It is axiomatic that Covid-19 will cause a significant increase in business failures. The result will be major losses for employees, creditors, and shareholders.
However, it is possible to recover substantially more from a failed business than many people realise if the receiver or liquidator can unlock the value of a failed or failing company’s intangible assets.
Intangible assets are a major source of value
Intangible assets account for over 87% of all company value today. In the case of high growth, service or technology companies, this number is likely to be even higher with 95% or more of their value in intangible assets.
Unfortunately, accounting standards essentially ignore intangible assets: they are either entirely off-balance sheet, are lost under good will or recorded at cost (there is no correlation between the cost of an intangible asset and its value). Furthermore, intangible assets are not recorded on the fixed asset register (by definition), are unlikely to feature in the P&L (unless they have a stream of revenue attached to them), and are rarely mentioned in the risk register. The result is that most companies have little understanding of the true impact or value of their intangible assets.
Diamonds in the Rough
In a distressed situation receivers and liquidators tend to focus on cash, cash equivalents (such as accounts receivable and debtors) and fixed assets (plant and equipment, inventory, and real estate) to repay creditors or equity holders. Intangible assets tend to be overlooked or written off as “too hard.” Any value that intangible assets are perceived as having is generally only in the context of the sale of the business as a going concern. They are rarely seen as a distinct driver of value.
However intangible assets can be a source of considerable residual value during a business failure. This makes sense: if 87% of company value now resides in intangible assets it would be unusual if *all* that intangible asset value evaporated the moment the company fell into distress.
There are two primary ways intangible assets can be a source of residual value in the event of a company failure.
- Where the distressed entity remains intact the intangible assets can have a higher value in the hands of a third party than the business itself. For instance, a company may have a product design and associated brand that underperformed in the hands of management, resulting in poor financial outcomes. In the hands of an acquirer (especially a larger company) with stronger market or distribution channels or more cost-effective production the intangible assets in design and brand could be worth far more to the acquirer than the original owner.
Case Study: Marvel
In 1996 the comic book maker Marvel was acquired out of bankruptcy for cents on the dollar. The new owners eliminated all fixed assets and focused on the real asset: Marvel’s back catalogue and its roster of super-hero characters. These were licensed for movie production. In 2009 Disney acquired Marvel for $4.3 billion. 10 years later Avengers End Game (based on Marvel’s content) became the highest grossing film of all time, generating $1.2 billion in its opening weekend.
- Certain intangible assets such as brands, data, patents, product designs, software code and content can have distinct value that is severable from the business itself. For instance, a company may own a patent that it has been unable to commercialize itself (burdening it with legacy R&D and IP costs) but in the hands of another company with better market access that same patent could be worth vastly more.
Case Study: Failed Start-Up
EverEdge was approached by the investors in a failed start up. The management team had left and the only assets remaining were intangible. The investors wanted to understand if the assets were worth anything. We determined they were highly valuable, identified buyers, prepared sale documentation, ran a sales process and ultimately sold that intangible asset for tens of millions of dollars, returning $45 for every $1 the investors had invested in the start-up. In all probability, the investors made more money from the start up failing than if it had “succeeded” in its target market.
If you are a company owner:
- ACT NOW: Act quickly BEFORE things start disintegrating. Identify valuable intangible assets and ensure that they are recorded and controllable. If possible, place them into escrow.
- IDENTIFY YOUR CRITICAL ASSETS: If key intangible assets are non-codified (for example trade secrets) write them down or at least identify which staff have them in their heads and try to maintain those staff if possible.
- PRESERVE VALUE: Preserve value by ensuring any patent or trademark maintenance fees are up to date.
- ARTICULATE VALUE: Ensure that you articulate the value of these assets to investors, creditors, receivers etc – it is in the best interests of everyone to maximize the value of all assets.
If you are an investor or debt holder (with some degree of control):
- ACT NOW: It is critical that you quickly identify the core intangible assets, which are registered (recorded) and which are non-codified.
- RETAIN KEY STAFF: Identify which staff members have access to critical intangible assets – make every effort to ensure these staff stay connected to the business.
- LOOK BEYOND THE BALANCE SHEET: Look past conventional financial analysis or reports to try to understand what was the real heart of the business (it’s brand, it’s customer data, it’s software) and find out what happened to those assets. Ignore the balance sheet value of the intangible assets – it will be materially higher or lower.
- SEEK THE RIGHT ADVICE: Do not rely on patent or trademark attorneys for opinions on the value of patents, copyrights, trademarks etc – the process to create and maintain these rights is very different than the process to monetize them.
If you are a receiver or liquidator:
- LOOK BEYOND THE BALANCE SHEET: Recognize that the company is more than its financial statements – there could well be highly valuable off-balance sheet assets. Ignore the balance sheet value of the intangible assets – it will be materially higher or lower.
- ACT NOW: identify all critical intangible assets as fast as possible and gain control of them. If that is not possible figure out who does control them.
- WORK WITH MANAGEMENT: Work with, not against, management wherever possible: certain intangible assets decay quickly especially if management are not co-operating.
- WHO ARE THE BUYERS OF THE INTANGIBLE ASSETS: Go beyond the fixed assets and think about which third parties would be major users of the distressed company’s intangible assets – these are potential buyers of both the company or the assets themselves.
If you have any questions regarding intangible assets in distressed situations or require assistance in such a situation as an owner, investor, debt holder or liquidator contact us for a free, one hour non-obligation meeting to discuss and work through any issues you may be facing.
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