Securing an accurate valuation in a volatile market

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While many companies will hunker down in survival mode under the threat of Covid-19, others will use this time to evolve and get prepared to move at speed when the market rebounds. In either case, many companies will need to raise debt or equity capital to fund them through the downturn.

If you are raising capital, then inevitably the question of valuation will arise. Any capital provider will want to know what is the business worth and how secure financially is it.

Intangible Asset vs Conventional Valuations

Intangible assets (items such as data, content, software code, company, and product brands, confidential information, inventions, patents, industrial know-how, and design rights) now account for more than 87% of company value for most companies. These assets are also the key drivers of growth and profitability for virtually every company (outside real estate).

It is this potential to generate future value for a company and its capital providers that should be a major factor in any valuation.  This is more important than ever in times of economic distress when capital providers’ time horizons tend to dramatically shorten and they place an over reliance on quantitative analysis and especially of future cashflows, as an (often poor) proxy for the value of the business and its assets as a whole.

Unfortunately, intangible assets have been largely ignored by accounting standards and valuations methodologies that can take into account intangible assets remain poorly understood. The result is that conventional valuation methods tend to significantly under-value intangible assets and intangible asset-rich companies. Many accountants and valuation providers erroneously claim “you cannot value data/ brands/content/patents etc.” This is incorrect.

While more complex than a conventional valuation, there are methods of valuing intangible assets that are reliable, accurate and robust.

How does an intangible asset valuation work?

Modern intangible asset valuation methodologies work from the general principle that a strong intangible asset position delivers enhanced competitive advantage which in turn translates into superior market share or margins and ultimately significantly increases the value of the business.

At EverEdge, we have created a proprietary three-factor model that utilizes both traditional quantitative (income and cost) methods but importantly also analyses contextual and qualitative factors. This is critical as it these two later factors that are actually the primary drivers of intangible asset and therefore company value.

Valuations that explicitly account for intangible assets enable both companies and investors to make significantly more informed decisions regarding debt or equity raises, as well as other capital events such as exits, M&A and Joint Ventures. They are also essential for commercialisation activity (such as setting pricing for new products or technology licenses).

Justifying value in a volatile market

In times of market volatility, an intangible asset valuation provides companies with a robust, defensible, business-focused report that articulates and contextualizes the value of the most valuable and important assets (tangible and intangible) the company owns today.

For companies that are looking to raise capital or secure debt, an intangible asset valuation can help management teams put their best foot forward by highlighting where the company’s value lies, rather than a distorted picture based on current financial metrics that ignore the value of underlying valuable intangible assets.

A stark example of this can be seen in the Nortel bankruptcy filing in 2009.  In this instance, Nortel filed for bankruptcy and its various business units and tangible assets were sold for $3.2 billion. The last assets to be sold were the company’s 6000 patents, which in a quirk of accounting rules were recorded on Nortel’s balance sheet at what they cost Nortel – $31 million.  While the frothiest market estimate of their value was $1 billion, most analyst estimates were far south of this.

These assets were eventually sold for $4.5 billion – 145X the value recorded on the balance sheet and the patents ultimately were worth more than the value of the entire rest of the company. A great result for the company’s creditors, but you have to ask whether Nortel would have entered bankruptcy at all if its directors and management team had spent more time actively managing their portfolio of patents and trademarks…

For investors, an intangible asset valuation provides a solid interlocking framework of multiple, well-researched factors that test whether value is real or illusory. Even in times of economic distress investors can be fooled into believing that “X” company has an unbelievable technology / market position that will dominant “Y” market in the near future, all the while supported by hockey stick cash flow forecasts. Only a deep and comprehensive analysis of the intangible assets a value that will support that future are likely to reveal the real situation.

With so much uncertainty in the market, our advice to companies is to avoid getting too focused on cash flows or tied-up in arbitrary valuations and instead focus on the value of your tangible and intangible assets and why and to whom these assets are ultimately going to be valuable to – both today and in the future.

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