements, and Trade Secrets such as Customer Databases and Exclusive Customer Agreements.

 

3. Artistic-Related Intangible Assets

Intangible assets that are associated with creative works and expressions, including copyrights for original literary and artistic creations, trademarks protecting unique brand identifiers, design patents for distinctive visual designs, and patents covering inventive artistic processes. These assets are vital for safeguarding and commercializing artistic endeavors.

 

4. Contract-Related Intangible Assets

Non-physical assets arising from contractual agreements, embodying legal rights and obligations. These intangibles often derive from contracts like licensing agreements, franchise agreements, or customer contracts, holding considerable value for a business. Examples include licensing rights for a popular software product, a franchise agreement granting exclusive rights, or a customer contract securing ongoing revenue streams.

 

5. Technology-Related Intangible Assets

Non-physical assets tied to technological innovations, provide businesses with a competitive edge. These assets often result from research and development efforts, patents, or proprietary technologies. Examples include patented inventions, software algorithms, or proprietary manufacturing processes. Effective management and protection of these assets are vital for companies operating in technology-driven industries, ensuring they maintain exclusivity and market leadership in their innovations.

 

6. In-Process Research and Development/IPR&D Intangible Assets

Ongoing research and development projects that have yet to reach completion or commercialization. These assets are valuable for companies anticipating future innovations and technological advancements. IPR&D assets may include unreleased products, prototypes, or projects in various stages of development. 

 

Factors Considered by the Appraiser:

1. Rights, privileges, or conditions attached to Ownership Rights.

• • Ownership rights can be expressed in various legal documents. In legal jurisdictions, this document is usually called a Patent, Trademark, Copyright, know-how, database, etc.
  • Rights owners are bound by documents that record their rights to Intangible Assets. The rights and conditions are contained in the agreement or exchange of correspondence, and these rights may or may not be transferred to the new owner of the rights.

2. Remaining economic and/or legal life (validity period) of Intangible Assets.

• • Suppose the Income Approach is used for Intangible Assets. In that case, the Prospective Financial Information period must be the same as the Remaining Useful Life of the Intangible Asset that is the object of the assessment.
  • If the Market Approach is used, the comparison object period is comparable and similar to the Remaining Useful Life of the Intangible Asset, which is the object of assessment.
  • If the cost approach is used, the Remaining Useful Life is used to calculate the obsolescence of the Intangible Asset, which is the object of assessment.
  • The factors used in measuring the Remaining Useful Life of Intangible Assets are based on, among others:

a. Legal Life;

Derived from the life of a Patent, Trademark, or Copyright, which provides legal protection from competition.

 

b. Contractual Life;

Derived from the age of the agreement with the customer, franchise agreement, rental agreement, or other agreement between the assignor and a third party.

 

c. Physical Determinants;

The remaining useful life of intangible assets is calculated based on the physical condition of tangible assets, which are an inseparable part of intangible assets.

 

d, Economic Life;

Economic Life can be obtained through:

1. Multiperiod Excess Earnings Method (MEEM);
In this method, the appraiser must first calculate the decay factor. The decay factor can be obtained using the exponential total life divided by the negative Remaining Useful Life.

2. Convention Method.

In this method, the appraiser must reveal the basis of consideration for producing a convention value, including historical and industry data.

 

e. Functional or Technological Obsolescence;

Using life cycle analysis by considering technological developments and market demand historically and in the future.

 

f. Analytical.

Appraisers can use quantitative analysis to calculate the Remaining Useful Life of Intangible Assets based on a study of historical deterioration patterns associated with comparable Intangible Assets based on the following data:

1. 1. Number of units available at the beginning of each period;
   2. Number of units discontinued (retirement) for each period; And
   3. The age of the Intangible Asset whose expiration date (retire) is known.

