technology valuation methods
TRANSCRIPT
Environment of TTO valuations The key to valuation Valuation approaches
› Rules of thumb› Comparables› ‘Scientific’ approaches
Section 9 of IP Handbook› http://www.iphandbook.org/handbook/ch09/
Anything written by Richard Razgaitis
Three examples of technologies:› US 6,684,702 – Flow Duct Obstruction› US 6,386,217 – Axillary Crutch› US 6,048,850 – Method of Inhibiting
Prostaglandin Synthesis in a Human Host For each example:
› Patent abstract, diagrams, claims Each is a real TTO valuation issue
-10.00
0.00
10.00
20.00
30.00
40.00
50.00
60.00
70.00
80.00
90.00
100.00
McMaster University FY97 to FY06, Net Revenues/Disclosure over Disclosures, Max revenue=100
What happened to Pareto? (80/20)
More likely:› Long Tail distribution (98/2)
Valuation implications› Do we make any money except
on a home run?› Most valuations will be wrong› A lot of money in thin lines› But watch out for the expenses
Process control› Want to concentrate on big winners
Help with subsequent negotiations› Knowledge of the market› Good valuations = Good deals
Helps set targets Classic Definition of Valuation
› Between willing buyer and seller› Having full possession of all relevant facts
Technology PatentsKnow-howExpertise
Exclusivity Yes / NoConfidentiality Yes / No
Licence Back Yes / NoWhat Plan? Spin-off
LicenceOther
Key to value: the Market› The ‘value’ proposition
Who decides to buy? e.g.: who decides on choice of a
specific drug for a condition? Q: For an example, what are our
relevant markets? Q: Are there other markets we should
consider?
Before anyone can buy product, what still needs to be done?› Regulatory approvals› System creation
Q: for an example, which will require approvals? Will approvals be maintained?
Q: what still needs to be done to generate revenues?
Very common belief that research $$ spent is the value
Economics analysis› Value of sunk costs?› If there is no recovery on
research costs value is ZERO Costs can create a
real expectations problem
Start-up Companies Internal use Traditional licensing:
› Rules of thumb› Comparables› ‘Scientific’ or ‘B School’ approaches
e.g.: VC invests $20M in seed capital in company based on technology; subsequently company generates $50M on an initial public offering (IPO)
What is value of technology? Analysis:
› What does university get out of the company?› What do inventors get?› Does university still share with inventors?› Is there sponsored research coming in from
company?
Depends on each individual negotiation› Is there a double dip? (i.e. both shares and
a royalty)› Only real determinant is post dilution
percentage left Some suggestion that technology value
may be as little as 1 or 2% pre-IPO
Two types: › Institution wants to sell a product› Technology to be added to defensive portfolio
Sales› Isolated situations
e.g.: Isotope sales; Medical instruments
› What to do with sharing formulae? How to calculate expenses
Technology will be added to portfolio to enable some other technology or to overcome ‘patent thicket’
Good situation is ‘patent pooling’› See: Parish and Jargosch, AUTM Journal 2003› e.g. of MPEG pool› Future of bio: Patenting to permit use; e.g. SARS
Bad situation is where company wants to use it defensively› Q: Can university even do this type of deal?› What is appropriate price?
Rules of Thumb› Usually based on specific industries› May be confused with comparable rates
Most used Rule of Thumb:› The Razgaitis Rule aka The Rule of Quarters
Need to be able to analyze what is the ‘incremental’ margin before G&A
Rule suggests that ¼ of that increment should be licensors
In practice see anywhere from 10 to 50% Best suited to clear commercial products
Before After
Sales – $100 $200CGS – $50 $70Margin – $50 $130G&A – $20 $20
Net profit $30 $110
Incremental Margin $80; therefore, royalty would be $20 or 10% of Sale Price
Q: of 3 examples, which is (are) suited to ‘Rule of Quarters’ analysis?
How to price the royalty? The realities of the target industry More information on this: LES
The 50% Rule:› At point of product introduction, 50% of
total risk remains› IF inventing org brings product to
introduction stage, entitled to 50% of profits
› Therefore, if commercializing org does part of product introduction entitled to more than 50% of profits
More a starting position for discussions
Some industries have ‘standard’ rate› Shrink-wrap software in 25 to 50% range› Some types of pharmaceuticals
What is the base?› Stacking royalties problem
How to get information on comparable rates?› Colleagues› Subscriptions to Newsletters
More similar deals is better But are the deals the same?
› Industry segments; Margins; Use of IP› Licensing terms: exclusive; non; options
Risk analysis› What is usual risk profile of our technologies?
Compared to industrially-generated technologies?
Certainty analysis› Similar to risk but one component separate:
certainty of measurement
Different types of Risk› Technology: can we develop the
technology as envisaged› Market: will the market adopt the
technology› IP issues: will our IP protection hold up› Societal Norms: will our technology
continue to be accepted?
