© copyright ktmine 2011. all rights reserved. finding & analyzing royalty rates factors of...
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Finding & Analyzing Royalty RatesFactors of Comparability Impacting Market Royalty Rates & Intangible Property Valuations
© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
IP Inventory
▲Manufacturing intangibles such as patents, inventions, formulations, recipes, processes, technical information, designs, patterns, or know-how
▲Marketing intangibles such as trademarks, trade names, trade dress, brand names, or service marks
▲Copyrights and literary, musical, or artistic compositions▲Franchises (or business systems)▲Software or source code▲Methods, programs, systems, procedures, campaigns, surveys,
studies, forecasts, estimates, customer lists, training materials, future sales/order books, or use rights
▲Strategic and defensive patents, trademarks, etc. (patent trolls)▲ Intangible generating services: research and development,
engineering, or marketing
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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IP Stakeholders
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Owners of IP Investors Licensors/Licensees
Governments/Tax Authorities
Damages
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Key Events - Governments
▲2011 budget submitted by the Obama Administration included a proposal to redefine intangibles under Sections 367(d) and 482 to include workforce in place, goodwill and going concern value. The budget also included a provision which takes a more direct approach to attacking migration of US-developed intangibles
▲2011: European Union sets out its plan to overhaul IP rules in its bloc, including the protection of IP and prevention of migration of intangibles.
▲Anticipation of similar review of IP rules within Asia.
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Key Events – Damages Cases
▲February 5, 2010: Resqnet.com, Inc. v Lansa, Inc.
$506,305 settlement past infringement (hypothetical royalty) − The determination of a reasonable (market) royalty rate requires factual
findings that account for technological and economic differences
▲January 4, 2011: the United States Court of Appeals for the Federal Circuit changed deemed the 25 Percent Rule inadmissible during the Uniloc USA V. Microsoft patent infringement case (the “Uniloc Ruling”) $388 million settlement− Under this rule, licensees pay a royalty rate equivalent to 25 percent of its
expected profits for the product that incorporates the IP at issue.− “This court now holds as a matter of Federal Circuit law that the 25 percent
rule of thumb is a fundamentally flawed tool … because it fails to tie a reasonable royalty base to the facts of the case at issue.”
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Key Events – Tax Cases
▲GlaxoSmithKline Holdings (Americas) Inc. v. Comr., No. 5750-04 - $3.4 billion settlement (marketing intangibles)
▲Veritas Software Corp. (subsidiary of Symantec Corp.) v. Comr., T.C., No. 12075-06, 133 T.C. No. 14 - $2.5 billion in proposed adjustments with back taxes and penalties amounting to $1 billion (valuation: income method approach)
▲Microsoft v. IRS Appeals Division - $3.1 billion to settle an audit 2000-2003 for undisclosed issues. Another settlement for 2004-2006 period (software intangibles)
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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IP Valuation Approaches
▲Cost Approach▲Market Approach▲ Income Approach
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Require you find market royalty rates
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Relief from Royalty Method (Income Approach)
▲The relief from royalty (or royalty savings) method values the asset as the present value of after-tax royalty payments. The supposition is that, if a firm did not possess a certain intangible, it would be willing to pay a royalty for the use of such an asset.
▲The idea of: substitutes
▲ In application, the appropriate royalty rate to projected revenue must be estimated.
