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T

M
J

Technology
Management
Journal

Fusion & Innovation

Ju
u ne 2004

Technology Valuation
The Market Comparables Method
By Mildred A. Hastbacka, Ph.D.
Director, TIAX LLC

ABSTRACT:
This is the third in a series of articles
addressing how the R&D organizations
in the US are implementing key elements
of the "high performance business model."
The HPB model integrates Strategy (S),
Processes (P), Resources (R), and
Organization (O) to deliver high performance business results.
This third article continues our focus on
"P", Processes, and treats a critical business
process: Technology Valuation. We provide
an introduction to three commonly used
technology valuation processes, present
the advantages and disadvantages of
each, and treat in some detail a sound
and versatile valuation methodology
particularly efficient for large folios of
technologies: the ValuGridTM market
comparables method.

M AJOR M ETHODS
T ECHNOLOGY

FOR

V ALUING

Figure 1 presents the major methods for


valuing technology, expressed in abbreviated
fashion as "cost," "market," and "income."
Figures 2, 3, and 4 present brief definitions
for each of these major methods, as well as
the primary advantages and disadvantages
of each.

T HE V ALU G RID M ODIFIED M ARKET


C OMPARABLES A PPROACH
TIAX LLC has developed and used successfully for years what we call the ValuGrid
Modified Market Comparables method
for valuing technology. The ValuGrid
method is based on the premise that,
within a given industry, the complementary

tangible and monetary assets required to


realize value from technology-based intangible
(intellectual) assets are reasonably comparable
among that industry's participants.
Consequently, the key determinants of
the value of the technology-based intangible
assets are the technology itself and the
economic return the technology creates.
(For the purposes of this discussion,
"technology" denotes the comprehensive
bundle of patents, technical trade secrets,
proprietary technical know-how, and/or
proprietary hardware/software required to
support the business made possible by
the practice of that comprehensive bundle
of technology.) In a licensing transaction,
whether between business entities within
a company or between two unrelated
business entities, the compensation for
use of another's technology typically
includes royalties, calculated to provide a
fair rate of return on the technology's value.
There are a number of factors affecting
technology value. All of these factors

affect the royalty rate for that technology.


These factors can be summarized as follows:

Nature, form, and stage of


development of the technology

Perceived technical risk

Perceived commercial risk

Economic impact and useful


economic life

Transaction-specific details

In estimating a fair market value and a


royalty rate, these factors are weighed
along with the investments and returns
associated with developing and commerciallyexploiting the technology. Although specific
royalty rates for individual technologies
can vary considerably depending on
transaction-specific details, there are general
patterns. In general and within a given
industry, as the technology's risk
decreases, usefulness increases, and
potential for competitive advantage

Figure 1. Major Methods of Valuing Technology

Cost

Values technology on basis of the cost


expended to create it

Market

Considers recent transactions involving the


transfer of ownership of similar technology

Income

Values intellectual property as the present


worth of projected economic benefits

Technology Management Journal

Page 2

Figure 2. Cost Approach: Pros and Cons

Cost
Cost Approach: Values technology on basis of the cost
expended to create/develop it:

Simple (conceptually)

Cost may bear little relationship with potential benefits of


intellectual assets

Often difficult to make accurate cost estimates


-

Opportunity cost?

Value of speed?

Advantage

Disadvantage

Figure 3. Market Approach: Pros and Cons

Market
Market Approach: Considers recent transactions involving the
transfer of ownership of similar technology:

Simple and based on actual transaction data

Limited data available: transactions involving transfers of


technology are relatively infrequent, and usually not public

Characteristics of technology to be valued are often


unique (e.g., patents) and difficult to compare

Advantage

Disadvantage

Figure 4. Income Approach: Pros and Cons

Income
Income Approach: Captures the value-in-use of technology

Based on economic benefits derived from owning/using


the technology

Reflects full effect of risks (including obsolescence)


associated with the technology

Subjectivity: based on anticipation of future income

Advantage

Disadvantage

Technology Management Journal

increases, the value (i.e., the royalty rate)


for the technology increases. In the commercial practice of the technology, as the
economic impact becomes more certain
(i.e., commercial risk decreases), profits
increase, the useful economic life is
extended, the value (i.e., the royalty rate)
for the technology increases.
These generalizations about the nature of
the technology and its market impact can
be captured in grid format. One such
example is Figure 6, which accompanies
the case example outlined in Figure 5, to
be discussed in more detail. Figure 6
shows one set of relevant descriptors for
a technology and its associated economic
impact. For a number of reasons, e.g., its
potential for becoming obsolete quickly,
an aging technology is less attractive than
an established, mature technology, which
offers both minimum technical and market
risk. However, a mature technology is
often less attractive than a growth technology, which offers the potential of rapid
volume expansion and displacement of
existing competitive technologies. In this
figure, the surrogate for profitability is
market position. With respect to market
position, a "strong/leader" market position
implies sustainable competitive advantage
and maximum possible profits for the
longest possible time. A "weak/tenable"
market position implies a vulnerability
with respect to competitive advantage and
relatively poorer profits. A favorable market
position implies something in between.
To be useful as a guide for estimating royalty
rates that reflect actual practice within a
given industry, the grid entries should
reflect "real world" transactions in these
industries. Normalization of these real
world transactions results in royalty rate
values in the grid that are:

