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Intellectual Property

VALUATION, EXPLOITATION, AND INFRINGEMENT DAMAGES

 

 

2017 CUMULATIVE SUPPLEMENT

Russell L. Parr    Gordon V. Smith

 

 

 

 

 

Title Page

ABOUT THE AUTHORS

Russell L. Parr, CFA, ASA, is president of IPRA, Inc. (Intellectual Property Research Associates; www.ipresearch.com). He is an expert in determining the value of intellectual property. Mr. Parr's books about intellectual property value and management are published in Japanese, Korean, Italian, and English. He is dedicated to the development of comprehensive methods for accurately defining the value of intellectual property.

Highlight assignments conducted by Mr. Parr have included the valuation of the Dr. Seuss copyrights and the patent portfolio of AT&T. Mr. Parr also has conducted valuations and royalty rate studies for communications technology, pharmaceuticals, semiconductor process and product technology, automotive battery technology, lasers, agricultural formulations, biotechnology, computer software, drug delivery systems, medical products technology, incinerator feed systems, camera technology, flowers, consumer and corporate trademarks, motivational book copyrights, and cosmetics. His opinions are used to accomplish licensing transactions, acquisitions, transfer pricing, litigation support, collateral-based financing, and joint ventures.

Mr. Parr has written 24 articles that have been published in various professional journals. He has spoken at over 30 conferences regarding the value of technology, including those sponsored by the World Intellectual Property Organization in Singapore and in Lima, Peru. He also has testified about the value of companies and intellectual property over 40 times at deposition trial or for arbitration.

Mr. Parr has a master's in business administration from Rutgers University (1981); a bachelor of science degree in electrical engineering from Rutgers University (1976); and coursework toward a PhD in the International Business Management Program at Rutgers University. His professional designations include Chartered Financial Analyst (CFA) from the Association for Investment Management and Research and Accredited Senior Appraiser (ASA) of the American Society of Appraisers.

Among Mr. Parr's writings are five books published by John Wiley & Sons, Inc. and three books published by IPRA, Inc. His Wiley books include Valuation of Intellectual Property and Intangible Assets, third edition; Intellectual Property: Licensing and Joint Venture Profit Strategies, second edition; Intellectual Property Infringement Damages: A Litigation Support Handbook, second edition; Investing in Intangible Assets; and Corporate Strategies for Maximizing Value. His books published by IPRA, Inc. include Royalty Rates for Pharmaceuticals and Biotechnology, fifth edition; Royalty Rates for Technology, third edition; and Royalty Rates for Trademarks and Copyrights, second edition.

Gordon V. Smith is chairman of AUS, Inc. and president of AUS Consultants. He has advised clients in valuation matters for over 40 years. His assignments have included appraisals of nearly every type of tangible and intangible property as well as consultations regarding royalty rates, economic life, and litigation damages for intellectual property. Clients have been many of the Fortune 500 and major international law firms as well as research and educational institutions, regulatory bodies, and the U.S. government.

Mr. Smith, a graduate of Harvard University, has lectured on valuation subjects throughout the Americas, in Europe, and extensively in Asia. He has taught university-level courses at Singapore Management University and conducted seminars for the IP Academy (Singapore), the Chinese government, the U.S. Treasury Department, and numerous private organizations and corporations, and has lectured in various countries for the World Intellectual Property Organization.

He is a member of the Advisory Committee on Intellectual Property and Board of Trustees of Pierce Law, whose intellectual property curriculum is nationally recognized. He is also an adjunct professor there and a regular guest lecturer. An active member of the International Trademark Association, Mr. Smith is also a member of the Licensing Executives Society. His writings include many professional papers and articles that have appeared in publications here and abroad.

He has authored four books published by John Wiley & Sons, Inc.: Corporate Valuation: A Business and Professional Guide; Trademark Valuation; Valuation of Intellectual Property and Intangible Assets (coauthor); Intellectual Property: Licensing and Joint Venture Profit Strategies (coauthor); and has contributed to several other Wiley intellectual property and tax reference books.