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Relief from Royalty Example
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USD (millions)
Fiscal Year Ending December 31,2011 2012 2013 2014 2015 2016 2017 2018 2019 2020
Projected Revenue $75.0 $82.5 $95.0 $100.0 $105.0 $109.2 $113.6 $117.0 $120.5 $123.5Growth Rate 10.0% 15.2% 5.3% 5.0% 4.0% 4.0% 3.0% 3.0% 2.5%
Percent Attributable to the Intangible Asset 100.0% 95.0% 90.0% 80.0% 65.0% 50.0% 35.0% 10.0% 5.0% 0.0%
Projected Attributable Revenue 75.0 78.4 85.5 80.0 68.3 54.6 39.7 11.7 6.0 0.0
Royalty 5.0% 3.8 3.9 4.3 4.0 3.4 2.7 2.0 0.6 0.3 0.0
Income Tax @ 40% 1.5 1.6 1.7 1.6 1.4 1.1 0.8 0.2 0.1 0.0After-Tax Royalty 2.3 2.4 2.6 2.4 2.0 1.6 1.2 0.4 0.2 0.0
Partial Year Adjustment 1.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00 1.00Present Value Period 0.50 1.50 2.50 3.50 4.50 5.50 6.50 7.50 8.50 9.50PV Factor @ 15.0% 0.93 0.81 0.71 0.61 0.53 0.46 0.40 0.35 0.30 0.27Present Value of After - Tax Royalty $2.1 $1.9 $1.8 $1.5 $1.1 $0.8 $0.5 $0.1 $0.1 $0.0
Total Present Value $9.8
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Royalty Rate Sensitivity
▲4% = $7.8 Million▲5% = $9.8 Million▲6% = $11.8 Million
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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ktMINE Finding & Analyzing Royalty Rates
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Internal Market Royalty Rates External Market Royalty Rates
Determine Existence of Market Royalty Rates
Assess Comparability
Functions &Risks Born by Licensor vs. Licensee
Rights to Receive Updates & Modifications
Profit PotentialUniqueness of IPBusiness Relationship Between Licensor &
Licensee
DurationTerritory & Field of UseExclusivity & Restrictions
Interdependent Comparability Factors
Establish Defensible Market Royalty Rates
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ktMINE Finding & Analyzing Royalty Rates
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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Case Study: Factors of Comparability
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Licensor
(US)
Licensee
(Any Other Country)
Software
Royalty % Net Sales
▲Real case – taxpayer submits agreements to tax authority claiming comparability
▲Comparable license agreements and transactions▲Related to the licensing of software▲Goal = challenge comparability
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Taxpayer’s Submitted Comparable Agreements
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Agreement Licensor Licensee Licensed IP Royalty Rate (Example)
1 INTUIT INC. RETAIL TECHNOLOGIES INTERNATIONAL, INC. SOFTWARE 3.0%
2PALM COMPUTING, INC., PALMSOURCE, INC., SONY CORPORATION
PALM COMPUTING, INC., PALMSOURCE, INC., SONY CORPORATION SOFTWARE 4.0%
3 NET PERCEPTIONS, INC. VIGNETTE CORPORATION SOFTWARE 4.0%
4 VERITY, INC. ELOQUENT, INC. SOFTWARE 6.0%
5 CERTICOM CORP. DIVERSINET CORP. SOFTWARE 9.0%
6 PARADIGM SOFTWARE TECHNOLOGIES EVOLVE SOFTWARE, INC. SOFTWARE 2.0%
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CREO INC., CREO PRODUCTS INC., PRINTCAFE SOFTWARE, INC., PRINTCAFE SYSTEMS, INC., PRINTCAFE, INC., PRINTCHANNEL, INC.
CREO INC., CREO PRODUCTS INC., PRINTCAFE SOFTWARE, INC., PRINTCAFE SYSTEMS, INC., PRINTCAFE, INC., PRINTCHANNEL, INC. SOFTWARE 2.5%
8 MICROSOFT LICENSING GP INTERCARE DX, INC. SOFTWARE 4.0%
9 LEGATO SYSTEMS, INC. CAMINOSOFT CORPORATION SOFTWARE 5.0%
10 MENTOR COMMUNICATIONS LTD. OBJECT POWER, INCORPORATED SOFTWARE 3.0%
11 RATIONAL SOFTWARE CORPORATION INTERNATIONAL BUSINESS MACHINES CORPORATION SOFTWARE 3.0%
12 SRI INTERNATIONALCONNECTSOFT COMMUNICATIONS CORPORATION SOFTWARE 5.0%
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Ex #1: Taxpayer’s Submitted Summary
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▲Parties: PALM COMPUTING, INC., PALMSOURCE, INC., SONY CORPORATION
▲Taxpayer’s Submitted Summary− Grant the right to use and reproduce the Palm Development Environment, the Palm
Software in object code form, and the Palm Materials solely to develop, manufacture, test and support the Licensee Products (handheld computing or communications products).
▲Licensed Intangible: SOFTWARE▲Effective Date: 03/1/2003
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Ex #1: – Issues with Agreement
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▲Terms of Transfer and Rights Granted: − 2.1 Development and Documentation License. Subject to the terms and conditions
of this Agreement, Palm Computing hereby grants to Licensee a personal, limited, non-exclusive, non-transferable, fully-paid license to use and reproduce the Palm Development Environment, the Palm Software in object code form, and the Palm Materials solely to develop, manufacture, test and support the Licensee Products. Licensee agrees that it shall use the Palm OS in all handheld computing and/or communications devices manufactured or distributed by or for Licensee.
