Valuation and Pricing of Technology- Based Intellectual Property Presented to the
Sault Ste. Marie Innovation Centre Workshop on Intellectual Property by
Michael M. Avedesian 11 December 2007 1
“….it is the sign of an educated mind not to expect more certainty from a subject than it can possibly provide…” Aristotle
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Pythagorean Theory
phronesis
Artistic Interpretation
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Business Reasons
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Drug Development Process 5,000-10,000 compounds screened
Discovery
250 compounds enter pre-clinical
Preclinical Testing Phase I
80% pass Phase I
Phase IIA
30% pass Phase II
Phase IIB
80% pass Phase III
Phase III
Value Creation
5 compounds go to Phase I
NDA One compound makes it to Market
Market
Source: Ernst&Young Convergence: The Biotechnology Industry Report, 2000 11
Risk vs. Valuation Correlation of a Drug $825
94%
Probability of Failure
Development Risk
Valuation
Market Valuation of a US$275M (peak sales) product
$624
80%
68%
$311 $176
$115 $15
Pre- Clinical
Source: MDS
57%
$61
Phase I
Phase IIA
Phase IIB
44%
Phase III
13%
NDA Filing
0% Market & Manufacturing
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Commercialization Strategy
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Costs of Commercialization
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Six Methods of Technology Valuation and Pricing 1. Industry standards
1. Find as many relevant and comparable agreements
2. Rating/ranking
2. Refinement of 1. with formal differentiation
3. Rules of thumb
3. Generalizations from previous agreements. The 25% rule
4. DCF using RAHR
4. Magnitude and timing of future cash flows, risk adjusted
5. Monte Carlo
5. Refinement of 4. using probability analysis of estimated ranges to arrive at a statistical prediction
6. Auction
6. Create a market for the specific opportunity
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Royalty Royalty $ = royalty rate % x royalty base $
Royalty base = (revenue received by the licensee for sales of products or services incorporating the IP) – (specified deductions which may include shipping, insurance, returns, allowances etc.) Royalty base factoring (stacking) when IP contributes to or affects only a part of the overall product 20
Royalty Base > Revenues
Buyer has non-competitive ink jet printer technology with excellent inks Seller has excellent printer technology Because of the competitive market, margins on printers very low whereas margins on inks very high Seller’s printer technology will allow buyer to increase market share thus enabling greater high margin sales of ink because consumers will preferentially buy ink from the printer manufacturer. 21
Exclusivity and Size of the Licensed Market
Do I license exclusively at a higher royalty rate to one licensee who in turn will have a modest market penetration or….. Do I license non-exclusively at a lower royalty rate to multiple licensees who in aggregate may reach close to 100% of the license addressable market Depends on market conditions (sole vs. multisource) Stanford and UCSF licensed its Cohen-Boyer gene splicing patent to over 500 companies and received $250M in royalties over the lifetime of the patent in the USA market 22
Cost as a Method?
With few exceptions, seller’s costs are irrelevant What the seller bought by investing in R&D and IP protection was an option to a business opportunity that would result from an R&D success 23
Method 1.- Industry Standards
Database of previous deals in sufficient number and specificity Notion of “norms”, however exceptions can and do occur Characterized by two factors category & quality
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The Universal Paradox
How can different things be comparable? how can any previous agreement be “like” my opportunity? There are so many unique dimensions to a technology deal Although no two deals are ever exactly alike, behind the differences there are certain business universals such as projected sales, profit, required resources investment, overall perceived risk and uncertainties that guided the parties in reaching the terms of their agreement 25
Industry Standards Three Variants i) Historical i) Market or comparable approach transactions ii) Paradigm licensing ii) Use of widely rates accepted standard rates and terms iii) Rating/ ranking method 2.
iii) Historic agreements using systematic comparisons
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Sources of Information 1. 2. 3. 4. 5. 6. 7. 8.