ABOUT THE CONTRIBUTORS

William J. Murphy is a professor of law at the Franklin Pierce Law Center in Concord, New Hampshire, where he also serves as chair of the commerce and technology graduate programs. He has extensive experience in the legal, business, and academic fields. Prior to his academic career he worked as an antitrust trial attorney for the Federal Trade Commission in Washington, DC and as a senior trial consultant to the FTC Regional Office in Boston, Massachusetts. Professor Murphy earned an MBA and a PhD at the Harvard Business School. His business ventures include serving as a contributing founder of two companies—one developing educational software and the other providing international chemical and pharmaceutical companies with clinical trials management and regulatory licensing services. Most recently he has served on the board of directors for an intellectual property management company. He has taught courses in both the business and legal fields at Harvard University, University of Massachusetts—Boston, and Dartmouth College. He was a founding partner in a Concord law firm specializing in technology-based business law and intellectual property, and is currently Of Counsel to Devine, Millimet, and Branch in Manchester, New Hampshire. Each summer, Professor Murphy heads the eLaw Summer Institute in Cork, Ireland, at University College Cork, where he was a Visiting Fulbright Scholar.

Debora Rose Stewart, CPA, is a managing director with Invotex Group's Intellectual Property Management & Finance practice and leads the firm's IP advisory services, including licensing and license compliance, technology evaluation, asset management, and enforcement of IP rights. She has more than 20 years of experience working with corporations, universities, and their counsel on intellectual property matters. Ms. Stewart's experience includes intellectual property compliance, valuations, and licensing consulting as well as reasonable royalty and lost profit damage calculations in patent, trademark, and copyright infringement matters. In addition, she developed the proprietary Royalty Reporting Process™ to help clients manage royalty reporting and revenue and the Audit Indicator™, a selection tool to identify licenses that should be audited. Ms. Stewart has worked with clients in a wide range of industries, from computer graphics and biotechnology to consumer goods. She has authored several articles as well as given presentations and expert testimony on related topics. Ms. Stewart has been a member of the faculty of the Licensing Executive Society's Professional Development Series. She is a member of the American Institute of Certified Public Accountants, Association of University Technology Managers, International Licensing Industry Merchandisers' Association, Maryland Association of Certified Public Accountants, and the Licensing Executives Society. Ms. Stewart holds a BBA in Industrial Management from Kent State University and an MBA in Finance and Marketing from Case Western Reserve University.

Judy Ann Byrd, CPA, CIRA, is a director with Invotex Group's Intellectual Property Management & Finance practice. She has more than 15 years of experience providing a variety of accounting and consulting services, including litigation, valuation, and royalty compliance services related to intellectual property matters. Ms. Byrd's intellectual property experience includes litigation-related damage valuations as well as royalty audits for IP licensors. Ms. Byrd also has more than seven years of experience providing tax, accounting, and auditing services (including royalty audit) to clients in manufacturing, construction, and property management, among other industries. She began her career as an accountant and auditor specializing in business start-ups and small to medium-size business development. Ms. Byrd has coauthored several articles and frequently speaks on intellectual property topics. She is a member of the American Institute of Certified Public Accountants, Association of University Technology Managers, Maryland Association of Certified Public Accountants, the Intellectual Property Owners Association, and the Licensing Executives Society. She has a BA from the University of Pittsburgh and a master's in business administration from the University of Baltimore. Ms. Byrd is a CPA in Maryland and Pennsylvania. She is also a Certified Insolvency and Restructuring Advisor.

Ron Carson, regional sales director at Innovation Asset Group, is responsible for new accounts, channel development, and solution sales. Before joining IAG, he was the vice president of strategy and marketing for an intellectual property monetization firm based in Cary, North Carolina. Prior to that, he was the director of marketing for HP Industry Solutions, including Healthcare, Banking, Telecommunications, and e-Commerce.

Richard J. Gering, CLP, is a principle at Asterion Consulting. An economist by training, over the last 20 years Dr. Gering has provided economic consulting and expert witness assistance, including economic and statistical analysis related to commercial disputes with an emphasis on intellectual property disputes such as patent, copyright, trademark, trade secrets, and Lanham Act matters. Dr. Gering has testified on economic damages in state and federal courts across the United States as well as in arbitrations. Dr. Gering is a member of the American Economic Association and the Licensing Executives Society. For the last 11 years, Dr. Gering has been an adjunct lecturer at the Villanova University School of Law where he teaches a class in economic damages.

PREFACE

This supplement contains the following:

Chapter 1A, “Intellectual Property Landscape,” reexamines the ever-changing role of intellectual property (IP) in business, among institutions, and in the world. The explosive growth of patented technologies, trademarks, copyrights, and trade secrets that we cited in the original volume continues unabated, but in some new directions. Non-U.S. countries and corporations are growing their own intellectual property at an increasing rate in order to remain competitive in world markets. Among major corporations, intellectual property now comprises over 80% of total enterprise value. Interestingly, intellectual property value is now distributed over the whole spectrum of business and is no longer so highly concentrated in a few industries. This chapter also discusses what is happening in the vital world of licensing, which now produces over $100 billion annually just within the United States. There is also an extensive discussion of current licensing strategies and the underlying reasons for the growth or licensing activity.