Based on third-party, arm's-length


transactions
Applicable to sales-generating
technologies, as distinct from costsaving technologies
Expressed as a "percentage of net
sales"
Applicable globally
In effect at the outset of the
licensing agreement
Intended to provide a fair rate of return
on the value of the technology to the
licensor over the life of the agreement

Page 3

Once a royalty rate range is identified,


the task shifts to identifying factors that
pinpoint specifically where in this range
the technology should "sit," i.e., what is its
specific royalty rate? Integral to the
ValuGrid method are straightforward
analytical tools that semi-quantitatively
assess the impact of relevant second-order
factors on the value of the technology in
question. Such factors include, but are
not limited to:

Market growth prospects; volume


expansion

Future margin trends

Added know-how, at the outset of


licensing or in the future

Useful economic life

CASE EXAMPLE : V ALUING A PORTFOLIO


OF TECHNOLOGIES USING THE VALU GRID
METHOD
An industrial and medical instruments
company ("IMIC") owned a folio of technologies (some patented, others kept as
trade secrets) that were embodied in the
instruments it made and sold. IMIC
wanted to sell this portfolio of practiced
technologies to a third party and asked us
to value the entire bundle of technologies.
Given the short time frame in which the
valuation was required, we were asked to
estimate the value of the folio using existing
information and technology characterizations.
We chose to use the ValuGrid method,
coupled with our existing knowledge of
IMIC's technologies and product/market
positions to fulfill IMIC's need for a folio
value. What we needed to do in addition
was determine some key actual royalty
rates specific to IMIC's industry, i.e., industrial
and medical instruments.
IMIC's overall portfolio of technologies
was translated into individual "product/
technology" folios. Each of these
"product/technology" folios represented
a product line of known sales along with
the associated IMIC technologies that
were embodied in that product line. Each
of these product/technology folios was
numbered, characterized with respect to
the stage of the technology (x-axis) and
IMIC's market position for that product
line (y-axis), and mapped onto the
ValuGrid (Figure 6).

The ValuGrid allows us to "read" the royalty


rates for each product/technology folio.
Figure 7 shows how the royalty rates
"read" from Figure 6 can be used to
develop the portfolio value. We reported
the results of the porfolio valuation to our
client, along with an analysis of "internal
rate of return" scenarios for IMIC's
prospective investor, who planned to
license out these technologies at the royalty
rates shown in Figure 7. The result: IMIC
sold its portfolio to its third party investor
for 150 million in local currency, satisfying
its investor's desired 15% IRR.

E FFECTIVE

AND

E FFICIENT A PPROACH

The ValuGrid method was developed as


an effective and efficient alternative to a
strict market comparables approach to
determining fair market value and, hence,
royalty rates. In a given industry, technology/
market factors influence not only the
appropriate royalty rate range for a given
technology, but its specific royalty rate as
well. The more situation-specific technology/
market factors are included in the assessment,
the more closely this estimate of a royalty
rate conforms to a royalty rate determined
on the basis of a more detailed, resourceintensive microeconomic valuation.

15 Acorn Park
Cambridge, Massachusetts
02140-2390
Tel: (617) 498-5000
www.TIAXLLC.com

Reprinted from Technology Management Journal.


Published by Fusion & Innovation, Inc. Tokyo, Japan.

Technology Management Journal

Page 4

Figure 5. Valuing a Portfolio of Technologies using the ValuGrid Method

Case Example: Industrial & Medical Instruments Company (IMIC)

Situation

IMIC wanted to initiate a sale/lease-back of its proprietary


technologies that supported its current commercial
product line

Challenge

Estimate the value of the entire technology bundle using


existing information (i.e., no new efforts to be expended).

Solution

Divide the technology bundle into technology/product


folios and apply the ValuGrid method to each foliouse
royalty rates and profitability characterizations specific to
IMICs industry, industrial and medical instruments

Figure 6. ValuGrid Mapping of IMIC Technology/Product Folios

Technology Stage
0.5%

3%

0.5% Aging

3%

5%

Mature

Market Position

Growth

5%

32

Weak

Tenable

15%

21 35

6, 22a

4, 10, 23

9, 31
24

33
7
Favorable

22c

22b

34
37

36
2

Strong

Leader

Figure 7. Calculation of Total and Average Royalty for IMICs Technologies

Royalty Rates, by Portfolio #


1%

3%

4%

5%

Portfolio No. 1996 Sales Portfolio No. 1996 Sales Portfolio No. 1996 Sales Portfolio No. 1996 Sales
1
10
9
10
33
23
3
10
21
20
10
20
24
28
5
60
35
21
31
21
7
90
6
8
32
8
34
7
22a
10
4
10
37
61
23
10
Total Sales*
69
Total Sales*
86
Total Sales*
51
Total Sales*
228
Annual Royalty
0.69
Annual Royalty
2.58
Annual Royalty
2.04
Annual Royalty
11.4
8%

9%

10%

Portfolio No. 1996 Sales Portfolio No. 1996 Sales Portfolio No. 1996 Sales
22C
5
22B
11
2
30
37
32
Total Sales*
Annual Royalty

0.40

Total Sales*
Annual Royalty

* Sales units are in millions (local currency)

43
3.87

Total Sales*
Annual Royalty

3.0

Total Sales Base:


Total Royalty:
Average Royalty:

512
23.98
5%