Internet: Publicly-filed information like SEC and SEDAR information› www.sec.gov (look for EDGAR)
Court and other public records› http://pacer.psc.uscourts.gov/
Specialty information› www.10kwizard.com› www.fda.gov
Company’s own websites and competitors
Leading Fed Ct decision Court established factors to consider in
establishing a ‘reasonable’ royalty 15 Factors include:
› Existing royalty rates for licensor and licensee› Exclusivity; territory; field of use› Practice in licensing; relationship between
parties; potential related sales› Duration and term of patent
1: Georgia-Pacific Corp. v. U.S. Plywood-Champion Papers, 318 F. Supp. 1116, (S.D.N.Y. 1970), modified, 446 F.2d 295 (2d Cir. 1971).
Discounted Cash Flow (DCF) and Net Present Value (NPV)
Real options theory Auctions But first some arithmetic!
What are assumptions that go into a DCF or NPV calculation?› Market size› Percentage of market› Product price› Royalty Rate› Discount (interest rate)
How precise is any of these five assumptions?› The lowest of these is the most precision our
answer can have!
Using probability distribution, which is best estimate of discount (interest) rate?
σ = small
Using probability distribution, which is best estimate of discount (interest) rate?
σ = large
How much is 2 ± 3 times 5 ± 5 ?› -1 x 10 ( -10) to 5 x 10 (+50)
More importantly, how much is:
More simply: is the result the fat or skinny distribution?› Answer: it is an even broader distribution
times = ??
If you’re lucky you have maybe 1 digit of precision in your answer!
The best you are likely to get in precision is order of magnitude› i.e. $106 vs. $107
Any sensitivity analysis going to result in very broad spread for the answer
Put both of these conclusions together:› Value for just about anything is going to be
somewhere between minus $106 and plus $108!
Based on possible cash flows during life of technology› Usually patent life
Likely distribution:
Create Annual Cash Flows› Market size› Percentage of market› Product price› Royalty rate (or CGS)
Then need to establish the appropriate discount rate
0
Relationship between rate of return and risk:
risk
return
Risk-free rate – T-bills + Inflation: ~7%
Company Ave Cost of Capital
Need to know appropriate average cost of capital
Then add risk factors:› Technology: can we develop the
technology› Market: will the market adopt the
technology› IP issues: will our IP protection hold up› Societal Norms: will our technology
continue to be accepted?
Superimpose NPV at, say, 15%
Sensitivity Analysis at 7%, 15% and 30%
Cumulation at 15%
Note break-even point
Discount rate is market driven AUTM TTM (Part X, Ch. 2)
› Low risk rates (known product): 15 to 20%› New product, known manufacturing ability: 25% to
35%› New product, new manufacturing, known business:
30% to 40%› New business, product ready (no R&D): 40% to 50%› New business, product needs R&D: 50% to 70% and
up Q: for three examples, what discount rate?
Despite name not a ‘bet the bank’ strategy
Uses probability distributions to create a new probability distribution
Hand calculation difficult Software implementations:
› Crystal Ball: www.crystalball.com› @RISK: www.palisade.com
Based on Black-Merton-Scholes options analysis
Best example is stock market options Why pay anything for an Oil future at
$200 per barrel 12 months from now?
Actual formula:
Time sensitive Also depends on volatility
› Volatility related to risk› Risk up Volatility up Option value up
More information: Black-Scholes on Wikipedia
Theoretically, the best way to obtain the highest value
Depends on exposure to largest number of potential buyers
cf. success of eBay In patent field:
› Ocean Tomo – Summer 2009 IP Catalogue online› Results from last auctions not like an Art Auction
Will grow over time as bidders understand process Prediction: will become a larger force as
business understands IP better
You have prospects for sales efforts› From brainstorming markets› From comparables research
You’re ready to negotiate› You have ideas on:
Field and Territory of Use Exclusivity or not Comparable rates etc. etc.
Richard has spent $500,000 developing a new way of arranging an electric steel-making furnace which increases the efficiency. R approaches UniSteel about licensing the technology.
UniSteel is interested and figures that they will save about $100,000 per year in costs.
What issues would you consider in valuing the technology?
M University has been asked by a new faculty hire, Professor Roe, to take on the commercialization of a technology developed by Professor Roe previously. The technology is currently 100% owned by R Inc. which is, in turn, 100% owned by Prof. R and his wife. M is being offered shares in R Inc. to take on the project.
The technology is a new means of measuring someone’s blood alcohol level by a skin testing device. A prototype has been developed by R Inc. at a cost of $50,000. It is expected that it might cost $2,000 per unit to build a production model. The current number of units of breathalyzers sold in North America is 4,000 per year at a retail cost of $2,500. There are two major competitors.
What is an appropriate percentage of shares in R Inc. that M Univ. should receive? What other information would you like to receive? How would you obtain it?
You have heard that patent law’s ‘first sale doctrine’ does not allow you to collect ongoing royalties from a machine that you sell outright.
You have invented a new patented machine for conducting laser eye surgery. The machine has a useful life of 10,000 operations which normally sell (by the eye surgeon) for $900 per operation. The machine costs you $175,000 to build and $40,000 per year to maintain for the 10 years useful life of the machine.
Discuss an appropriate sales or licensing strategy and pricing model to maximize your financial returns.
Valuation is not an exact science! Valuation can be a good start in getting
information you will need at various stages of process
Remember the ‘long tail’! The answer is likely going to be
between -$105 and $108 !