Chapter 1B, “U.S. Congress Flirts with Disaster,” discusses elements of the Patent Reform Act of 2007 and the potential for great harm to the U.S. economy. With the U.S. economy highly dependent on intellectual property, changing the patent rules is dangerous. This chapter outlines some of the pitfalls with which Congress is flirting.

Chapter 12A, “Risk-Adjusted Cash Flows,” presents an alternate method for capturing risk when valuing technology. Traditionally, when using an income approach for valuation, such as a discounted cash flow analysis, uncertainty related to cash flows is accounted for in the discount rate. For an emerging technology where many questions remain, an enormous discount rate of 20%, 30%, or more might be used. Such a rate is attempting to account for risks beyond inflation and general business risks. In addition, such a rate is attempting to reflect the added risks associated with possible outright failure of the new technology or possible market rejection of the technology if it is ultimately commercialized. The alternative approach presented in this chapter addresses risk in two parts. First, the discount rate used in the alternate method is one that reflects inflationary and traditional business risks associated with the developer of the new technology. The second element of this method addresses risk specific to the new technology by establishing a probability factor that is directly applied to the cash flows. The probability factor reflects an organization's experience with development projects and directly reflects the chances of developing successful technology that the market will accept. The results of the traditional and alternate methods for risk assessment may be the same, but accounting for risk with a probability factor can in some instances provide a more reliable conclusion. The probability factor forces those conducting the valuation to directly identify development risks and directly investigate chances for success.

Chapter 12B, “Dealing with Risk and Uncertainty in Intellectual Property Valuation and Exploitation,” was contributed by William J. Murphy, professor of law at Pierce Law and an expert on the interplay of business principles and intellectual property law. This chapter recognizes that at the core of all valuation methods and exploitation strategies is the necessity to analyze the future economic benefits associated with intellectual property rights. In turn, that analysis rests on forecasts. Forecasts of revenues, royalties, and commercialization costs, as well as operating, advertising, and overhead expenses, are just a few of the line items that demand attention in this process. Professor Murphy presents a discussion of several forecasting methodologies currently in use, including decision tree analysis, Monte Carlo techniques, and options analysis. He does so in a form that can be readily understood and remains focused on the use of these tools as they relate to the process of valuing and exploiting intellectual property.

Chapter 14A, “Rights of Privacy, Publicity, and Celebrity Persona,” discusses valuation issues associated with celebrity persona. Immense value is associated with the entertainment industry and certain individuals in that industry. Many movie stars are paid premium fees to appear in a movie just because their presence in the film is known to guarantee a minimum of ticket sales. Beyond celebrities, though, is significant value associated with images and even sounds. Transitions in this asset category are growing and often are the subject of litigation. This chapter identifies special issues associated with these unique assets.

Chapter 14B, “Intellectual Property and Intangible Asset Volatility,” shows that the value of intellectual property is not immune to economic downturns.

NEW Chapter 23A, “Determining Royalty Rates,” is an updated and expanded chapter about the different methods that are used to determine a royalty rate for licensing. Rules of thumb, surveys, analysis of databases, price differential analysis, and discounted cash flow analysis are all discussed.

Chapter 27A, “Royalty Rates and License Fees for Technology,” shows the frequency of different levels of royalty rates and the percentage of license deals that include up-front license fees. This chapter is based on a research study undertaken to expand and enhance the database of license agreement financial terms maintained by IPRA, Inc. Some interesting results of the study included confirmation that a royalty of 5% of sales is most common and can be found in almost all of the industries studied. Also discovered was that up-front license fees are not common, and when they are part of a deal they are dominated by cash-only payments without the payment of stock for the licensor.

Chapter 27B, “License Fees and Royalty Rate Frequency for Technology,” is an update to Chapter 27A based on new information published in the fifth edition of Royalty Rates for Technology published by IPRA, Inc.

Chapter 27C, “Royalty Rates and License Fees for Pharmaceuticals and Biotechnology,” shows the frequency of different levels of royalty rates and information about license fees for pharmaceuticals and biotechnology. This chapter is based on a research study undertaken to expand and enhance the database of license agreement financial terms maintained by IPRA, Inc.

Chapter 27D, “License Fees and Royalty Rates for Technology Update,” is an update to Chapter 27B based on new information published in the sixth edition of Royalty Rates for Technology published by IPRA, Inc.