 

3 Intangible Asset Valuation Approaches

1. Market Approach

With the Market Approach, the value of Intangible Assets is determined by referring to market activity. For example, it offers transactions involving identical or similar assets. The heterogeneous nature of Intangible Assets means finding market data from transactions involving identical assets is difficult.

If there are, these usually relate to similar, but not identical, assets. As an alternative, or in addition, comparing prices in relevant transactions involving identical or similar assets through sales transaction analysis may provide comparable data in valuation. For example, it is possible to determine the price-to-earnings ratio or rate of return for a group of similar Intangible Assets.

When price data or multiple valuations are available, adjustments are often necessary to reflect differences between the subject asset being valued and the market data of a transaction. This adjustment is needed to reflect differences in the characteristics of the Intangible Asset subject and the assets involved in a transaction. Such adjustments may only be determined qualitatively and not quantitatively. Things that may result in the need for qualitative adjustments include the following examples:

• • Trademarks being assessed can be considered to have a more dominant position in the market than the Trademark that constitutes the comparative transaction data.
  • An assessed drug patent may have greater efficacy and fewer side effects than comparable transaction data.

 

2. Income Approach

In the event that the Appraiser uses the Income Approach, the following provisions apply:

• • The Income Approach is used to determine the value of Intangible Assets by discounting and/or capitalizing actual or hypothetical income, cash flow, or cost savings that will be generated by the Intangible Assets that are the object of assessment using a specific discount and/or capitalization rate.
  • The appraiser must use Prospective Financial Information from management in the Income Approach.
  • Must make adjustments to the Prospective Financial Information obtained from management
  • The Appraiser can prepare financial projections for Intangible Assets that are the object of the appraisal after first obtaining approval from management.
  • Prospective Financial Information is used to estimate the flow of economic income from Intangible Assets that are the object of assessment.
  • The discount rate and capitalization rate determined by the Appraiser must be disclosed in the report.
  • In Prospective Financial Information, the Appraiser must:

a. Analyze historical financial statements of Intangible Asset owners;

b. Pay attention to conditions that occur after the Valuation Date, which may affect Prospective Financial Information; And

c. Considering the prospective growth of Intangible Assets, which are the object of the assessment;

d. The Prospective Financial Information Period must be carried out within at least the next 5 (five) years or adjusted to the Remaining Useful Life of the Intangible Asset, which is the object of the assessment.

e. Suppose the Remaining Useful Life of the Intangible Asset, which is the object of the assessment, cannot be determined (indefinite). In that case, it must cover a certain period (definite) plus capitalization of Prospective Financial Information after the 5th (fifth) year. Capitalization uses the Intangible Asset discount rate plus the retirement ratio percentage.

f. Based on market evidence in the appraisal report, the appraiser must disclose the reasons for determining the remaining useful life as indefinite.

g. Appraisers are prohibited from basing Prospective Financial Information solely on historical data trends but need to consider other factors as follows:

1. 1. 1. Financial Ratios;
      2. Profit Margin;
      3. Tax;
      4. Working Capital and Capital Expenditures;
      5. Reasonable Prospective Financial Information Period adjusted to the age of the assessment object; And
      6. A prospective growth rate that reflects the Remaining Useful Life and market conditions.

h. The methods that can be used in the Income Approach are as follows:

1. 1. 1. Relief-From-Royalty Method/Royalty Savings Method;
      2. Premium Profits Method/Incremental Income Method;
      3. Excess Earnings Method.

i. The appraiser must use a discount rate that meets the following:

1. 1. 1. The discount rate applied must be under the level of risk regarding income uncertainty from the Intangible Assets of the assessment object;
      2. The amount of risk for Intangible Assets is determined based on the Appraiser’s professional judgment and must be disclosed in the report.

 

3. Cost Approach

In the event that the Appraiser uses the Cost Approach, the following provisions apply:

• • Appraisers are prohibited from using the Cost Approach to:

1. 1. 1. Valuing Intangible Assets whose service potential differs from the cost, such as Brand development costs or publishing titles that are difficult to determine.
      2. Assess Intangible Asset development projects that last for years and do not positively contribute to company revenue.