− 2.2 Distribution License. …Palm Computing hereby grants to Licensee a … license to use, reproduce, and distribute: (a) the Palm OS, Palm OS Drivers, and Palm Device Applications, in object code form, solely when embedded into Licensee Products; and (b) the Palm Desktop Software and Palm Installation CD Files, in object code form, and Palm End-User Documentation solely when bundled with Licensee Products.
− 4.3 Maintenance and Support Fees. Licensee shall pay to Palm Computing fees as specified in Exhibit D (Royalties and Fees) for maintenance, support, and Updates made available by Palm Computing to Licensee pursuant to Sections 6.1 and 7.
− 6.4 Joint Development. Palm Computing and Licensee agree to jointly develop a future version of the Palm Software which will incorporate the Memory Stick technology and other Licensee audiovisual technology to be agreed upon by the parties.
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Ex #1: – Issues with Agreement
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▲Terms of Transfer and Rights Granted: − 4.3 Maintenance and Support Fees. Licensee shall pay to Palm Computing fees as
specified in Exhibit D (Royalties and Fees) for maintenance, support, and Updates made available by Palm Computing to Licensee pursuant to Sections 6.1 and 7.
− 6.4 Joint Development. Palm Computing and Licensee agree to jointly develop a future version of the Palm Software which will incorporate the Memory Stick technology and other Licensee audiovisual technology to be agreed upon by the parties.
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Ex #1: – Issues with Agreement
▲Agreement Type: JOINT DEVELOPMENT, MARKETING INTANGIBLE, SOFTWARE
▲Effective Date: 03/1/2003
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Ex #2: - Taxpayer’s Submitted Summary
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▲Parties: NET PERCEPTIONS, INC., VIGNETTE CORPORATION▲Taxpayer’s Submitted Summary:
− Grant the right to use object code copies of GLE solely for the purpose of developing, demonstrating, testing, and supporting the Integrated Product (elements of GroupLens Recommendation Engine to be bundled with, and integrated into, the next major release of Story Server, that delivers collaborative content management with dynamic content application server) and not for any other internal productive purposes
▲Licensed Intangible : SOFTWARE▲Effective Date: 04/6/1998
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Ex #2: - Issues with Agreement
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▲Terms of Transfer and Functions and/or Services to be Performed by Each Party: − Grant the right to appoint Vignette Corporation to act as a worldwide non-exclusive
reseller of Net Perceptions, Inc. for GLE (a derivative of GroupLens Recommendation Engine, that enables businesses to foster 1-to-1 customer relationships by tailoring web sites to deliver specific and meaningful content based on user preferences).
− 3.1 Development and Demonstration License Grant. NPI hereby grants at no additional charge to VIGNETTE a nonexclusive, nontransferable right to use object code copies of GLE solely for the purpose of developing, demonstrating, testing, and supporting the Integrated Product and not for any other internal productive purposes (the "Development and Demonstration License").
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Ex #2: - Issues with Agreement
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▲Terms of Transfer and Functions and/or Services to be Performed by Each Party: − 5.2 Branding and Copyright Notices. VIGNETTE will market and distribute GLE
during the term of this Agreement under VIGNETTE brand(s). − 6.6 Marketing and Advertising. During the effective term of this Agreement,
VIGNETTE, as part of its activities to promote the distribution of GLE with the Integrated Product, agrees to confer periodically with NPI on matters relating to market conditions, sales forecasting, product planning, and update, promotional and marketing strategies.
▲Agreement Type: DISTRIBUTION, SOFTWARE
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Ex #3: - Taxpayer’s Submitted Summary
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▲Parties: LEGATO SYSTEMS, INC., CAMINOSOFT CORPORATION▲Taxpayer’s Submitted Summary:
− Grant the right to use the source code to create derivative works and to support resellers and end-users.
▲Licensed Intangible : SOFTWARE▲Effective Date: 12/13/2002
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Ex #3: - Issues with Agreement
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▲Terms of Transfer and Rights Granted: − 2.2 GRANT OF OTHER RIGHTS. Legato grants CaminoSoft a non-exclusive, non-
transferable worldwide : (i) royalty based right to market, distribute, license and sublicense the Software and all CaminoSoft Derivative Works.