Chapter 33A, “The Magnitude and Meaning of Royalty Misreporting,” by Debora R. Stewart, CPA, and Judy A. Byrd, CPA, of Invotex Group's Intellectual Property Management and Finance practice, highlights a critical element of IP management too often neglected. After development of intellectual property and significant time and money in licensing negotiations, the actual collection of royalties that are due is not thoroughly managed. In their work, Ms. Stewart and Ms. Byrd have found disturbing errors in reporting and paying royalties. Sometimes the errors are caused by outright fraud by a licensor. More often, though, errors occur from miscalculations, incorrect interpretation of license agreements, inadvertent omission of products from the royalty base covered in the license agreement, and several other honest but costly mistakes. In this chapter the most common errors are identified, along with lessons that can be implemented in your next license agreement so all royalties that are due a licensor are actually collected.

Chapter 33B, “Intellectual Property Audit and Management,” by Ron Carlson, discusses the importance of knowing about your intellectual property so it can be integrated into business strategies. The chapter explains the importance of conducting an IP audit and the strengths and weaknesses of the different methods that are currently being employed. Software solutions are discussed, including the enterprise software product offered by his firm, Innovation Asset Group.1

Chapter 35A, “Quantifying Reasonable Royalties: The Entire Market Value Rule,” by Richard J. Gering, PhD, CLP, discusses new cases that are increasing the importance of considering the entire market rule when defining the royalty base and calculating damages based on a theory of reasonable royalties.

Chapter 35B, “New Guidance about Apportionment,” cites Summit 6 v. Samsung and an apportionment methodology successfully used to calculate a reasonable royalty theory for damages. The method apportions an infringing smartphone's price to a percentage of the phone's price attributed to a camera feature, then apportions the price of the camera feature based on customer usage. Profits attributed to the final price apportionment are allocated and serve as the basis for a per unit royalty.

Chapter 35C, “Lost Profits for New Businesses,” considers the unique challenges associated with determining lost profits for a new business that has yet to show profits from its operations.

Chapter 45, “New Measure of Infringement Damages—Future Damages,” discusses some considerations needed to address the ­question raised by eBay Inc. v. MercExchange that a permanent injunction is no longer a guarantee. The alternative may be an award of royalties to be paid on future sales. This new chapter considers whether the royalty rate applied to future sales should be different from the rate applied to past infringement sales.

Chapter 45A, “Continually Evolving Patent Damages,” discusses recent decisions and their impact on the future of infringement damages. As judges make decisions and appeals courts affirm or remand, the determination of patent infringement damages is continually refined.

New Chapter 45B, “The 25% Rule Is Dead,” discusses how the 25% rule is no longer recognized by the federal courts as a method for determining a reasonable royalty rate for calculating infringement damages.

Appendix G, “More Sample Royalty Rate Information,” presents royalty rate data developed from a recent research study completed to expand and enhance our database. This appendix presents some interesting results of the study. The information in our database has been collected from reliable sources from September 1990 through December 2009 and is published in Royalty Rates for Technology, fourth edition.

Appendix H, “Trademark Royalty Rates,” presents some of the new royalty rate data discovered while creating Royalty Rates for Trademarks and Copyrights, fourth edition.

Appendix H-A, “More Trademark and Copyright Royalty Rates,” presents more new royalty rate data discovered while creating Royalty Rates for Trademarks and Copyrights, fifth edition.

Appendix I, “Pharmaceutical and Biotechnology Royalty Rates,” presents some of the new royalty rate data discovered while creating Royalty Rates for Pharmaceuticals and Biotechnology, seventh edition.

Appendix J, “Telecommunications Royalty Rates,” focuses on royalty rates in the industry. The telecommunications companies are frequently under attack with patent infringement lawsuits. The constant advancement of services and equipment inevitably steps on someone's patented invention.

Appendix K, “Electrical and Energy Royalty Rates,” features royalty rates from real licensing deals for the electrical and energy industry from the IPRA, Inc. database titled Royalty Rates for Technology, fifth edition.

PART 1

VALUATION

In this, the first major section of the book, the reader will find the principles that are the foundation of the sections that follow. In order to quantify the value of intellectual property and intangible assets, it is necessary to fully understand their nature and economic characteristics. It is clear that these assets do not create value by themselves. They must be teamed with other assets in order to be economically exploited. Therefore, we discuss the relationship between intellectual property and intangible assets and the business enterprise in which they reside or in which they will be placed for exploitation.

Valuation is not a crystal ball exercise. Because it is firmly based in return on investment principles, this section presents these underpinnings before moving on to the specific valuation techniques. With that grounding, we then proceed to discuss some finer points as they apply to special business situations, embryonic technology, and international issues.