Surveys Proposed or established norms Shopped term sheets, price lists News, publications, and the licensing society/ practitioner network Journals, proprietary databases, reports and consultants Published agreements Court cases Lifetime and organizational learning 28
Surveys
http://www.cptech.org/ip/health/roy alties http://www.mediuspublications.com/ Resources/Royalty%20Rates%20Cur rent%23B4F9C.pdf http://www.royaltystat.com/ http://www.lesi.org/lesnouvelles/ 29
Proposed or Established Norms
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Shopped Term Sheets & Price Lists
Term sheets not generally available, however over time licensing practitioner may be exposed to many of these. Price lists available e.g. Lucent, Intel, IBM
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News Sources
Wall Street Journal, Business Week, New York Times Licensing Economics Review (LER) Windhover Information (Windhover.com)
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Journals, Proprietary Databases, Reports, Consultants
Les Nouvelles- LES • http://www.lesi.org/lesnouvelles
Journal of AUTM, AUTM data base Recombinant Capital-Recap.com (Mark Edwards) InteCap (Daniel McGavock) bought by CRA International Royaltysource.com 35
Published License Agreements
Large population of published agreements DuPont’s license from the University of Houston on superconductor material Intuitive Surgical Inc. license from IBM for the use of an endoscopeSEC filing 36
Court Cases
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Lifetime and Organizational Learning
One’s own experience and the accumulated experience at OTT over time Over 220 licenses executed by McGill of which over 150 are still active
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Method 2.- Rating/ Ranking
Sometimes called “factor analysis” Rating wrt benchmark reference 5 elements that comprise the rating/ ranking method 1. 2. 3. 4. 5.
Scoring criteria Scoring system Scoring scale Weighting factors Decision table 39
Scoring Criteria
Market size, specifically the target market Product margins IP strength IP breadth Stage of development External environment trends Etc. 40
Scoring System
1 to 5 point system where 5=best, 1=worst and 3=equivalence to the reference or standard Likkert scale 1-7 Metric mindsets 0-10 Obsessive compulsives 0-100
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Scoring Scales
Subjective and objective Subjective- experts or expert panelsconsensus or voting Objective- numerical scales derived from numerical examples- derived scales called “influence coefficients”
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Weighting Factors
Means of assigning a higher importance to some criteria and a lower importance to others Danger of counting same criteria multiple times e.g. market size, projected sales, likelihood of use in other applications, likelihood of sales in other countries….this is tantamount to counting market size 4 times 43
Decision Table Criteria
Score (1-5)
Weight (1-3)
Weighted Score
1. Market size
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2
6
2. Product margins
5
3
15
3. IP strength
4
2
8
4. IP breadth
3
3
9
5. Stage of development
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3
6
6. External environment
3
1
3
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Calculation
Weighted score sum= 47 Had all the scores been 3 (reference), the total would have been 42 Subject opportunity is perceived to be 47/42=1.12 or 12% better than the comparable
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Method 3.- Rules of Thumb
Deal equity considerations • Total value (or gain)
Cost savings or new product/ service sales
• Apportionment (or split)
25% rule- 25% to seller/ 75% to buyer
• Investment • Risk
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Guidelines
25% of what?..... • Cost savings attributed to the technology • New sales….. use EBIT
Stacking- apportionment in the context of the enabling technologies
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Method 4.- Discounted Cash Flow
DCF method of valuing a license is similar to valuing companies and their stock NPV of all the future “free” cash flows from earnings RAHR decreases with time to reflect reduction in risk 48
Risk Adjusted Hurdle Rate Characterization
RAHR %
Risk free, GIC,principle protected notes, ING savings
2-3
Very low risk, building a duplicate plant, existing product
WACC, 10-15%
Low risk, using well known technology for new product
20-30%
Moderate risk, technology improvements for new product
25-35%
High risk, new technology for new product to existing markets
30-40%
Very high risk, new technology for new product to new markets Extremely high risk, “wildcatting” start-up company
35-45% + 50% +
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Method 5.- Monte Carlo
Refinement of the DCF method Probabilistic technique used extensively in engineering and business modeling in support of decision making Crystal Ball by Decisioneering Inc. at www.decisioneering .com (Oracle) @Risk by Palisade Corporation at www.palisade.com 50
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How Monte Carlo Works….
Instead of prescribing a specific value for a cell in a spreadsheet model, prescribes a mathematical model of reality Probabilistic because it is based on a prescribed randomness or distribution
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Prescribed Distributions
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An Example
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Method 6.- Auctions
Auctioning and Industry Standards method based on direct market determinations Industry Standards method based on previous transactions similar to.. Auction Method uses existing and pending offers for precisely the technology being valued Because buyers are at a disadvantage, requires special circumstances to induce prospective buyers to “play” 56
Auctions Are Feasible When….
The bargaining power of the seller is high The technology can be apprehended quickly Due diligence is straightforward and clear Licensing opportunity is so compelling that passing it up is worse than bidding High competitive rivalry
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