− 2.4 BRANDING. Legato hereby grants CaminoSoft a non-exclusive license to use the trademarks "StandbyServer," "SnapShotServer," and"OFFsite Archive ,” (collectively the "Product Trademarks") in the marketing and distribution of the Software, CaminoSoft Derivative Works, and Documentation; but only in conjunction with a reference to the NetWare operating system and subsequent versions thereof, as in ""StandbyServer Many-To-One for NetWare," "OFFsite Archive for NetWare," "OFFsite Archive Many-To-One for NetWare," "SnapShotServer for NetWare", and "StandbyServer One-to-One for NetWare“.
▲Agreement Type: MARKETING INTANGIBLE, SOFTWARE
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Taxpayer’s Submitted Comparable Agreements
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Agreement Licensor Licensee Licensed IP Royalty Rate (Example)
1 INTUIT INC. RETAIL TECHNOLOGIES INTERNATIONAL, INC. SOFTWARE 3.0%
2PALM COMPUTING, INC., PALMSOURCE, INC., SONY CORPORATION
PALM COMPUTING, INC., PALMSOURCE, INC., SONY CORPORATION SOFTWARE 4.0%
3 NET PERCEPTIONS, INC. VIGNETTE CORPORATION SOFTWARE 4.0%
4 VERITY, INC. ELOQUENT, INC. SOFTWARE 6.0%
5 CERTICOM CORP. DIVERSINET CORP. SOFTWARE 9.0%
6 PARADIGM SOFTWARE TECHNOLOGIES EVOLVE SOFTWARE, INC. SOFTWARE 2.0%
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CREO INC., CREO PRODUCTS INC., PRINTCAFE SOFTWARE, INC., PRINTCAFE SYSTEMS, INC., PRINTCAFE, INC., PRINTCHANNEL, INC.
CREO INC., CREO PRODUCTS INC., PRINTCAFE SOFTWARE, INC., PRINTCAFE SYSTEMS, INC., PRINTCAFE, INC., PRINTCHANNEL, INC. SOFTWARE 2.5%
8 MICROSOFT LICENSING GP INTERCARE DX, INC. SOFTWARE 4.0%
9 LEGATO SYSTEMS, INC. CAMINOSOFT CORPORATION SOFTWARE 5.0%
10 MENTOR COMMUNICATIONS LTD. OBJECT POWER, INCORPORATED SOFTWARE 3.0%
11 RATIONAL SOFTWARE CORPORATION INTERNATIONAL BUSINESS MACHINES CORPORATION SOFTWARE 3.0%
12 SRI INTERNATIONALCONNECTSOFT COMMUNICATIONS CORPORATION SOFTWARE 5.0%
All Rejected
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Agenda
▲What Is Important? (Intangible Property Inventory)▲Why Is It Important? (Key Events)▲How Much Is It Worth? (Valuation)▲How Do I Benchmark It? (Finding & Analyzing Royalty Rates)▲ In Action (Case Studies)
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▲Comparable license agreements and transactions▲Related to the licensing of manufacturing intangibles ▲ In the production of batteries▲Goal = prepare an arm’s length range
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Case Study: Search In Action
Licensor
(US)
Licensee
(Any Other Country)
Manufacturing IP
Batteries
Royalty % Net Sales
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Our search results have uncovered 31 agreements
Search Filters
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Scanning Summaries
The next step is to check for relevant agreements by scanning pertinent licensing terms
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Validate by Viewing Full Agreement
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
26 agreements in our set of 31 contain Net Sales royalty rates
Results – % Net Sales
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In Summary
▲There are various intangibles to consider, not just patents and trademarks
▲Global governments, tax authorities, and courts are focused on the valuation and migration of intangibles
▲Valuations are sensitive to the selection of royalty rates...real money is on the table!
▲Finding a perfect comparable is nearly impossible▲Finding good market benchmarks is possible▲Specific attention should be paid to the factors of comparability▲Nothing substitutes for the reading of license agreements
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© Copyright ktMINE 2011. All rights reserved. www.ktMINE.com
Finding & Analyzing Royalty Rates
Jeff Cozzo, ktMINEp: 312.253.0929e: [email protected]
David R. Jarczyk, ktMINEp: 773.401.8962e: [email protected]
Factors of Comparability Impacting Market Royalty Rates & Intangible Property Valuations