• • Examples of Intangible Assets that may use the Cost Approach include the following:

1. 1. 1. Self-developed software, where the price of software with the same or similar service capacity can sometimes be obtained on the market;
      2. Web page, it is possible to estimate the cost of building a website;
      3. Trained workforce through determining costs for development (recruitment and training) of the workforce.

 

The Cost Approach can only be used if the following requirements are met at least:

• • Intangible Assets do not have identifiable income or do not directly generate cash flows;
  • Appropriate Intangible Asset comparable market data is not available; And
  • Recent transactions for equivalent and similar Intangible Assets cannot support a market approach.

 

The procedures that must be carried out in assessing Intangible Assets using the Cost Approach are:

a. Determine the estimated costs that will be used, namely:

1. New Reproduction Cost
Provided that it must meet the following criteria:

• • • It is an estimate of the cost to construct, at the price on the Valuation Date, a duplicate or replica that is similar to the Intangible Asset that is the object of the valuation;
    • Using the same raw materials, production standards, design, layout, and quality of labor as the Intangible Assets that are the object of assessment; And
    • Including all deficiencies, advantages, and obsolescence that can be restored to function.

2. New Replacement Cost
Provided that it must meet the following criteria:

• • • It is an estimate of the cost to construct, at a price on the Valuation Date, an Intangible Asset with utility equivalent to the Intangible Asset that is the object of the valuation;
    • Using modern raw materials, production standards, design, layout, quality workforce;
    • Excludes all deficiencies, excesses, and obsolescence that can be restored to function.

Determining New Reproduction Costs and New Replacement Costs must take into account the following matters:

1. 1. 1. Costs of developing or purchasing similar Intangible Assets (replicas) that have the same productivity and service potential;
      2. Costs of developing or purchasing similar Intangible Assets that have the same or similar productivity and service potential;
      3. Possible tax deductions for certain costs used to replace Intangible Assets;
      4. If the costs of developing or purchasing an Intangible Asset are similar but not the same, the Appraiser must make adjustments, including amortization, so that the costs reflect the characteristics of the Intangible Asset that is the object of the appraisal; And
      5. The appraiser must describe the adjustments for amortization in the appraisal report.

a. Calculating the amount of estimated costs that have been determined from Intangible Assets;

b. Calculating the amount of obsolescence of Intangible Assets adjusted for the Remaining Useful Period;

c. Subtracting the estimated cost from the amount of obsolescence.

 

Forms of obsolescence that can be included in the Intangible Asset Cost Approach are:

a. Functional Obsolescence
Caused by internal factors of Intangible Assets, including:

1. 1. 1. Changes in applicable regulations or laws;
      2. Increased competition;
      3. Changes in market demand and expectations;
      4. Increased efficiency of new equipment;
      5. Lower price of new equipment;
      6. Functional improvements of new equipment;
      7. Intangible Assets do not function as expected.

b Technological Obsolescence
Decrease in the value of Intangible Assets due to:

1. 1. 1. Capacity of new Intangible Assets, which is higher than old Intangible Assets;
      2. Changing technical functions;
      3. Technological lag.

c. Economic Obsolescence
Caused by external factors, including:

1. 1. 1. Changes in the level of competition;
      2. Change of location that is not by the contract underlying the Intangible Asset;
      3. Regulatory and legislative changes;
      4. Changes in social and economic conditions;
      5. Use period of Intangible Assets;
      6. Environmental issues; And
      7. Industry where the Intangible Asset is used.

In applying the Cost Approach, the cost of each component in creating an asset, including the developer’s profits, must be estimated using the knowledge held at the valuation date.

 

Should you need further information regarding Intellectual Property valuation, please get in touch with us via [email protected].

Sources: 

• National Research and Innovation Agency (BRIN)
• Indonesian Valuation Standards 320